Before the Falls
Church City Council
re: Proposed 8% Water
Rate Increase
Comments of Fairfax
County Resident Kirk F. Randall
July 11, 2011
Mr. Mayor and Council Members,
In 2009 and 2010, your rate study shows a bump in
Administration Fees that were charged to the Water Fund of between $2 million
and $3 million. Why? You don’t say. I’m guessing it’s legal expenses. Let’s see, now. The City extracts at least $58 million from
its water customers. Then, those same
customers are billed $2-3 million to defend in court the City’s indefensible
right to take that money in the first place.
Not only is that plainly unfair, it may violate municipal accounting
principles, and it may be illegal.
Just a few weeks ago you proffered a rate study filled
with assumptions and conclusions, but no substance – no work papers, no access
to your consultants, and a superficial narrative that gives little or no explanation
for the conclusions reached. One glaring
example is your $2.94 million Administration Fee for 2011, which is used as the
foundation for your five year analysis.
The $2.94 million represents a portion of the City’s expenses that is to
be paid to the General Fund for services provided by the City to the water
department. As with the 2009 and 2010
Fees, your study doesn’t even begin to explain its derivation; it seems to have
just appeared out of thin air. The Administration
Fee then grows by $180,000, or 6.1%, in 2012.
But your City Budget grows by only 1.6%.
How can the Administration Fee grow nearly four times as fast as your
City Budget, given that they come from the same pot of money? It can’t be fees you paid your rate
consultants, since most of those costs ended in FY 2011. More legal fees? Or, is it just more illegal profit being transferred
to the General Fund through an inflated Administration Fee? We just don’t know, and you won’t tell. So, until you do tell, I’m going to conclude that
the 2012 Fee increase that exceeds the 1.6% growth rate, which amounts to $132,000,
constitutes prima facie evidence that the City is charging the Water
Fund an Administration Fee that exceeds its actual expenses. In other words, the City is profiting off the
Water Fund. If true, this violates the
City’s own Charter which provides that water rates are to be set so that
“receipts [are] equal to expense.” And Judge
Ney himself stated clearly in his order that “Receipts with a profit do not equal
expenses.”
I cited many other examples of suspicious ratemaking
practices in my June 25 letter to you. I
have decades of utility ratemaking experience, and thought I’d seen it
all. I’m disappointed that you seriously
consider this unsupported and undocumented study to provide the analytic basis
for this rate increase as well as the next four. Moreover, other than your City Charter which
your consultants may have ignored, there were no rules for them to follow. This is because you have steadfastly refused
the request by the Fairfax County Board of Supervisors – made over a year ago –
that you adopt a ratemaking document that sets out rules for you to follow in
proceedings such as this.
Except for Judge Fey, the City of Falls Church answers to
no one when it sets water rates. Since self-regulation
has failed your 110,000 Fairfax County customers, outside supervision is
clearly needed.
Our first order of business will be to lobby our state
representatives to amend the Virginia Code and empower the Virginia State
Corporation Commission to regulate the rates Falls Church charges its Fairfax County
customers.
Second, we will lobby the Fairfax County Board of
Supervisors to exercise its existing authority under the Virginia Code to
regulate the City’s water rates.
And, tomorrow
I will be alerting your accountants – Brown, Edwards & Company – to
scrutinize the City’s accounting records to determine whether it assesses inflated
charges to the Water Fund, and to raise other questionable ratemaking practices. A copy of that letter is attached to the
printed copies of these comments which the City Clerk will give to you shortly.
I will be pleased to put off the mailing
of the letter if you vote tonight to defer approval of the proposed rate
increase until after the Fairfax County Board of Supervisors acts on its
Department of Consumer Affairs’ study, and during that interim period you commit
to provide honest and complete responses to all inquiries regarding the rate
study. This should include open and frank
face-to-face work sessions with your utility staff and their consultants.
In closing, I caution you that if you charge just one
dollar of excessive expenses to your water customers, you are in violation of both
your City Charter and Judge Ney’s order.
Based upon just the one example I cited earlier, approval of the
proposed rate increase could constitute an illegal act which may make you
subject to lawsuits. I encourage you to
consult with the City Attorney and your rate consultants before you proceed
with what could end up being an illegal action.
