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Explainer: As Lucknow becomes the 9th city to have raised municipal bonds, here’s a look at what municipal funding is all about

Eight other cities have raised municipal bonds so far. These include Amaravati (Rs 2000 cr), Visakhapatnam (Rs 80 cr), Ahmedabad (Rs 200 cr), Surat (Rs 200 cr), Bhopal (Rs 175 cr), Indore (Rs 140 cr), Pune (Rs 495 cr) and Hyderabad (Rs 200 cr)

Representative image
Representative image

The city of Lucknow is the ninth in the country to have raised municipal bonds that have cumulatively touched around Rs 3,600 crore. The next city to raise municipal bonds will be Ghaziabad, followed by a joint bond by Varanasi, Agra and Kanpur, Durga Shankar Mishra, secretary, ministry of housing and urban affairs, has said.

Eight other cities have raised municipal bonds so far. These include Amaravati (Rs 2000 cr), Visakhapatnam (Rs 80 cr), Ahmedabad (Rs 200 cr), Surat (Rs 200 cr),  Bhopal (Rs 175 cr), Indore (Rs 140 cr), Pune (Rs 495 cr) and Hyderabad (Rs 200 cr).

Last week the Lucknow Municipal Corporation (LMC) raised Rs 200 crore by issuing municipal bonds on a private placement basis using the BSE BOND platform, the BSE had said, adding that the municipal corporation had received 21 bids on the platform for Rs 450 crore, which is 4.5 times the issue size.


Out of the total 11 municipal bond issuances totalling to Rs 3,690 crore, Rs 3,175 crore has been raised on the BSE Bond platform, scaling its market share to 86 percent, the exchange had said.

“Lucknow is the 9th city in the country to have raised Municipal Bond, which has cumulatively reached ₹3,600 cr. I urge other states and cities rated A+ and above to take this transformative path expeditiously,” Mishra tweeted.

The ministry will pay an upfront incentive of Rs 26 crore equivalent to interest subvention of 2 percent from the government of India's AMRUT scheme. Raising a bond is an instrument of paradigm change in urban governance. It makes cities clean up their governance and financial systems, he tweeted.

The funds raised by the Lucknow Municipal Corporation will be used in various infrastructure schemes in the state capital. The proceeds of the issue are proposed to be invested in a water supply project being implemented under AMRUT and in a housing project.

The tenure of the Lucknow Municipal Corporation bond is 10 years and it is structured as a 'strip' bond with 7 STRRPs (A to G) and principal repayment to happen in 7 equal annual payments from the fourth year to the tenth year.

Under the Atal Mission for Rejuvenation and Urban Transformation (AMRUT) scheme, cities have been encouraged to mobilize resources by issuing municipal bonds. These are issued when a government body wants to raise funds for infra-related projects like roads, water among others.

SEBI had circulated detailed guidelines for urban local bodies (ULBs) in 2015 to raise funds by issuing municipal bonds.

Here’s why cities require municipal bonds to raise funding.

What are municipal bonds?

Municipal bonds are bonds issued by urban local bodies to raise money for financing specific projects such as infrastructure projects. The Securities and Exchange Board of India regulations (2015) regarding municipal bonds provide that, to issue such bonds, municipalities must: (i) not have negative net worth in any of the three preceding financial years, and (ii) not have defaulted in any loan repayments in the last one year.

A city’s performance in the bond market depends on its fiscal performance and one of the ways to determine a city’s financial health is through credit ratings.

Why is there a need for municipal finance?

The growing urban sprawl in India is leading to an increase in the use of private vehicles, congested roads, increased pollution, public safety issues and increased household spending. Along with this comes the added stress that an increasing population puts on the existing infrastructure of our cities. The infrastructure and services being grossly inadequate even for the existing population, a report by JLL India titled 'Municipal Finance Funding' has said.

According to the World Bank, the scale of urbanisation in India is only 33%, whereas the size of the urban population is about 429 million – much larger than that of many other countries. Although it is an indicator of positive development, a host of challenges also accompanies rapid urbanisation.

Local bodies oversee various expenditures on local services, including transportation, water and sewers, garbage collection and disposal, safety, housing, health, recreation and culture, education and social expenditures. They fund these services and the infrastructure associated with them from a variety of sources under municipal finance.

How do municipal bonds help smart cities raise funds for projects they plan to execute under the Smart Cities Mission?

Owing to India's growing economy, there is huge demand for creating more infrastructure. As per HPEC report on Indian Urban Infrastructure and Services, over a period of 20 years (2012-2031), the estimated investment for urban infrastructure is Rs. 39.2 lakh crore.

Government budgetary allocation is not sufficient and public sector companies, given their limited implementation capacity, cannot meet the huge infrastructure requirement. Municipal bonds have a huge potential for fulfilling the massive investment requirement in the urban infrastructure sector.

Apart from providing much needed term funding and promoting sound corporate governance standards in urban local bodies, municipal bonds are necessary for stimulating the revenue generation process of ULBs. In Smart Cities Mission (SCM), it was envisaged that Centre/State/ULB funds will meet only a part of the project cost and balance funds are expected to be mobilised from various innovative finance mechanisms such as municipal bonds with credit rating of ULBs.

Are municipal bonds the best/viable alternative available? What are the other sources through which SPVs can raise money for smart city projects

Other than municipal bonds, there are various innovative fiscal tools, such as Value Capture Financing (VCF) that are currently being explored by state/local governments, many of which have also been in existence for a few years.

Some VCF methods that can be adopted or have been in place for the past few years are: land value tax, vacant land tax, fees for changing land use, betterment levy, development charges, transfer of development rights (TDRs), premium on relaxation of FSI/FAR, tax increment financing (TIF), land acquisition and development, land pooling system (LPS), among others.

What more needs to be done? Tax incentives for investors the need of the hour

Municipal bonds although not developed significantly in India have been among key sources of accessing capital for municipal corporations in developed markets. Municipal bonds would provide long-term monies which is critical for public infrastructure projects such as construction of roads, bridges, at a cheaper cost.

“The poor state of finances, lack of transparency, inadequate systems and processes have been key reasons for lack of penetration for municipal bonds. In the recent past there have been proactive measures by the central and various governments to ensure and permit raising funds through municipal bonds such as tax incentives for the investors, allowing smaller size capital raise for private placements,” said Piyush Gupta, managing director, Capital Markets and Investment Services, India, at Colliers International.
First Published on Nov 19, 2020 08:19 am