Pennsylvania is home to 26 officially “distressed” municipalities (and Philadelphia).  Nearly three quarters of a million people – approximately 6% of the state’s population – reside in these cities, towns and boroughs.  Altogether, three of the six largest cities in Pennsylvania are struggling: Scranton, Reading and Pittsburgh.

These are not good stats.

Unfortunately, these numbers, shocking as they are, are an inaccurate assessment of the level of distress.  In the early 90’s, Pennsylvania redefined which municipalities were eligible for classification as distressed and essentially penciled Philadelphia out of the group – even though it is in worse financial condition than many of the officially “distressed” municipalities.

When you include Philly, nearly one-fifth of the state’s residents live in a faltering city.

To alleviate the distress, and foster the “fiscal integrity” necessary to “provide for the health, safety and welfare” of the citizens, Pennsylvania enacted Act 47 in 1987.  The focus of this act, according to page 5 of the actual legislation, is to empower distressed municipalities to restructure debt, engage in federal debt adjustment actions (a.k.a. “bankruptcy”) and provide for the consolidation of contiguous municipalities to relieve financial distress.

None of these goals have ever been achieved.  In practice, Act 47 merely enables struggling local governments to exceed their statutory taxing limits and run up additional debt (oftentimes due to the state itself, once credit markets begin to balk).

Before digging into the potential areas of improvement within Act 47, here’s a quick timeline of the Financially Distressed Municipalities Act.

Fall 1987 . with seven cities – home to about 50,000 people – sitting on the brink of insolvency, the PA legislature crafts a lifeline.  Two cities – Farrell and Alquippa – seek protection immediately.  Five others follow suit within six months.

June 1991 . Philadelphia’s finances begin to deteriorate.  When it becomes apparent that the size and scope of the city’s problems require a unique approach, the State suspends Act 47 protection for “cities of the first class”.

Fall 1996 . between 1991 and 1996, nine additional cities – home to more than 150,000 people, enroll in Act 47.  Scranton imposes a non-resident earned income tax to the chagrin of the Republican-controlled state Legislature.  After Scranton rescinds the tax in the face of massive public outrage, future-felon-to-be Senator Frank Serafini amends Act 47 to restrict the ability of certain cities to levy a commuter tax by requiring a “three pronged test.”

Summer 2012 . in the last 16 years, no changes to Act 47 have been made.  Ten additional cities – with a population exceeding 540,000 people – are granted Act 47 “protection”.  Scranton topples into insolvency and garners national media attention for unilaterally cutting union wages to $7.25 per hour.  Senator Blake (D),  promises an Act 47 overhaul to include additional revenue sources.  These changes fail to materialize.

So how does Act 47 work?  After the municipality petitions the state for inclusion in the Act, the State appoints a “recovery coordinator” who receives approximately  $120,000 per year to oversee the municipal budgeting process and provide research and direction on the recovery process.  Within one year of “designation,” the municipality must produce a series of financial metrics along with a Recovery Coordinator-sanctioned recovery plan.

To date, most Recovery Coordinators have acted as little more than a rubber stamp, allowing short term “band-aids” dependent upon one-time revenue generators and additional debt issuances.

Pittsburgh is a shining example of how Pennsylvania cities can recover from distress.  But Pittsburgh’s plight does not reflect of the reality that other Act 47 cities face.  In Pennsylvania, the common drivers of municipal distress are:

• Stagnant local economies with higher than average unemployment,
• Declining populations,
• Large swaths of abandoned or tax exempt property,
• Significant “off-balance-sheet” obligations via “double barreled” bonds issues by authorities,
• Massively underfunded pensions.

To help alleviate these problems, Act 47 allows municipalities the option to consolidate with their neighbors.  However, such a consolidation has never been implemented, as it must be “voluntary” on behalf of all consolidating entities.  This requirement essentially dooms the consolidation options; after all, if you were in a stable, low cost area, why would you support combining your municipality’s finances with a distressed neighbor, all but guaranteeing tax hikes and political in-fighting?

With no ability to restructure obligations built into Act 47, municipalities are left only with the option to increase taxes.  For “Second Class” cities (most of the larger cities except Philadelphia and Pittsburgh), that means pursuing revenue positive initiatives such as a commuter tax.  For other smaller municipalities, that means using Act 47 to exceed their statutory limits on real estate millage rates.  All of these options are available only while the municipality enjoys Act 47 protection .  If they were to be deemed “recovered” and exit Act 47, they would have to reduce or eliminate a number of now-vital revenue streams.

Termed the “roach motel” in Harrisburg, it is easy to see why Act 47 has been so ineffective.

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