MCTA Treasurer’s Manual

Chapter 12

Procuring Banking Services

Introduction

Achieving success as a municipal financial officer requires making educated decisions about procuring bank­ing services.  To assist in making such decisions, this chapter will (a) describe the banking services most commonly available to cities and towns, (b) explain the role of these serv­ices in effective cash management, (c) discuss the procurement of banking services, (d) explain their costs and alternative ways municipali­ties can pay these costs and (e) provide both a sample RFP and a sample contract between a municipality and a bank.

Importance of Staying Current with Advances in Banking Services

The banking industry has rapidly evolved in recent years, creating greatly improved products and services.  Technological advances, expansion into new product lines, and industry consolidation have considerably altered the ways in which banks assist municipalities to carry out their responsibilities.

In this rapidly evolving marketplace, municipal financial officers should ever strive to be knowledgeable and well informed.  They should regularly communicate with members of the banking industry to stay aware of the latest advances, products and services available.  They should also frequently participate in instructional and training programs to stay proficient with new developments in financial products and procedures.

This chapter will assist local finance officers to become better informed and more knowledgeable by naming some of the various new products and services currently available from banks, and by explaining how to obtain those products and services. 

How Banks Can Help Improve Municipal Cash Management

A good cash management system enables a municipality to maximize the benefit it receives from its cash resources by ensuring that the municipality:

• Collects its receivables effectively and punctually.
• Keeps ?on hand? (in its checking accounts) only sufficient cash to pay bills as they come due.
• Invests all other cash as quickly as possible into investments yielding the highest possible return, taking account of safety.

The more effectively a municipality can perform these functions, the more it will maximize its investment income and augment its ability to fund the cost of the public services it provides.

Table 1, below, presents a list of banking services generally available to assist a municipality to manage its funds.  Note that the table includes credit services.  At times during the cash management cycle, a municipality’s efforts to minimize cash available to pay bills will, unavoidably, result in a short-term deficiency, resulting in the necessity of borrowing.  Therefore, the list of banking services includes credit services.  A discussion of the listed services follows the table.

Table 1

Service Category	Services	Cash Management
Collection Services	Lock-Box System Armored Car Services Night Depository Wire Transfers ACH/Direct Deposit/Direct Debit Credit/Debit Cards	Accelerate Cash Receipts
Account Services	A)       Maximization of Returns on Account Balances Concentration/Zero Balance Accounts Sweeps Controlled Disbursements B)      Maximization of Information on Accounts Daily Account Notification via Fax PC/Online Banking Checks via CD-ROM C)      Maximization of Efficiency Between Accounts Account Reconciliation Check Sorting Direct Payroll Deposit Wire Transfers Escrow Accounts Tracking Accounts
Investment Services	Bank Investments *Money Market Accounts *Time Deposits (Certificate of Deposits) *Overnight Sweep Investments Market Investments *Mutual Funds *U.S. Government & U.S. Government Agency Securities Investment Advisory Services *Retirement Plan Services *Trust Fund Services
Credit Services	Short/Long-Term Notes Bond Redemption Services Bond Transfer and Registration Services Lending Activities Related to Community and Economic Development Projects Lease Services Underwriting Financial Advisory Paying Agent	Meet short and long-term borrowing needs

Collection Services

Although collection is not the responsibility of the treasurer, a treasurer’s coordinating banking services and other activities with the collector will certainly improve the municipality’s overall cash management.

Banks design their collection services to assist communities to accelerate their collections, thereby optimizing investment earnings.  The accel­eration results from decreasing collection float, i.e., the interval between the time a check is mailed to the collector and the time the municipality can actually spend or invest the money.  This interval includes the municipality’s internal processing time and the bank’s check-clearing time.

Instituting one or a combination of the following banking services can reduce collection float:

1. Lock-Box System. A lock-box system speeds up the collection process by eliminating direct handling by municipal collectors of certain rou­tine remittances.  Specifically, a lock-box system can be used for any type of remittance made in response to a formal collection effort of a municipality that is accompanied by some sort of “advice,” such as a bill.

A lock-box system functions as follows:

1. A bank rents a post office box in a local government’s name.
2. Taxpayers mail their remittances to this box rather than to the municipality’s regular mailing address.  The bank collects the remittances periodically during the day, pursuant to an agreement.
3. A bank employee opens the remittances and sorts the payments and accompanying data.
4. The bank processes for deposit on the same day all checks that correspond with the particular bill, invoice, or other data.
5. The bank turns over to the local government all non-corresponding checks for local processing.
6. The bank forwards daily copies of all normal remittances and accompanying data (invoice, utility bill, etc.) to the local government for its internal processing.

