This opinion represents the views of the Office of the State Comptroller at the time it was rendered. The opinion may no longer represent those views if, among other things, there have been subsequent court cases or statutory amendments that bear on the issues discussed in the opinion.

CITIES -- Tax Limit (exclusion for capital appropriations financed with non-property tax revenues); (exclusion for pay-as-you-go financing)
CONSTITUTIONAL LAW -- Tax Limit (exclusion for capital appropriations financed with non-property tax revenues); (exclusion for pay-as-you-go financing)
FEES -- Tax Limits (exclusion from tax limit of capital appropriations financed with user fees)
MUNICIPAL FUNDS -- Appropriations and Expenditures (exclusion from tax limit of capital appropriations financed with non-property tax revenues)
WATER RENTS -- Tax Limits (exclusion for capital appropriations financed with water rents)

STATE CONSTITUTION, ARTICLE VIII, §§10, 10-a, 11(b): Generally, a city may exclude from its constitutional tax limit the amount of direct budgetary appropriations for capital purposes made from its water fund, even when the fund is comprised exclusively of user fees.

You ask whether a city may exclude from its constitutional tax limit amounts appropriated from its water fund for certain capital purposes. We are advised that the city maintains separate accounting records for its water fund and that the water fund is comprised exclusively of user fees.

Article VIII, §§10, 10-a and 11 of the State Constitution, collectively, establish and delineate limits on the amount of real property taxes that may be imposed annually by counties, cities and villages. Insofar as here relevant, Article VIII, §10 provides that:

Hereafter, in any … city … described in this section, the amount to be raised by tax on real estate in any fiscal year, in addition to providing for the interest on and the principal of all indebtedness, shall not exceed an amount equal to the following percentages of the average full valuation of taxable real estate of such … city …, less the amount to be raised by tax on real estate in such year for the payment of the interest on and redemption of certificates or other evidence of indebtedness described in paragraphs A and D of section five of this article, or renewals thereof:

*         *          *

(b) any city of one hundred twenty-five thousand or more inhabitants according to the latest federal census, for city purposes, two per centum;

(c) any city having less than one hundred twenty-five thousand inhabitants according to the latest federal census, for city purposes, two per centum; * * * (Emphasis supplied).

Thus, Article VIII, §10 limits the total amount of real property taxes that may be imposed annually by a city to: (1) two percent of the "average full valuation" of the "taxable real estate" of the city (commonly referred to as the "tax limit") plus (2) the amount required to pay debt service on "all" of the city's indebtedness (commonly referred to as being raised "outside" the tax limit), minus (3) the amount required to pay the debt service on certain short term obligations (Article VIII, § 5[A]) and certain pension bonds (Article VIII, §5[D]).

Article VIII, §10-a, in effect, reduces the total amount of property taxes that may be imposed annually under Article VIII, §10. Article VIII, §10-a provides in pertinent part that:

For the purpose of determining the amount of taxes which may be raised on real estate pursuant to section ten of this article, the revenues received in each fiscal year by any … city …from a public improvement or part thereof, or service, owned or rendered by such … city … for which bonds or capital notes are issued after January first, nineteen hundred fifty, shall be applied first to the payment of all costs of operation, maintenance and repairs thereof, and then to the payment of the amounts required in such fiscal year to pay the interest on and the amortization of, or payment of, indebtedness contracted for such public improvement or part thereof, or service. The provisions of this section shall not prohibit the use of excess revenues for any lawful … city … purpose. The provisions of this section shall not be applicable to a public improvement or part thereof constructed to provide for the supply of water.

This provision was added to the Constitution in 1949 for the purpose of "[preventing] a municipality from circumventing the real estate tax limit by levying taxes outside of the tax limit for debt service on an improvement and at the same time using the revenues from the improvement for general municipal operating expenses." (1953 NYS Legislative Annual, p 312; see also First Report of the Comptroller's Committee on Constitutional Debt and Tax Limitations and City-School Fiscal Relations, March 3, 1948, p 5; The New York State Constitution - A Reference Guide, Galie, 1991, p 207). Article VIII, §10-a has also been described as accomplishing this purpose by, in effect, "[requiring] revenues of municipal improvements to be used first for the payment of operating expenses, and then the debt service, for the improvement." (1953 NYS Legislative Annual, supra). The effect is "to reduce the real estate tax levy for the payment of annual debt service thereon by the amount of revenues received in excess of the operating costs of the improvement." (First Report of the Comptroller's Committee on Constitutional Debt and Tax Limitations and City-School Fiscal Relations, supra).

