Prepared for presentation to the Senate Finance Committee Mr. Chairman, gentlemen, my name is Jack Williams and I am Governor of the State of Arizona. As the Governor, I am most concerned with the impact of certain provisions of the Tax Reform Act of 1969. Arizona is one of the fastest growing states in the Nation in terms of population. Many new families move into the State everyday. Additionally, new businesses are developing within the State and many manufacturers have seen fit to locate additional facilities in Arizona. We welcome these individuals and firms to share our vision of the good life and the future of our State. However, their arrival creates a demand for additional public facilities and services. New highways, streets, sewers and water systems must be constructed. New schools must be built and existing schools expanded. Additional public facilities of every description are and will be needed to serve this expanding population base. In Arizona, as in many states, such major public facilities cannot be constructed on a "pay as you go" basis. Existing operating revenues of the school districts, the cities, the counties and the State are not sufficient to permit this. Nor, if the example of major private enterprise may be taken as a guide, would this be sound management practice. Good financial management seems to involve the option, in certain instances, of borrowing to construct facilities as needs arise, and amortization of construction costs over a period of years. Governments in Arizona can become indebted-can borrow money--only through the issuance of bonds. The provisions of H. R. 13270 will have a substantial impact on the marketability and costs of municipal bonds. The interest subsidy program proposed under this legislation, in our view, is "too little, too late" and poses a number of problems, some of which go to the very heart of our Federal system. Two provisions of H. R. 13270, the Allocation of Deductions Rule, and the Limit on Tax Preference, will have the net effect of placing a tax on municipal bond interest. We are advised that there are some constitutional questions surrounding this matter. It may be assumed that the constitutionality of this measure will be challenged in the court, resulting in lengthy litigation. During this time, the tax status of municipal bonds will be unclear and investors will be either unwilling to invest in these bonds, or will demand high enough interest rates to protect themselves against taxation. Turning aside for the moment from the questions of the cost and marketability of municipal bonds, legislation of this nature could create an inequitable situation in which bond investors may reap a substantial windfall at the expense of local property taxpayers. If investors demand interest rates sufficient to offset possible taxation, and such taxation is later declared unconstitutional, those individuals who purchase municipal bonds will be receiving interest payments at a rate which would normally apply to taxable securities, yet those payments will be nontaxable, to say, this windfall will be subsidized by local taxpayers across the Nation. As I indicated a moment ago, there are serious questions about the marketability of a taxable municipal bond. This is, in effect, a new form of security, and certainly will be in competition with corporate bonds. In the case of states, larger cities, and some urban counties and large school districts, the competition will be between municipal securities and top-rated corporated bonds. In our smaller cities, counties, and school districts, however, the competition will be between municipal bonds and second-ranking corporate securities. Few public agencies have a credit rating and repayment ability approaching that of major American corporations. The point here is that a taxable municipal bond is a new and strange entity in the market place, and will be in competition with bonds of a well-known character issued by large corporations with excellent credit ratings and established borrowing histories. We may find that under these circumstances investors are unwilling to purchase municipal bonds or will demand a very substantial premium for such investments. The cost of borrowing by state and local governments is already high. In Arizona and in most western states, there are statutory limits on the maximum interest rate at which municipal bonds may be sold. In my State, we have now passed those limits in many cases, and certainly, if municipal bonds become taxable, our statutory limits will have to be revised. At best, this will result in the delay of needed public improvements until such time as the various state legislatures may act on the matter. Because of the uncertainty of the total situation, such legislative action may be substantially delayed. In any case, it is obvious that the cost of borrowing at the state and local level will be increased. Anticipation of future taxation has already had its effect. The Bond Buyer's Index has shot up 70 points since July 18th when the House Ways and Means Committee made known its intention to tax municipal bond interest. These increased costs have very significant and practical results for state and local governments. Let me give you just two brief examples: 1. The City of Phoenix recently initiated a street |