General Obligation Bond - Types of General Obligation Pledges

Types of General Obligation Pledges

State law generally sets the conditions under which a local government can issue general obligation debt, including the type of security available.

• A limited-tax general obligation pledge requires a local government to levy a property tax sufficient to meet its debt service obligations but only up to a statutory limit. Generally, local governments already levy a property tax and can choose to use a portion of the property tax it already levies, use some other revenue stream, or increase its property tax by an amount equal to its debt service payments.

• An unlimited-tax general obligation pledge is identical to a limited-tax pledge except that the local government is required to levy a rate at whatever level is necessary (theoretically up to 100%) to recover a shortfall from taxpayer delinquencies. Often an unlimited-tax pledge must follow a voter authorization in which local residents agree to raise property taxes by an amount equal to debt service requirements over the life of the bonds. This feature provides the political advantage of voter affirmation of the use of the bonds and allows the local government to not need to raise its property tax directly or find room in its budget to pay for debt service.

All things being equal, credit rating agencies and investors can consider an unlimited property tax pledge to be materially stronger than a limited-tax pledge. This perception in turn can potentially allow a local government to borrow at a lower interest rate, saving its taxpayers' money over the life of the bonds. This advantage notwithstanding, many states, such as California under Proposition 13, do not allow local governments to issue unlimited-tax general obligation debt without a public vote.