The major advantages of a lock-box system include the following:

1. Frequent collection of mail from the lock-box reduces the collection float interval.
2. Crediting payments to the municipality’s bank account prior to their being processed and posted to the general ledger further reduces the collection float interval.
3. The elimination of most mail-opening and deposit preparation tasks greatly reduces clerical workloads in the municipality.
4. Shifting mail-opening and deposit preparation tasks to a bank greatly reduces cyclical workloads that otherwise cluster around key dates, eliminating the need for overtime pay.
5. Reduction of the collection float interval accelerates the availability of usable cash balances, generally by several days.

Instituting a lock-box system requires a sizeable investment for a bank; accordingly, banks pass on these costs to their municipal customers.  Notwithstanding, the finan­cial rewards of utilizing a lock-box system can far outweigh these costs.

2. Armored Cars and Night Depositories. Utilizing armored cars and night depository services can also accelerate the deposit of a municipality’s receipts, thereby hastening a municipality’s ability to put its funds to use. Armored car costs make utilization of this service prudent with high volume receipts.  In lower volume circumstances, using a night depository gives the municipality an alternative way to deposit receipts as quickly as possible.  In addition to the security advantages afforded by utilizing a night depository, this service is especially beneficial if a municipality’s accounts are structured to earn interest overnight, i.e., beginning immediately upon deposit.
3. Wire Transfers. Wire transfers entail the electronic transmission of payments from one bank to another electronically.  The Federal Reserve Communications System, or “Fed Wire,” constitutes the most commonly used wire system.  The fee for wire transfers, however, makes utilization of this service judicious only for large transactions.
4. ACH/Direct Deposit/Direct Debit. The Automatic Clearing House (ACH) network is a nationwide system that processes electronic payments.  The direct debit or direct payment system works most effectively with utility payments or other regularly scheduled billing processes.  The system works by electronically transferring a payment from the payer’s bank account into the municipality’s account.  Generally, the collection or payment is setup through a pre-authorization process.
5. Credit and Debit Cards. Credit and debit cards continue to gain a wider level of acceptance as a means of payment of municipal charges.  The “merchant agreement” with credit card companies generally requires that the cash price and the credit price be identical.  However, since municipalities cannot give discounts on municipal taxes, except in the manner set out in Ch. 59 §58, a person paying property taxes with a credit card must bear the municipality’s charge. 

Account Services

The structure of a municipality’s banking accounts constitutes an important component of the effectiveness of its cash management system.  Therefore, the financial officers should carefully consider what combination of accounts best serves the city or town’s needs.  The primary objectives in making this determination should be maximizing:

1. Returns on account balances.
2. Efficiency between accounts.
3. Account information.

Types of Accounts Available and Account Purposes

• A standard “checking account” allows writing checks against the balance in the account.  Such accounts best are used for everyday expenses, not for long-term savings.  They provides liquidity, keeping monies available for disbursement.
• A ?vendor account? provides a checking account specifically designed for paying vendors.
• A “trust account,” also called a “concentration account,” contains assets from multiple, separate trusts, sometimes called sub-accounts, set aside for specific purposes. 
• A “zero-balance” or “sweep account” sweeps the balance from a checking account into some form of investment, usually a repurchase agreement or money market mutual fund.
• A “money market account” is a limited liquidity checking account (for example, allowing a limited number of deposits and withdrawals per month) which usually pays a higher return.

Generally, the greater the service provided with an account (i.e., liquidity, check processing, detailed statements/accounting), the greater the cost (higher fees or lower return).  Accordingly, municipal officials should carefully consider the services actually necessary in order to avoid paying for unnecessary services.

Maximization of Information on Accounts

Banks offer account information to customers through a variety of different means and formats. Therefore, municipalities must make a number of decisions about what information they wish to receive and how they wish to receive it.  Of course, making these decisions should entail some cost/benefit analysis because costs generally rise in correspondence with the amount of information provided and the convenience and complexity of the format used in providing it.   

In some cases, receiving a monthly account statement by mail may satisfy a municipality’s needs.  In other cases, a municipality may require more frequent information, perhaps even a daily account notification via fax.  Internet or Web Banking, of course, allows for information on demand, perhaps providing the most convenient service. 

The format in which one receives information sometimes surpasses the importance of the information itself.  More than just performing standard check processing, banks can also provide check sorting, as well as reconciliation of statements and checks via an account reconciliation service.  Also, they can issue copies of checks on a CD-ROM.  Additionally, they can arrange trust concentration accounts, which congregate information from numerous sub-accounts.  These modes of structuring accounts and providing information can afford important timesaving conveniences to local finance officers.

