Central Falls, RI, credit cut, bankruptcy odds rise

NEW YORK, June 17 (Reuters) - Central Falls, a tiny cash-starved Rhode Island town, suffered twin blows on Friday as Moody's Investors Service cuts its credit one notch to Caa1 and warned there is a higher likelihood of a bankruptcy.

Not only does the outlook remain negative, Moody's said in a statement, but there also is a risk Central Falls will default on its debts early in the new budget year that starts on July 1 -- unless the town is propped up with extra revenue.

"It is unclear what level of state support, if any, will be forthcoming," Moody's said.

Though many states, counties, cities and towns around the nation have collected more revenue this year than during the depth of the recession, all too often the extra cash is not enough to close budget deficits and pay long-term liabilities.

The hurdles facing Central Falls are formidable: it has a high-level of fixed costs yet only a limited ability to raise revenue, Moody's said. The median family income is just under 54 percent of the U.S. average.

Though bankruptcies and defaults are rare in the $2.9 trillion municipal bond market, investors fret about the severity of fiscal problems facing some localities, including Harrisburg, Pennsyvlania and Alabama's Jefferson County.

The court-appointed receiver for Central Falls, which has just over 18,000 people, estimated there is a $4.8 million hole in the city's next budget, Moody's said. This forecast assumes Central Falls fully funds its pension plan -- which it failed to do the previous year.

Governors and mayors around the nation -- from California to New York -- are trying to curb pensions for unionized workers but the benefits often are protected by law.

"While we expect the city to seek expenditure relief through negotiated concessions with current employees and retirees, it is unclear how successful these negotiations will be or if any negotiated settlement will be sufficient to close the projected (pension) shortfall," Moody's said.

Central Falls increased its motor vehicle excise tax but collections proved disappointing and it also must pay unexpected expenses, including overtime and the receiver's compensation, the credit agency said.

Though Moody's said Central Falls likely will be able to pay off its tax anticipation note on June 30, "a significant cash shortfall will occur early in fiscal 2012, increasing the possibility of a failure to pay the $473,302 debt service payment that is due on July 15," the agency said.

Rhode Island's legislature is weighing a bill to put a lien on so-called ad valorem revenue for bondholders, but Moody's said it was not clear this approach -- if enacted -- would withstand a bankruptcy filing. The term ad valorem refers to a tax based on how much real estate or personal property are worth.

The Moody's downgrade affects nearly $21 million of outstanding debt and could force Central Falls to pay higher interest rates when it borrows money.

Moody's on Friday also affirmed at Ba1 its rating on the the Rhode Island health and Education Building Corporation's 2007B pool financing, of which Central Falls is a minor participant. But the outlook was revised to negative.

(Reporting by Joan Gralla; Editing by Diane Craft)