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Runaway Train 

Why is Muni in such a hurry to win approval for a blindingly complex, potentially risky, $1 billion plan to privatize the city's rail fleet?

Wednesday, Apr 10 2002
It's April 2002, and the city budget is suffering the aftereffects of a half-decade of financial fakery that might be called the Internet-Enron flimflam boom. The airport is almost broke; the Municipal Railway budget is coming up millions of dollars short; and the mayor is about to leave office with a legacy of profligacy greater than that of any local public official before him.

Another big-city mayor might retrench, relax, perhaps live out his days playing golf. But if you're San Francisco Mayor Willie Brown, the political sidelines must seem like death. Why else would you bet your entire wad trying to swing a $1 billion corporate tax shelter that would privatize most of your city's municipal rail fleet?

I swear to God, our mayor actually plans to do this.

On Wednesday, April 10, at 12:30 p.m., Brown's Muni staff is scheduled to propose a deal to lease the city's 118 Breda streetcars to a group of private investors in a blindingly complex series of transactions that would create a multimillion-dollar tax shelter for the investors. The proposed transactions involve Enron-style shell companies, tax accounting of dubious legality, what would seem to be significant financial risk on the city's part, and $10 million worth of consulting contracts apparently custom-tailored for our current government's brand of back-scratching and cronyism. The deal includes a brazen clause that might easily be seen as political blackmail; under it, a supervisorial "no" vote on the Muni/Breda privatization deal would cost the city $1.67 million in "broken deal" fees. The proposal even requires the city to give up its right to a jury trial, in the event the arrangement goes sour and a lawsuit is necessary.

The deal balances on the precipice of several optimistic economic assumptions, the most alarming of which supposes that the Italian Breda streetcars Muni owns will remain in good running order for at least 30 years. (Muni's last set of streetcars survived about 15 years and were screechy, rattling, scary wrecks for the final five of that term.) Perhaps most disturbing, however, is the economic argument Muni is making in favor of the deal. The logic rests almost entirely on the tax advantages that private investors would reap, and then share with Muni, if the lease-leaseback becomes reality. This reasoning is similar to that made in favor of a proposed deal the Massachusetts inspector general denounced for creating "opportunities for favoritism, abuse and corruption." In essence, the city government is being asked to lie to the IRS or some other tax-collecting agency, claiming that it is not creating a series of otherwise ephemeral tax shelters for corporate investors -- and then turn around and do precisely that.

Judging from memos, letters, and other documents associated with this proposed deal, Muni General Manager Michael Burns apparently intends to stand before the Board of Supervisors' Finance Committee on Wednesday and maintain that the deal is a nifty, relatively safe way to obtain more than $30 million of free money. Voting for this measure is a vote for a fiscally sound public transit system, he apparently plans to suggest. Other cities do it, and we should too, he'll say. It's the kind of blithe financial exaggeration that has defined an era, spoken on behalf of a mayor who has truly been a man of his time.

Reduced to its essentials, the proposed arrangement amounts to this: Muni will offer federal tax breaks to private investors, mostly foreigners, who would give the city a cash infusion of $33 million. But those essentials are hidden within and behind a blizzard of financial details and assumptions, many of which could undermine the transaction's supposed benefits, depending on events during the next quarter-century.

Under the proposed deal, Muni would lease 118 of the city's Breda rail cars to a group of private investors; that lease would create a corporate tax shelter that would save the investors tens of millions of dollars. For the right to deduct the value of the cars' annual wear and tear, or depreciation, from their federal taxes, the investors would lease the cars back to Muni -- at a $43 million discount. Muni would pay $10 million to lawyers and financial consultants, and keep $33 million for itself. (While a Muni spokeswoman told me she wasn't yet sure how the agency would spend the money, documents suggest it would mostly be used to cover budget shortfalls.)

City records say the investors will not reveal how much they expect to net in the tax-shelter deal, but those records estimate the investor take to be $31 million.

The magic that can move streetcars back and forth on paper and give the city and a set of private investors $60-plus million in profits is, well, somewhat magical. First, Muni's agents recruited a group of investors -- actually subsidiaries of banks from Canada, Spain, Australia, New Zealand, and San Francisco. These investors created six trusts -- financial shells fashioned expressly for this tax maneuver -- that would prepay Muni the entire present value of the 25- to 27-year Breda-car leases, which Muni and the investment banks have valued at $388.1 million. The banks would contribute $102.6 million of their own money and take care of the rest with a loan of $285.5 million from a bank, headquartered in the Cayman Islands, called FSA Global Funding Limited.

Muni would then invest this money in U.S. government bonds, which would be placed in a trust managed by a company called Premier International Funding (an entity whose name I could not find in federal financial filings or a variety of other finance databases). The account would then be insured by Financial Security Assurance (FSA), a Belgian insurer that owns 29 percent of FSA Global Funding Limited.

(Note to S.F. supervisors: When Michael Burns explains that this arrangement is kind of like putting the money in an ordinary old bank account, please watch for facial tics.)

Over the next 27 years, the city would pay the "investors" (which are actually bank subsidiaries) slightly more than $1 billion in original principal and accumulated interest from the "bank account" (which is actually a can of worms) in 27 annual payments (if the deal doesn't first explode in San Francisco's face).

About The Author

Matt Smith


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