Ah, early summer. Warmer days, lots of sunshine – and the sounds of bulldozers.
Late spring and early summer often are the perfect times to start major construction projects, mainly because the weather warms up and settles down across more areas of the country. Fewer rainy days and more hours of daylight mean more time to get work done. Plus, many systems want to get projects finished before the end of the fiscal year, be it June 30 or December 31.
Before all these projects really get going, however, you need to make sure you have all your ducks in a row. Is the financing set up? How much will it cost your customers each month? Which type of loan is best for you, and how long will it take to repay?
In this edition of eBulletin, we’ll give you a few tips to help ensure your capital improvement project is financially sound, and we’ll give you a few definitions to help you understand the most common way to pay for the big projects. We’ll also help you find the assistance you may need to complete the process.
Sources and resources
Before you begin any project, you have to be sure you can afford it. Some systems may be getting extra help from money distributed as part of the 2009 American Recovery and Reinvestment Act, commonly known as the Stimulus.
Those who are receiving Stimulus funds must report their progress as part of the “transparency” promise to taxpayers. Lists of projects and agencies funded are posted on a special web site, Recovery.gov. There, citizens can look up their state to find out how much money has been distributed and where it’s going.
For example, New York state has received more than $9.5 billion. The state’s Clean Water State Revolving Fund (SRF) has received more than $432 million. Of Nevada’s $867 million, More than $19 million each has gone to that states Clean Water SRF and its Drinking Water SRF.
A link to the site is available below.
Otherwise, there are grants and loans available through federal agencies like the EPA and USDA-Rural Development, as well as smaller loans through programs such as the Rural Communities Assistance Partnership’s Revolving Loan fund or the Delta Regional Authority Intermediary Relending Programs.
A good starting point to getting a loan is finding out just what you can afford. What is your system’s current debt? Does it account for emergency funding or annual repairs?
You’ll also want to conduct a rate study. Your regional RCAP technical assistance provider can help with this. They’ll look at rates in your area, figure your current and future debt, look at your rate history, then determine whether you should raise your rates to pay for your big project. They’ll also help you explain the rate changes to your customers. You can contact your regional RCAP office for assistance and more information.
This information will help when applying for your loan. But that’s not all you’ll need to do. Before you can get the loan, you’ll need to know the costs, both short term and long term.
Additional Resources
Recovery.gov – Stimulus project tracking
http://www.recovery.gov/ [1]
Water Environment Federation - Stimulus Funding Resources
http://www.wef.org/GovernmentAffairs/StimulusFunding/ [2]
Costly measures
Discussing the “cost” of a project is a bit misleading, because there’s usually more than one cost involved. There’s the total cost and the annual cost.
Barring some miraculous windfall, you’ll probably pay for part, if not all, of a project with a loan. The total cost is how much you will have paid out at the end of the loan term. This includes principal, interest and any fees to the lender. It’s important to get the figures up front, because usually you’ll pay more with a long-term loan, like 30 years, versus a shorter loan period, such as 10 years.
Then again, you don’t want payments too high. Before the loan is up, you may need to complete another project. If your system is barely making the first loan payment, then paying on a second loan could cause problems down the road.
The annual cost covers the amount you will pay the lender each year in interest, principal and fees. This number is important because with it, you’ll know the cost that will be passed on to customers.
So if you’re soon going to have $25,000 a year in loan payments that you need to pass to your 500 customers, then your customers will soon see an increase in their monthly water bills of about $4.17 a month. That may not seem like much, but if your rates are only a few dollars a month, an increase like that could be a sizeable percentage increase. For example, if the average water bill is only about $18 a month, then you’re talking about a 23% increase.
That may be a hard sell for some. It might be good to figure the percentage increase as well as the actual number, just to see exactly how high those figures really are. To do this, try the tool listed below – Online Conversion’s percentage calculator.
So both the total cost and annual cost are important figures to examine before deciding on the best method of financing. But in order to get these numbers, you’ll have to learn some loan terminology. What types of loans are there? What is the rate? The term? Amortization? Imposed costs? All of these will have an effect on your financial decisions.
Additional Resources
Online Conversions Percentage Calculator
http://www.onlineconversion.com/percentcalc.htm [3]
Defining the loan
There are several basic parts to a loan, including the term, the interest, the rate, the principal and the imposed costs or fees.
The term is a simple one – it refers to the time it will take to repay the loan. Common loan terms are 10 years or 30 years, though they can vary depending on the flexibility of the lender.
One important question related to the term is whether fees are imposed if a loan is paid off before the end of the term, or if an early payoff is even possible. It’s also important to find out if the loan will be paid off at the end of the term, or if a balance will be due, called a balloon payment. The balloon payment loans aren’t as common nowadays as they once were, because it’s usually difficult to come up with a large amount of money at the end of the loan term.
There are different parts to the loan payment that will determine how much you’ll have to pay and for how long. The principal is the basic payment applied to the loan itself. The rate is a percentage applied to the principal to determine the amount of interest to be paid. The interest is the money you’ll pay based on that rate.
So for example, let’s say you take out a $1 million loan at a 6% rate over 30 years. Provided that rate is fixed, or unchanging, you’ll pay $60,000 in the first year for interest. But as the principal balance drops, so will the interest payment. Figuring $35,000 a year in payments, the interest in the second year would drop to $57,900.
The principal and interest factor in to the two main payment methods – Level Principal Payment and Level Payment.
The Level Payment is good for those who want to make the same payment every month. Even though the interest payment drops every year, the principal payment increases to make up the difference in the monthly payment. The other good thing about this method is that it means you’ll pay more on the principal over time. That may help if you want a shorter loan term, such as 10 or 20 years.
The Level Principal Payment will keep the principal the same every month, but the interest and fees can change each year. Usually the interest drops with the principal balance, so the payments get lower each year.
The interest isn’t the only factor that can change the payments on a Level Principal Payment loan. The imposed costs are another factor. These are costs required by the lender and by state and federal regulation. For example, title insurance on the land or buildings involved, survey costs, attorneys’ fees, etc. There also may be added costs, such as fees for ending a loan early, if a previous project was refinanced and added to the current one.
It’s important to get all your options and final figures on these numbers before you decide on the loan. Keep in mind, too, that a long loan term could reduce the amount of money you’ll have available for future projects, but short-term loans with higher payments could reduce the nest egg you can build for an emergency in the near future. It’s a delicate balancing act to decide which would be best for your water system.
There are plenty of other terms involved in lending. If you need a definition, try the E-Loan Term Glossary. It has an impressive list of terms and explains them in plain English. A link is provided below.
Additional Resources
E-Loan Term Glossary
http://www.eloan.com/s/show/glossary [4]
You’re not alone
That’s a lot of facts and figures to research, and it may seem a daunting task. But the more prepared you are going into the process, the smoother it will be. The last thing you want to do is delay a project for months, even years, while you decide how best to finance it. We all know how quickly the cost of supplies can go up, and with an annual inflation averaging 3% a year, an affordable project could become unaffordable with only a couple of years’ delay.
Figure out the best method, but don’t be afraid to have an alternative or two waiting in the wings, just in case the first method doesn’t get approval from your water board, city council or area citizens.
Just remember, you don’t have to do this alone. RCAP is available for help.