Guidelines on Local Government Borrowing and Recent Developments in South East Europe
2. What to consider in the national legislation?

2.3.1. Short-Term Borrowing provisions

Short term financing should be pursued by local governments only as an instrument to manage temporary liquidity shortages. Examples of situations when short term borrowing should be permitted include: (i) paying operating expenses in anticipation of cash-in-flows from tax revenues, (ii) financing of current or capital investment using short term debt in anticipation of nonrecurring revenue, such as from the sale of assets, receipt of a grant, or issuance of long-term debt (bridge-loans).

Legal limits should be in place to control local governments' short term borrowing, in order to prevent structural cash-flow deficits:

Threshold for maximum short term indebtedness as a percentage of the municipal operating revenues,

Short term borrowing should be restricted (i) to the financing of anticipated cash needs for a certain number of months including debt-repayment within the ongoing fiscal year, or (ii) to revenues or receipts to be received within a period of time.

2.3.2. Long-Term Borrowing provisions

Long term borrowing commits local governments' budget to fixed expenditures (debt service) in the future and therefore it may limit its financial flexibility. Poor debt management decisions from today may lead to inability of a local government to service its debt obligations in the future with major financial and economic implications for the local community (e.g. increase in local taxes). As a general rule, long term debt should be used only to finance capital expenditures.

Provisions for long term indebtedness of local governments should be provided in the national legislation. Table 4 summarizes the main limits and restrictions placed on long term borrowing in Territories covered by NALAS members...

Table 3: Provisions for Long-Term Borrowing regarding purposes and terms of borrowing

Country Provisions for Long-Term Borrowing regarding purposes and terms of borrowing
Albania Since February 2008 Local Governments in Albania can borrow from the domestic and/or international financial markets to satisfy their capital investments needs.

The ratio of the debt stock to the total recurrent revenues (own source revenues, shared taxes and unconditional transfers) must be less than 1.3:1

The LGs must respect the following limitations when consider borrowing:

• The ratio between the operative surplus of the previous year (calculated as the difference between the operative revenues, from its own sources, the divided taxes and unconditional Transfers and the LGs unconditional operational expenditures) and the debt service due in any year of all the long term, must be no less than 1.4: 1.

• The amount of debt service due in each year of the long term loan cannot exceed 20% of the average total actual revenues of the local government from the unconditional transfer, shared taxes, and local taxes and fees of the previous three fiscal years.
Bulgaria Long term borrowing may be carried out to finance capital investment projects, debt refinancing, and to meet payments made under municipal guarantees that have become due. The municipal council makes decision on borrowing.

The decision of the Municipal Council requests the mayor to carry out the procedure for choosing a financial institution to provide the necessary funding for the project or the financial intermediary in the issuance of municipal securities.

Municipal debt comprises: 1) issues of municipal bonds, 2) debt incurred by municipal loan contracts, 3) debt incurred by municipal owned enterprises, 4) issued municipal guarantees, 5) central government interest free loans including those for co-financing EU projects, and 6) obligations under commercial credit and financial leasing for a period exceeding two years
Croatia All local government units (municipalities, cities and counties) can take long-term debt by taking out loans on the money and capital market, exclusively for a capital investment project, for reconstruction and development, financed from their budgets.
Macedonia The loans of the municipalities from abroad need to have a prior agreement of the Government of Macedonia based on the Ministry of Finance positive opinion. LLGF stipulates that the Government of Macedonia cannot guarantee and undertake obligations that come from the debts of the municipalities, including the municipal public services, except in cases when the obligation has been undertaken by law. The municipality can have longer-term loans for financing capital means and investments only if the repayment of the debt is done in equal or decreasing annual installments. The decision for long-term borrowing is made by the Municipal Council. The total amount of the annual repayment of the debt for a long-term loan must not exceed 30% of the total revenue of the current operational budget of the municipality in the previous fiscal year.
Moldova Local public authorities of level I (communes and municipalities) and level II (rayons) based on a decision of respective Councils, have the right to sign long-term loan agreements for capital investments with domestic and international financial institutions/lenders.
Montenegro Law on Financing of Local Self-Government prescribes that a municipality may take long-term loans only for the purposes of financing infrastructure projects or for the purchasing of major capital assets, in compliance with approved Capital Investment Plan.
Republika Srpska – BiH
Local community can take long-term borrowing for following purposes:

a) financing of capital investment
b) refinancing of the unpaid debt as per paragraph
Romania Mid-term and long term borrowing may be carried out only for capital investment and debt refinancing.
Slovenia The municipal council is authorized to approve long-term borrowing along with the Ministry of Finance approval and the amount of the debt should be included in the annual budget.

