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MRSC: Gift of Public Funds

This page provides information about the Gift of Public Funds doctrine in Washington State and how it applies to the local and state governments.

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Overview

The Gift of Public Funds doctrine refers to a fairly broad set of prohibitions contained in two sections of the Washington State Constitution. While the two sections vary to some degree, they focus on a common theme of barring the state government and its political subdivisions from conferring benefits on private parties in ways that might disadvantage public interests.

It is a good idea for many government officers and even some government employees to have at least a basic understanding of the doctrine, as its broad scope causes it to crop up in a variety of contexts. Consider, for instance, the following three scenarios:

Scenario 1: A county has surplus land that it wants to dispose of and a nonprofit group would like the land to build a community center for an adjacent residential area. The county decides that this is a laudable purpose for the otherwise undeveloped land and wants to donate it to the nonprofit.

Scenario 2: A local business has fallen behind on its utilities and is struggling financially. The business has been part of the community for as long as anybody can remember so the city decides to forgive the utility charges to help the business stay afloat.

Scenario 3: A well-known restaurateur wants to lease a space on public property and open a new location; however, he is having trouble getting a loan to build the restaurant. The bank will give the loan if the city were to agree in the lease to purchase the improvements to the property in the event of a default. The city is fairly confident that the restaurant will be a success and that it will never have to follow through on any such agreement.

So, which of these is allowed under the Gift of Public Funds doctrine? Probably none of them. However, before discussing why this is, it would be best to start with where the doctrine comes from.

Origins of the Doctrine

The two sections of the state constitution from which the doctrine stems are as follows:

  • Article 8, Section 5, Credit not to be loaned: The credit of the state shall not, in any manner be given or loaned to, or in aid of, any individual, association, company or corporation.
  • Article 8, Section 7, Credit not to be loaned: No county, city, town or other municipal corporation shall hereafter give any money, or property, or loan its money, or credit to or in aid of any individual, association, company or corporation, except for the necessary support of the poor and infirm…

This topic page focuses on Section 7, as Section 5 only applies to the state government. However, it is worth noting that the conduct that is prohibited by the two sections has been construed similarly by the courts despite the different wording.

What is Prohibited?

In short, Article 8, Section 7 prohibits any local government entity from bestowing a gift or lending money, property, or the entity’s credit to a private party. At first glance, these prohibitions may seem fairly clear; however, there has still been some confusion over what exactly is barred. After all, what exactly is a gift and what does it mean for a municipality to lend its credit? The Washington courts have helped to clear up some of this ambiguity and to better define the prohibited conduct.

In assessing whether a gift has been bestowed to a private entity, the courts have used a two-step process. First, they determine whether the funds are being expended to carry out a fundamental purpose of the government. If so, then no gift of public funds has been made. Otherwise, the court looks to see whether the government entity had a “donative intent,” and whether it received an adequate return for the transfer.

  • CLEAN v State — Holding that, although constructing a baseball stadium is a “public purpose,” it is not a “fundamental purpose” of the government. However, since there was no donative intent, and adequate consideration would be received, the Stadium Act did not violate the constitution. (This case arises under Article 8, Section 5, but the analysis should be the same under Section 7.)

The courts have construed a gift to include more than just the act of giving a benefit. A gift can also consist of a government entity forgiving a debt or duty that is owed to it.

  • City of Yakima v. Huza — Holding that Article 8, Section 7 would be violated if the city enacted an ordinance that would repeal a tax on private utilities and allow credits on future taxes to equal those previously collected under the repealed tax.

The bar on loaning a government entity’s “credit” has been interpreted somewhat broadly, and the courts have identified specific conduct that government entities cannot engage in. This includes, but is not necessarily limited to:

  • Acting as a surety or guarantor for a private entity;
  • Lending the government entity’s name or status to a private enterprise, or;
  • Acting as a financing conduit for the purchase of private property for resale to a private entity.

MRSC’s consultants have written a number of blogs on the topics of incentives, donations, and the Gift of Public Funds doctrine.

Why the Prohibitions?

In Japan Line v. McCaffree the court stated: “The manifest purpose of these provisions in the constitution is to prevent state funds from being used to benefit private interests where the public interest is not primarily served.”

But why were the drafters of Washington’s constitution so concerned about this? The answer is tied primarily to the history of railroads. In the 19th century, government entities, particularly those in the West, were extending their credit to railroad companies and subsidizing construction in order to attract and spur growth. However, such endeavors were not always successful and there were a number of instances where the abandonment of railroad projects placed serious financial burdens on the governments that had provided financing.