Maximization of Efficiency between Accounts

The ability to move money between accounts provides important flexibility.  Different methods of making transfers afford different benefits.  Writing a check provides a cost efficient method when timing is relatively unimportant.  Alternatively, when moving a substantial sum to a high earning account, an electronic transfer might be more beneficial.  A treasurer can effectuate a wire transfer either by a telephone request to the depository bank or by initiating an Automated Clearing House (ACH) transfer through an on-line banking system.

For municipal activities that require periodic transfers, either of a set amount or at the same frequency, such as administrating a payroll, convenience may be the ultimate priority.  For such activities, direct deposit or direct debit accounts provide important benefits.

Regardless of the needs of a municipality, banks offer products and services to meet those needs.  For a community to obtain appropriate services, however, the treasurer must first identify accurately the municipality’s needs.  As part this process, the treasurer must consider the value of office time, as well as the amount of time required to perform the various necessary tasks.  Only then will the treasurer be in a position to acquire the optimum services and products for the smallest cost.

Investment Services

Although banks offer a variety of investment services to assist municipalities in making investment choices, treasurers should bear in mind that they, themselves, bear the ultimate investment responsibility.  Also, they should insulate choosing investment services from choosing other banking services.  Moreover, they should ensure that any contract for banking services should expressly state that the municipality reserves the right to make investments through any bank or brokerage house it chooses.

The responsibility of treasurers to invest municipal monies arises under Ch. 44 §55B, which imposes upon them the duty to invest all monies “not required to be kept liquid for the purposes of distribution.”  The statute further obligates them to make their investments “in such a manner as to require the payment of interest on the money at the highest possible rate reasonably available, taking account of safety liquidity and yield.”  Ordinarily, municipal monies must be invested in accordance with Ch. 44 §55; trust monies must be invested in accordance with Ch. 44 §54, unless otherwise specified by a settlor.

Advisory and Management Services

Banks offer a wide range of investment services, ranging from comprehensively managing a municipality’s portfolio to providing custodial services.  In managing investments, a bank implements an investment plan, periodically reviews the plan, and alters it, as necessary, to meet the municipality’s changing needs.  Ordinarily, such extensive service would be limited to very substantial sums of money over extensive periods of time.  Custodial services involve performing administrative tasks associated with making investments.  Banks also provide retirement plan services, assisting municipalities to comply with the various governmental regulations that apply to such plans.

Bank Investment Products

The Federal Deposit Insurance Corporation (FDIC), an agency established to maintain stability and public confidence in the nation’s financial system, insures deposits up to $100,000 in virtually all United States banks and savings associations.  Some Massachusetts banks also maintain insurance from the Deposit Insurance Fund (DIF) on deposits over $100,000.  This additional insurance gives depositors with large balances an additional level of security.

The chief investment product offered by banks is the Certificate of Deposit (CD), which gives an investor a fixed rate for a fixed period of time.  Also popular are repurchase agreements.  These also offer a fixed rate over a fixed period; however, with these investments, the bank transfers a security to the municipality and agrees to repurchase it at the end of the fixed term.

Market-Based Investment Products

Banks also offer a number of market-based investment products, the foremost of which is a Money Market Mutual Fund.  This product operates like a checking account, except that the bank invests fund proceeds in short-term investments.  As with any mutual fund, the safety of these instruments depends on the investments of the fund manager.  Before investing in any mutual fund, the treasurer should carefully examine both the fund’s prospectus and its annual report.

United States Government Treasury Bills constitute the safest term investment. Issued and fully backed by the U.S. Government, they have a fixed rate over a fixed term (one year or less) if held to maturity.  U.S. Government Agency Securities, known as “Discount Notes,” have similar features, except they are issued and backed by an agency of the federal government.

Given the wide variety of investment options available, treasurers, in light of their statutory obligation to make circumspect investments, must stay well-informed about investment service options.  Only through maintaining regular contacts with several banks can treasurers reliably match their needs with the most appropriate products and services available.

Credit Services

Banks also render a variety of credit services related to managing municipal debt.  To safeguard the best interests of their respective municipalities, treasurers should separately obtain credit service, rather than bundling such services with their more routine, recurring banking services.