In other words, the effect of Article VIII, §10-a is to establish an irrebuttable presumption that, to the extent that a revenue-producing improvement generates revenue in excess of its costs of operation, maintenance and repairs, the excess revenue, rather than real property taxes, is used to pay the debt service on any bonds or capital notes issued after January 1, 1950 to finance the improvement. Because the debt service is considered paid from non-property tax revenue, it is not paid from an "amount to be raised by tax on real estate" for debt service within the meaning of Article VIII, §10. Therefore, Article VIII, §10-a operates to reduce the total amount of real property taxes that may be imposed for debt service "outside" the tax limit, by the amount of the non-property tax revenue generated by a revenue-producing improvement and available to pay debt service on the indebtedness issued to finance the improvement.

Article VIII, §10-a, however, by its terms, "shall not be applicable to a public improvement or part thereof constructed to provide for the supply of water"¹ . We have expressed the opinion that the effect of the exception is to permit the total amount of real property taxes that may be imposed for debt service "outside" the tax limit, to include amounts for debt service on indebtedness issued to finance water supply improvements, without any reduction for non-property tax water revenue, even if the non-property tax revenue is earmarked for payment of the debt service (1979 Opns St Comp No. 79-386, unreported; 1973 Opns St Comp No. 73-1100, unreported).

Unlike Article VIII, §10-a, Article VIII, §11 operates to increase the total amount of property taxes that may be imposed annually under Article VIII, §10. Insofar as here relevant, Article VIII, §11 provides:

(b) Whenever any … city, other than the city of New York, … provides by direct budgetary appropriation for any fiscal year for the payment in such fiscal year or in any future fiscal year or years of all or any part of the cost of an object or purpose for which a period of probable usefulness has been determined by law, the taxes required for such appropriation shall be excluded from the tax limitation prescribed by section ten of this article unless the legislature otherwise provides. (Emphasis supplied).

The phrase "period of probable usefulness" refers to the provision in Article VIII, §2 of the Constitution prohibiting certain local governments from contracting indebtedness "for longer than the period of probable usefulness of the object or purpose for which such indebtedness is to be contracted, to be determined by or pursuant to general or special laws …" (see also Local Finance Law §11.00[a])² . Therefore, under Article VIII, §11(b), in the absence of State legislation to the contrary (and we are not aware of any such legislation applicable in the instant situation), the "taxes required" for "direct budgetary appropriations" for objects or purposes that a city could have financed through the issuance of indebtedness may be raised "outside" the tax limit.

Article VIII, §11(b) was added to the Constitution in 1951 to facilitate the use of what is commonly referred to as "pay-as-you-go" financing for capital improvements³ . Prior to the adoption of Article VIII, §11(b), it was thought that Article VIII, §10 encouraged the financing of capital improvements through the use borrowing, rather than pay-as-you-go financing, for the following reason:

If the locality voluntarily pays for the improvement by a current budgetary appropriation, the taxes therefor encumber the tax limit and consequently reduce the amount which can be raised for operating expenses. If the project is financed voluntarily by either a short-term or a long-term borrowing, the cost may be raised by taxes outside the tax limit, leaving for current operating expenses, the full amount which can be raised within the tax limit. Obviously, this arrangement encourages municipalities to finance projects by borrowings instead of by current budgetary appropriations. (Fourth Report of the Committee on Constitutional Debt and Tax Limitations and City-School Fiscal Relations, October 8, 1951, p 13-14).

The purpose of Article VIII, §11(b) was to facilitate the use of pay-as-you-go financing by eliminating the above-described constitutional incentive to finance capital improvements through borrowings:

For counties, cities, (other than New York City), villages and school districts subject to constitutional tax limits, the [Committee on Constitutional Debt and Tax Limitations and City-School Fiscal Relations] suggests that where direct budgetary appropriations are made for objects or purposes for which bonds may be issued, the real estate taxes therefor be raised outside the tax limit. Under the present provisions of the Constitution, this can be done today if the device of short-term borrowing for capital improvements is used. The proposed amendment eliminates the necessity of such borrowing. (1950 NYS Legislative Annual, p 187).