Thank you for your attention.
Kirk F.
Randall
1823
Deer Drive
McLean,
Virginia 22101
703-425-0210
Attachments:
Virginia Code §
15.2-2111 – Regulation of Sewage Disposal or Water Service
Draft letter/email to
Brown, Edwards & Company LLP
Virginia Code
Section 15.2-2111
Regulation of Sewage
Disposal or Water Service
Any locality may exercise its powers to regulate sewage
collection, treatment or disposal service and water service notwithstanding any
anticompetitive effect. Such regulation may include the establishment of an
exclusive service area for any sewage or water system, including a system owned
or operated by the locality, the fixing of rates or charges for any sewage or
water service, and the prohibition, restriction or regulation of competition
between entities providing sewage or water service.
No power herein granted shall alter or amend the powers
or the duties of any present or future authority created pursuant to the
Virginia Water and Waste Authorities Act (§ 15.2-5100 et seq.) nor confer any
right or responsibility upon the governing body of any locality which would
supersede or be inconsistent with any of the duties or responsibilities of the
State Water Control Board.
DRAFT
– Pending as of Jan 22, 2012
Kirk F. Randall
c/o 1823 Deer Drive
McLean, Virginia
22101
703-425-0210
Mr.
Jason Hartman, Partner
Brown,
Edwards & Company LLP
319 McClanahan
St. SW
P.O.
Box 12388
Roanoke,
VA 24014
jhartman@becpas.com
re: Audit Review of the City of Falls Church, Virginia
Dear Mr. Hartman,
I am requesting that, in the course of your audits of the
City of Falls Church, Virginia (City), you pay special attention to transfers
between what is known as the City’s General Fund and its water utility (Water
Fund). Based upon documents submitted in
the course of a recent rate proceeding, it is my belief that the City’s
accounting transactions between its General Fund and Water Fund may violate the
City’s Charter as well as Judge R. Terrence Ney’s January 6, 2010, order, which
is attached.
Background
The City of Falls Church has for many decades served
water customers outside its city limits in adjacent Fairfax County. The same water rate has been charged to both
City and County customers. The City has
historically charged a water rate that significantly exceeded its actual
expenses and then transferred the excess from the Water Fund to the General
Fund. Since the early 1980s, these
transfers have totaled in excess of $58 million. Ninety-two percent of these transfers were
contributed by rate payers located in Fairfax County. The City residents benefitted through lower
property taxes from the excess revenues that were collected from the Fairfax
County customers and transferred into the City’s General Fund. The net effect
of these is transfers is that for every dollar City residents themselves paid
in excess water revenues, they benefitted by nine dollars contributed from
captive Fairfax County customers.
The City of Falls Church and the Fairfax County Water
Authority (“Fairfax Water,” an affiliate of Fairfax County) have recently engaged
in extensive litigation, leading to Fairfax Circuit Judge R. Terrence Ney’s
January 6, 2010, order, Fairfax
County Water Authority v. City of Falls Church (attached). In that order, Judge Ney found that the
City’s charging water rates in excess of actual expenses violated its own
Charter which provides that water rates are to be set such that “receipts [are]
equal to expense.” Judge Ney also found that
“[T]he positive difference between expenses and revenues constitutes [an
unconstitutional] tax.” Thus, any fees
charged to the Water Fund that exceeds the City’s actual expenses are illegal.
Given that the City of Fairfax has been prohibited from
extracting excess revenues from its water utility since 2009 by Judge Ney, and
since these profits were significant in recent years, it was surprising that
the City proposed a rate increase this spring.
It was even more surprising that the rate increase study included a
“return on equity” component, which was clearly an illegal profit that violated
Judge Ney’s order. When this fact was
brought to the City’s attention, it directed its consultants to craft a revised
study that excluded the illegal return on equity component, but yielded the
same cumulative five-year 34% rate increase as did the prior now-discredited
study. In the short period of time since
the studies were released, the City was asked many questions about assumptions
underlying the study. It is my
understanding that, while claiming “transparency,” the City has so far refused
to respond to all requests for information.
Discussion
My initial review of the rate study (attached) indicates
areas where the City may be violating its Charter as well as Judge Ney’s order.