Short-term Notes  

To respond to temporary cash shortages, to provide cash for initial project costs issued in anticipation of bond proceeds and to fund a project in anticipation of a state or federal grant, municipalities issue short term debt.  State law recognizes four, separate types of short-term debt instruments:

1. Revenue Anticipation Note (RAN) or Tax Anticipation Note (TAN)— A short-term loan issued to be paid off by revenues, such as tax collections and state aid. RANs are full faith and credit obligations. (44:4)
2. State Aid Anticipation Note (SAAN)— A short-term loan issued in anticipation of a state grant. (44:6A).
3. Federal Aid Anticipation Note (FAAN)— A short-term loan issued in anticipation of a federal grant. FAANs are full faith and credit obligations.
4. Bond Anticipation Note (BAN)— A short-term note to provide cash for initial project costs issued in anticipation of bond proceeds.  BANs may be issued for a period not to exceed five years, provided principal repayment begins after two years. (44:17)  Communities with approved projects on the School Building Assistance (SBA) priority list may defer principal payments up to five years.  The final maturity date of the project borrowing, beginning from the date the short-term note was issued, may not exceed the term specified by statute. (44:7 & 8)  BANs are full faith and credit obligations.

Long-term Borrowing  

Municipalities may issue long -term debt only for those purposes enumerated in the sub-sections of Ch. 44 §§7 &8.  Such debt is payable within the periods specified in the respective sub-sections.  Many banks provide long-term borrowing services including financial advisory services.  They can provide assistance with underwriting bond issues, as well as with bond redemption, transfer and registration.

Treasurers should contract long-term borrowing services on an as-needed basis through separate contractual agreements, rather than bundling them with more routine, recurring banking services, since such credit services involve long-term commitments that will certainly be different in nature from regular banking service arrangements.

Procuring Banking Services

Long-Term Borrowing Services

Acquiring banking services is subject to the Uniform Procurement Law, Ch. 30B.  Accordingly, the process to procure long-term borrowing services varies with the cost of those services and the length for which those services are contracted. 

Chapter 30B establishes three sets of procedures for awarding supply and service contracts depending on the value of the contract.  Specifically:

• Contracts for goods or services costing less than $5,000 must be obtained through the exercise of sound business practices. [30B:4(c)]
• Contracts for goods or services costing $5,000 or more, but less than $25,000, require the procurement officer to seek written or oral quotations from no fewer than three persons customarily providing such supply or service. [30B:4(b)]
• Contracts for goods or services costing $25,000 or more require a formal advertised competition using sealed bids or proposals.  A community using the sealed bid process must award the contract to the lowest responsible and responsive bidder. (30B:5)  A community using the proposal process may evaluate proposals on the basis of criteria other than price pursuant to criteria previously set forth in the request for proposals. (30B:6)

Banks outside the Community

In some municipalities, particularly smaller ones, the competitive process will necessitate including banks outside the local community.  Although such a process might clash with a desire to conduct business with the local bank, it increases the likelihood of a more beneficial contract for the community.

Steps in the Competitive Bidding Process

Generally, the competitive bidding process will include the following steps:

• Reviewing the present system and determining the additional services desired and available.
• Preparing a request for proposals (RFP) and distributing the document to all banking institutions in the designated area. (See sample RFP, pages 12-13 through 12-18.)
• Holding a pre-bid conference for all potential bidders in order to answer questions and to clarify the RFP.
• Receiving submissions of proposals.
• Evaluating proposals.
• Awarding and executing a contract to the winning bidder. (See model agreement, pages 12-19 through 12-21.)
• Implementing the contract.

Evaluating Relationship with Depository Bank

Evaluating the relationship between a municipality and its depository bank should not end with the selection of a bank in which to make deposits.  Rather, the munici­pality should evaluate its relationship with the bank on at least a quarterly basis.  This evaluation should include verification that the municipality is receiving the services contracted for and at the agreed price.  While it is easy to verify the provision or non-­provision of services, determining costs is more difficult.  The municipality should require its depository bank to provide a periodic statement of the average earnings the bank has achieved on the deposits of the local government, combined with a statement of the costs of services provided to it.  This information gives the municipality a basis on which to evaluate the bank’s ongoing performance.

Computing the Cost of Banking Services

Banks price their services primarily in two ways:

• Direct payment : The bank prices each service offered, and the munici­pality reimburses the bank periodically for charges incurred during that period.
• Compensating balances : The bank provides particular services in return for the municipality’s maintaining a specified, minimum balance in a non-interest bearing account.

Compensating Balances

Ch. 44 §53F expressly permits a municipal treasurer to enter into a formal “compensating balance” agreement with a banking institution, so long as the agreement complies with the following requirements.

• The agreement may include only those types of services prescribed by the Commissioner of Revenue.
• Each agreement must include the total amount that must be required to be on deposit at all times and, if this amount may vary from time to time, the agreement must specify a minimum total amount that must be on deposit at any time.
• The agreement must be approved by the town meeting, in towns, and by the mayor and council, in cities.
• The treasurer must submit a compensating balance report to the Commissioner of Revenue.

(See guidelines issued by the Division of Local Services, as well as a summary of the law, on pages 12-22 through 12-35.)