By its terms, Article VIII, §11(b) does not expressly establish a presumption that the direct budgetary appropriations for the objects or purposes referred to therein are financed from non-property tax revenues, rather than property taxes. Moreover, in our view, such a presumption should not, by implication, be read into Article VIII, §11(b). We reach this conclusion because a similar requirement was not inferred from Article VIII, § 10, prompting the adoption of an express requirement in Article VIII, §10-a. Moreover, Article VIII, §10-a pre-dates Article VIII, §11(b), and the framers of section 11(b) were presumptively aware of the restriction in section 10-a and did not impose a similar restriction.

Thus, in the event that a revenue-producing improvement is financed through a direct budgetary appropriation, rather than through the issuance of indebtedness, there is no constitutional presumption that non-property tax revenues are applied to the payment of the amounts expended pursuant to the direct budgetary appropriation. In the absence of such a requirement, it follows that the amounts expended pursuant to the direct budgetary appropriation may be financed from taxes raised "outside" the tax limit, even if there are sufficient non-property tax revenues to finance the appropriation.

In further support of this conclusion, we note that direct budgetary appropriations for capital purposes are often financed from a city's general fund, which is comprised of both property taxes and non-property tax revenues (e.g. sales taxes). Because the moneys in a city's general fund are fungible, there is no principled way of determining the particular source of revenue financing any given appropriation from the general fund, unless there is some legal requirement, similar in effect to Article VIII, §10-a, requiring a particular revenue to be used only for stated purposes. We are not aware of any such legal requirement applicable in the instant situation (compare 1986 Opns St Comp No. 86-20, p 34, concluding that the amount of direct budgetary appropriations for capital purposes may not be excluded from a local government's tax limit to the extent that the local government received federal or State aid specifically designated and restricted for such purposes; General Municipal Law §453, restricting the use of monies in the "sewer rent fund").

In this instance, the city maintains separate accounting records for its water fund, and the water fund is comprised exclusively of user fees, which makes it clear that direct budgetary appropriations from its water fund for capital purposes will be financed from non-property tax revenues. Nonetheless, in our view, the amount of such appropriations may be raised "outside" the tax limit pursuant to Article VIII, §11(b) for two reasons.

First, the application of Article VIII, §11(b) should not depend on the accounting fund structure chosen by the city from the alternatives available to it under the uniform system of accounts prescribed by this Office pursuant to section 36 of General Municipal Law. Secondly, the city can raise the amount of the capital appropriations "outside" its tax limit pursuant to Article VIII, §11(b) through the perfectly legal expedient of simply transferring the moneys from its water fund to its general fund, and then making the capital appropriations from the general fund. In our view, the constitutional restrictions on raising real property taxes should not be interpreted in a manner that permits them to be so easily evaded.

Accordingly, in our opinion, a city generally may exclude from its constitutional tax limit the amount of direct budgetary appropriations for capital purposes made from its water fund, even when the fund is comprised exclusively of user fees.

April 30, 2004

Mark P. Pattison
Deputy State Comptroller

¹ Although the history of Article VIII, §10-a indicates that "[w]ater revenues have been excepted from the general requirement, not because of any principle of sound finance, but by reason of practical difficulties encountered" (First Report of the Comptroller's Committee on Constitutional Debt and Tax Limitations and City-School Fiscal Relations, supra), we found no indication in the history explaining the nature of the "practical difficulties" giving rise to the water supply improvement exception.

² Local Finance Law §11.00(a) sets forth "periods of probable usefulness" for various objects or purposes for which a municipality, school district or district corporation may generally contract indebtedness. A period of probable usefulness represents a determination by the State Legislature that an expenditure for an object or purpose will generally provide current and future benefits (see Cherey v City of Long Beach, 282 NY 382), and sets the maximum period over which an object or purpose may be financed by the issuance of indebtedness (see, e.g. 1999 Opns St Comp No. 99-11, p 25).

³ Prior to the addition of Article VIII, §11(b), Article VIII, §11 consisted of a single paragraph that was applicable to all municipalities. This paragraph is now contained in Article VIII, §11(a) and is applicable only to the City of New York. Paragraph a generally provides that whenever the City of New York is required "by law" to pay for capital improvements by direct budgetary appropriation or through the issuance of certain short-term indebtedness, the City may exclude from its tax limit the "taxes required" for the appropriation or the redemption of the short-term indebtedness. In such case, the total amount required for the direct budgetary appropriation or for the redemption of the short-term indebtedness is deemed to be long-term indebtedness.