The Washington constitution was drafted during a time when many were becoming concerned about these railroad defaults and the burdens they were placing on governments. To prevent Washington from being caught up in the sort of trouble that others were finding themselves in, the drafters included Article 8, Sections 5 and 7. The constitutional prohibitions would mitigate the risk of loss of public funds by ensuring that such loss was only risked in pursuit of the public interest, and would ensure that the public would not be left holding the bill for failed private enterprises.

Today, there is probably less concern about private railroad defaults, but there are still plenty of opportunities for public funds to be put at risk for the benefit of private parties. Article 8, Section 7 continues to help mitigate that risk.

Permitted Actions

While the prohibitions created by Article 8, Section 7 are broad, there are a number of actions that government entities can engage in. Some of these are exceptions that stem from Section 7 itself or from subsequent amendments to the Washington State Constitution, while others are actions which the Washington State courts or the Attorney General have construed as being outside the scope of the prohibitions.

Section 7 contains an express provision for providing “necessary support for the poor and infirm.” It is particularly worth noting that the courts and the Attorney General’s office have interpreted this exception as being disjunctive, allowing for the support of individuals who are poor or who are infirm. This was made particularly clear in AGO 1991 No. 7.

A number of exceptions to Section 7 have been created by subsequent amendments to the state constitution. These exceptions are as follows:

  • Public funds may be used by port districts “for industrial development or trade promotion and promotional hosting.” (Article 8, Sec. 8)
  • Political subdivisions can use proceeds from the sale or distribution of water, energy, or stormwater or sewer services to finance the acquisition and installation of materials and equipment for more efficient use of water or energy. However, such financing can only be used in regards to existing structures and cannot be used for conversion from one energy source to another. (Article 8, Sec. 10)
  • Agricultural commodity commissions can use agricultural commodity assessments “for agricultural development or trade promotion and promotional hosting.” (Article 8, Sec. 11)
  • Government entities may, where authorized by the State legislature, issue revenue bonds to fund industrial development projects. (Article 32, Sec. 1)

Government entities may use public funds to carry out a “fundamental purpose of the government.” State and local governments regularly confer benefits on their citizens who are, of course, private parties. However, when the grant of those benefits is part of a “fundamental purpose” of the state, such as protecting the public health, safety, and welfare, no violation occurs.

  • Hudson v City of Wenatchee — Helping citizens into locked cars is a “community caretaking” function, which is a fundamental purpose of the government, such that no gift of public funds occurs.

No violation occurs when a government entity assists in the acquisition and transfer of property to another entity that is serving wholly public functions. The courts have recognized that this at least extends to transfers to the federal or state government, counties (including those in another state), state agencies, special purpose districts, and American Indian tribes.  It is of note that, in such situations, government entities still must ensure compliance with any applicable statutes such as RCW 43.09.210.

  • Lancey v King County — An act allowing King County to condemn land for a right-of-way for a federal canal project did not violate Article 8, Section 7 since the federal government is not a private entity.

State and local governments are not prohibited from serving as a conduit to transfer federal funds to private entities. This exemption stems from AGO 1970 No. 24 where the Attorney General found no violation of Article 8, Section 7 when a city transferred funds from HUD to federally approved recipients, as those funds never actually became city funds. However, in AGO 1973 No. 18, the Attorney General clarified that such an exemption only applies if the federal government reserves control over either the designation of recipients or the size of grants. Otherwise, the funds would become city or state funds subject to Article 8, Sections 5 or 7.

A deposit of public funds into insured, interest-bearing accounts does not violate the prohibitions on lending public funds. However, in State ex rel. Graham v. Olympia the court indicated that this exemption may depend on the motivation of the public entity. No violation occurs where the government entity’s primary purpose for the deposits is to avail itself of the return incidental to the deposit of its funds rather than intending to aid the banking institutions.

Avoiding a Violation

Before government entities consider transferring property or funds to a private party, either on a permanent or temporary basis, they should assess the purpose of the transfer, as well as what they are receiving in return, in order to ensure that the transfer is not gifting a benefit to the private party.

Gift issues often arise in the context of disposal of property a government entity no longer needs. Development of, and compliance with, surplus procedures can help ensure that adequate consideration is received to avoid a gift. For more information on this, refer to our topic pages:

What Happens if a Violation Occurs?

If a violation of Article 8, Section 7 occurs, or is suspected of having occurred, there are a few different types of consequences.

  • If a violation is found by the state auditor, then the auditor’s office will issue an audit finding. The exact consequences of such a finding can vary depending on the seriousness of the violation, but in any event, audit findings are best avoided.
  • If a lawsuit is filed and the court holds that a violation has occurred, then it is likely the court will void the contested transaction or issue an injunction prohibiting it. Litigating such cases can be very costly and can have political ramifications.
  • In cases where a municipality suspects it may have committed a violation, it should raise the issue with its legal counsel and discuss options for addressing the potential violation.
Last Modified: February 23, 2024