According to the Public Finance Act each local government borrowing from the international credit market must be permitted by the law.

Municipalities are also allowed to take long-term loans to co-finance EU funded projects and it doesn't affect municipal borrowing capacity.
Serbia Local government cannot enter into long-term debt, except when it comes to financing or re-financing capital investment expenditures planed in the local budget.
Turkey The Municipality may undertake obligations and issue debentures according to the following principles and procedures in order meet the expenses required to be made for performance of duties and services;

• Within the frame of the provisions of the Law Nr. 4749 Related to Public Finance and Management of Debts, foreign borrowings may be provided only for financing of the projects defined in the investment program of the Municipality.

• The Municipality using investment credit and cash credit from Iller Bank shall be obliged to present the payment plan to this bank. Iller bank shall be entitled to reject the loan request of the municipality where the re-payment plan is found insufficient.

• Issuance of debentures may be considered only for the financing of the projects defined in the investment program and shall be realized according to the provisions of the relevant law. In order to finance a project; a few points must be taken into consideration:

• The project can be aimed to be financed through foreign financial institutions (with foreign capital) only in case of its inability to be implemented via Turkish Technology.

• The project must appear in the "Annual Bulletin" of State Planning Organization.

• The approval of Under-secretariat of Treasury must be obtained.

2.3.3 Indebtedness limits

Virtually all legislation on local government debt establishes limits on the amount of local debt an individual local government can take on. There are two types of debt thresholds:

Limit on outstanding debt level,.

Limit on maximum annual debt service (interest and principal repayment), that a local government can commit to.

Some countries apply only one of the two debt limitation criteria. There are also countries where both criteria are enforced (such as Albania, Macedonia, Serbia, aggregated national local debt in Romania). In recent years, there has been an increase in the number of countries using the second type of debt limitation annual debt service as it provides a more precise estimate of the local governments' effective debt burden.

Table 4: Legal framework provisions regarding long-term debt limitations

Country Total outstanding Debt and Debt Service Capacity
Albania Maximum level of the final stock of the long term debt must not exceed the ratio of 1.3:1 of the total recurrent revenues (own resources, the shared taxes and the unconditional transfers).

The debt service capacity cannot exceed 20% of the average total actual revenues of the local government from unconditional transfers, shared taxes and local taxes and fees of the previous three fiscal years.
Bulgaria The annual debt service capacity must not exceed 25% of the ownsource revenues and equalization subsidy from the previous audited report and the nominal value of the municipal guarantees issued must not exceed 5% of the same amount.

The Municipal Debt Act does not contain any provision on total outstanding debt but municipal debt is included in the central government debt which must not exceed 60% of GDP.
Croatia The annual borrowing limit is 20% of the actual revenues from the previous year. It comprises the amount of the average annual annuities on loans, guarantees given from the previous years, and short-term outstanding liabilities. The additional limit introduced in 2003 is that overall LG's debt can't exceed 3% of the total recurrent revenues of all LGs in Croatia.
Macedonia The total outstanding long-term borrowing of the municipality including all guarantees shall not exceed the total amount of revenues in the current operational budget of the municipality in the preceding year.

The total amount of the annual debt-service capacity from the longterm borrowing in one fiscal year can amount up to 30% of the recurrent revenues of the municipality in the preceding fiscal year.
Moldova Short-term borrowing – 5% of total revenues

Long-term borrowing for capital investments – 20% of total annual revenues
Montenegro Debt service capacity must not exceed 10% of the actual recurrent revenues from the previous year
Republika Srpska – BiH
Local community can have borrowing not higher than 18% of regular income of that local community in the previous fiscal year. Overall debt of the local community as per issued guaranties cannot exceed 30% of regular income in previous fiscal year.
Romania Annual debt service should not exceed 30% of own revenues (local taxes and fees and shared income tax). Debt threshold is calculated against the arithmetic mean of last three fiscal years' own revenues.
Slovenia Debt service capacity is settled up to 8% of the own revenues of the previous year
Serbia Outstanding debt - 50% of total recurrent revenues from the previous year and

Debt service - 15% of total recurrent revenues from the previous year
Turkey Domestic Borrowing is limited to an amount of 10% of previous year's realized revenues modified with the revaluation rate.

Total outstanding debt stock (including external debt) cannot exceed the revaluated amount of the latest annual budget. (1.5 times for metropolitan municipalities). (Reevaluation rate is determined according to Tax Code Law No.213)