The Ghost of Scandals Past

Previous "creative financing" debacles should haunt city officials who've approved a risky $1 billion lease of Muni streetcars

"It's laid out in text that the City and County of San Francisco is expected to indemnify all the trust holders and the equity investors from this risk, and that doesn't make any sense," says Greg Dorbeck, a financial consultant who specializes in leases, and who reviewed the contracts in question at SF Weekly's request. "This whole deal is predicated on an authority [the IRS] that hasn't given its blessing to the transaction. Someone has to get a ruling that the trust will work, and it's incumbent on the investors to do so. It's not the city's problem."

But the pile of contracts Muni is poised to sign say it is the city's problem. Our city officials don't appear to understand, or be willing to admit, this risk to taxpayers. Everybody else is doing these kinds of deals, they say. It's standard industry practice.

But standard industry practice has a history of biting the practitioners.


Sitting in the bleak conference room after Harrington excused herself to leave, I recalled the last time California embarked on a creative-municipal-financing craze, the so-called "dirt bond" boom that peaked in 1990. I recalled how financial advisers told municipal officials that it was perfectly reasonable to shackle themselves in risky business partnerships with private investors they knew very little about. I remembered how, during the next seven years, $317 million worth of these "Mello-Roos" bond-financing deals went sour, and how by the late '90s municipal bond analysts had described a "default line" consisting of 29 failed special-financing entities that roughly paralleled the San Andreas fault.

I remembered how my former father-in-law, California real-estate-tax-shelter-limited-partnership king Michael Montross, bankrupted Nevada County in a 1990 fraudulent dirt-bond scheme, then went on the lam. I recalled how the U.S. Securities and Exchange Commission next launched a California-wide inquiry in which municipal officials from Nevada County to Antioch, along with their San Francisco financial advisers, were called to task for entering into risky, complicated municipal financing deals without having a clear idea what they were getting themselves into.

The dirt-bond craze differed in important ways from the lease-leaseback transactions that have recently beguiled officials in San Francisco and elsewhere. Dirt bonds depended on the profitability of real estate developments; lease-leasebacks rely on the effectiveness of corporate tax shelters. But both types of transaction are alike in that they put the fate of millions of dollars in government assets in the hands of private investors, creating a situation where municipalities may lose control of their own destinies. These transactions have another important trait in common: Defenders of both types of deal have lured municipal officials by using the "everybody's doing it" justification, and the "this is standard industry practice" rationale that underpins many a dubious creative-financing boom.

I spoke to Walter Borny, who was Montross' top salesman before becoming a whistle-blower and joining a class-action lawsuit against Montross' firm, to ask if he also saw any ghosts emanating from this week's Muni-Breda leaseback deal. Borny is now a registered representative at Whitehall Parker Securities in San Francisco, and he is familiar with the lease-leaseback tax-shelter deals that cities such as San Francisco have been entering into during recent years.

"When you are giving control away to other people, it's not something the government or municipalities should be involved in. It creates the temptation or the risk of potential corruption," Borny said. "These municipalities are doing this to attract funds by investors, but it's probably going to end up in a similar mess that we've seen since the mid-'80s with Mello-Roos bonds, of loss of control, and perhaps even the loss of the equipment itself, to the parties that do control it."


The last time I'd given a thought to Michael Montross was five years ago, when he was awaiting a 100-count securities fraud trial in San Mateo. His once-sprawling real estate empire now existed only in the memory of myriad court files.

Twelve years ago he had imagined a grander future. Back then, he was chasing the possibility of creating housing-tract gold out of dirt in the Sierra Nevada foothills, in a scheme that became infamous in New York finance circles. In 1990, Montross proposed that Nevada County designate a 286-acre property he had bought as a special, Mello-Roos tax district, named for the California lawmakers who sponsored legislation allowing such districts in 1982. Under that legislation, a developer could borrow money by selling bonds; the developer and home buyers (as they moved into the new subdivision) were expected to pay off the bonds through special property taxes.

But if a developer failed to complete a subdivision, or went bankrupt, then the county that had authorized the bonds might be left with no way to repay the debt.

Nevada County supervisors hired a San Francisco investment bank to underwrite the bonds and the vice president of another San Francisco investment banking firm to act as financial adviser, and issued $9 million in Mello-Roos bonds. According to SEC files, Montross lied to officials and advisers about his supposed personal ownership of the land. He said he was an experienced real estate developer, when he wasn't. Montross' statements to Nevada County suggested he had enormous financial worth when, in fact, by 1989 his firm was nearly broke. Montross failed to complete the subdivision, filed for bankruptcy, and left the county up a financial creek.

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