If true, the City Council has
implemented an illegal rate increase.
These concerns involve the same issues addressed in Judge Ney’s order - that
is, the illegal transfer of funds from the City’s water utility rate payers to
the General Fund. And, since these
involve transfers between accounts maintained by the City of Falls Church, they
should be evaluated in the course of your audits.
I am asking you to audit the accounts of the City of
Falls Church in the course of your 2011 review to ensure compliance with the
City Charter, Judge Ney’s order, applicable law, and accounting standards. I am asking you to also perform an
investigation of 2009 and 2010, since excess fees may have been charged to the
Water Fund during that time. I also ask
you to institute a program to similarly scrutinize the City’s accounting for
its Water Fund forever.
As noted above, the City of Falls Church has refused to
provide explanations for the assumptions and calculations contained in the May
27, 2011, study. You will need access to
the consultant’s work papers as well as those of the City in order to perform
the audit. I draw your attention to the
following issues that came out of my initial review of the rate study. I am certain that more will come to you attention
when you get access to the supporting documentation.
The 2011 Water Fund
Administration Fee of $2.94 million, which forms the basis for the rate study’s
five year analysis, is unsupported. The $2.94 million represents a portion of the
City Budget that is to be paid by the Water Fund for services provided to the
utility department. But the study
doesn’t even attempt to explain the $2.94 million; it just seems to have been
pulled out of thin air. The Fee grows by
$180,000, or 6.1%, in 2012. The City
Budget, in contrast, grows by only 1.6%.
How can the Administration Fee possibly grow nearly four times as fast
as your overall City Budget, given that they come from the same pot? Ignoring for the moment that the 2011
starting figure is totally made-up, at least $132,000 of the $180,000
difference (6.1% of the $2.94 million less 1.6%) constitutes prima facie
evidence that the City is charging the Water Fund an Administration Fee that
exceeds actual expenses; in other words, a profit. This is clearly illegal since it violates the
City’s own Charter which provides that water rates are to be set such that
“receipts [are] equal to expense.” And,
Judge Ney himself stated clearly in his order that “Receipts with a profit do
not equal expenses.” The City may charge
the Water Fund only actual expenses. Since
there is no basis for the amount of the Administration Fee in the first place,
it must be developed using a comprehensive cost allocation study performed by
an independent entity. I advise
you to consult with the City of Fairfax for how this may be done.
In order to build up a $4.5
million Operating and Maintenance Expenses Reserve (i.e., “rainy day” fund), an
unsubstantiated $1.5 million has been included in annual rates. Moreover, the calculation of the year-to-year
reserve balance starts in 2012 with $5.5 million “in the hole,” which means
that $10 million needs to be collected through customer revenues before the
$1.5 million assessment can be discontinued in 2018. The negative $5.5 million starting balance is
also not explained.
The Debt Service Reserve
component of rates is unsupported. The consultant asserts that a debt service
reserve of 100% of the highest annual debt service payment on each future bond
issue “will be required [by lenders] as a condition of borrowing.” This reserve provision collects $570,000 in
revenues in 2012. The inclusion of this
amount of reserve in the revenue requirement is not explained.
The assumed interest rate
for future debt issuances is unsupported. The consultant’s revenue
requirements study assumes that the water fund will pay premium borrowing
rates, an assumption which is not supported.
It is inappropriate for the
City to charge significant legal fees to the City’s water customers. During 2009 and 2010, it appears that the
City incurred between $2 million and $3 million in legal expenses to defend its
right to extract illegal profits from the customers in the first place. Not only is this unfair, but the expenses
were not associated with the provision of water service to the customers,
providing no benefit to them. On that
basis alone, they should not be allowed to have been charged to the Water Fund.
I appreciate your attention to these concerns. Accounting review is not a substitute for
regulatory oversight. But in the absence
of the former, it serves to help protect the interests of the 110,000 Fairfax
County residents who purchase their water from the City of Falls Church.
Sincerely,
Attachments
Fairfax County Water
Authority v. City of Falls Church, January 6, 2010
City of Falls Church
Water Rate Study, May 27, 2011 (email only)
Kirk Randall
testimony before Falls Church City Council, July 11, 2011
Kirk Randall letter
to Falls Church City Council, June 25, 2011
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