The City of Harrisburg, Pa., has settled securities fraud charges with the Securities and Exchange Commission in the first-ever case in which the SEC has charged a municipality for misleading statements made outside of its securities disclosure documents.

The SEC charged Harrisburg with securities fraud on Monday for its misleading public statements when its financial condition was deteriorating and financial information available to municipal bond investors was either incomplete or outdated. The SEC announced the settlement with the city on the same day that the charges were announced.

An SEC investigation found that the misleading statements were made in the city’s budget report, annual and mid-year financial statements, and a State of the City address. The SEC said it found that Harrisburg failed to comply with requirements to provide certain ongoing financial information and audited financial statements for the benefit of investors holding hundreds of millions of dollars in bonds issued or guaranteed by the city.

As a result of Harrisburg’s non-compliance from 2009 to 2011, investors had to seek out Harrisburg’s other public statements in order to obtain current information about the city’s finances. However, very little information about the city’s fiscal situation was publicly available elsewhere. Information that was accessible on the city’s Web site such as its 2009 budget, 2009 State of the City address, and 2009 mid-year fiscal report either misstated or failed to disclose critical information about Harrisburg’s financial condition and credit ratings.

The SEC separately issued a report Monday addressing the disclosure obligations of public officials and their potential liability under the federal securities laws for public statements made in the secondary market for municipal securities.

“In an information vacuum caused by Harrisburg’s failure to provide accurate information about its deteriorating financial condition, municipal investors had to rely on other public statements misrepresenting city finances,” said SEC Division of Enforcement co-director George S. Canellos in a statement. “Statements that are reasonably expected to reach the securities markets, even if not prepared for that purpose, cannot be materially misleading.”

Harrisburg is a near-bankrupt city under state receivership largely due to approximately $260 million in debt the city had guaranteed for upgrades and repairs to a municipal resource recovery facility owned by the Harrisburg Authority. As of March 15, 2013, Harrisburg has missed approximately $13.9 million in general obligation debt service payments.

Harrisburg had not submitted annual financial information or audited financial statements since submitting its 2007 Comprehensive Annual Financial Report to a Nationally Recognized Municipal Securities Information Repository in January 2009. Beginning in July 2009, Harrisburg was obligated to submit financial information and notices such as principal and interest payment delinquencies and changes in bond ratings to a central repository known as the Electronic Municipal Market Access system maintained by the Municipal Securities Rulemaking Board.

Harrisburg did not submit its 2008 financial to the electronic system, instead erroneously submitting it to a former municipal securities information repository on March 2, 2010. Harrisburg did not submit its 2009 Comprehensive Annual Financial Report to the EMMA system until Aug. 6, 2012, and did not submit its 2010 CAFR to EMMA until Dec. 20, 2012. The city did not submit material event notices about its failure to submit annual financial information or its credit rating downgrades until March 29, 2011, after the SEC had commenced its investigation.

Therefore, the SEC’s order finds that at a time of increased interest in the Harrisburg’s financial health due to the deteriorating financial condition of The Harrisburg Authority, the city created a risk that investors could purchase or sell securities in the secondary market on the basis of incomplete and outdated information. For current information, investors had to review other public statements from the city about its fiscal situation.

For example, Harrisburg’s 2009 budget and its accompanying transmittal letter were accessible on Harrisburg’s website. By the time the 2009 budget was passed, Harrisburg was aware of the Authority’s projected budget deficits and that Dauphin County was challenging a rate increase. As a result, the Authority was unlikely to have sufficient revenues to pay its 2009 debt service obligations. However, Harrisburg’s 2009 budget as adopted did not include funds for debt guarantee payments. The 2009 budget also misstated Harrisburg’s credit as being rated “Aaa” by Moody’s when in fact Moody’s had downgraded Harrisburg’s general obligation credit rating to Baa1 by December 2008.

According to the SEC’s order, another public statement available to investors on the city’s Web site was the annual State of the City address delivered on April 9, 2009. The address only discussed the municipal resource recovery facility as a situation that was an “additional challenge” and an “issue that can be resolved.” The address was misleading because it failed to mention that by this time, Harrisburg had already made $1.8 million in guarantee payments on the resource recovery facility bond debt. It also omitted the total amount of the debt that the city would likely have to repay from its general fund. By this time, Harrisburg knew that the Authority had failed to secure the requested rate increase, making it likely that Harrisburg would have to repay $260 million of the debt as guarantor.

Harrisburg’s 2009 mid-year fiscal report available on its Web site was designed to provide a snapshot of budget-to-actual figures at the middle of the year. However, the report did not reference any of the guarantee payments the city had made on the municipal resource recovery facility debt, which at this mid-year point totaled $2.3 million (7 percent of its general fund expenditures), according to the SEC.

“A municipal issuer’s obligation to provide accurate and timely material information to investors is an ongoing one,” said Elaine C. Greenberg, chief of the SEC’s Enforcement Division’s Municipal Securities and Public Pensions Unit, in a statement. “Because of Harrisburg’s misrepresentations, secondary market investors made trading decisions based on inaccurate and stale information.”

The SEC’s order requires Harrisburg to cease and desist from committing or causing violations of the securities laws. The city neither admitted nor denied the findings in the order. In the settlement, the SEC considered Harrisburg’s cooperation in the investigation and the various remedial measures implemented by the city to prevent further securities laws violations.

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