WASHINGTON -- The Environmental Protection Agency has dropped a controversial draft plan to establish a financial rating system for the 50 state revolving funds that could have posed conflicts for funds that have already obtained credit ratings, EPA and state officials said.

The agency's staff recently drafted a manual outlining plans to impose an elaborate system of financial reporting and standards on the revolving funds, which were set up under the Clean Water Act to help finance more than $100 billion of wastewater treatment projects nationwide.

The EPA plan originally was to establish recommended ratios for reserves, assets, liabilities, and other features of the funds. Using these ratios and other information, the agency would have scored each state's fund -- on a scale of one to five -- for financial soundness and management practices, said Michael Quigley, director of the agency's municipal support division.

But state officials and investment bankers vehemently protested the new rating system, saying it duplicated the work of the New York rating firms for the dozen or so funds that have obtained ratings on more than $2 billion of outstanding bonds.

"Why would the EPA want to do something that somebody else already does brilliantly?" said Linda Eichmiller, the deputy director of the Association of State and Interstate Water Pollution Control Administrators.

In addition, state officials and investment bankers said, the EPA rating system could have posed conflicts with the ratings given by the credit agencies. One state official said, without specifying, that the EPA's recommendations might have even resulted in the downgrading of some state issues.

Christine Ruppert, vice president of Standard & Poor's Corp., said she had heard rumors about the EPA's proposed rating system possibly posing problems for pooled bon offerings, but she had not seen the EPA plan and was not aware of any direct conflict.

She said that, if anything, the agency might encourage less conservative financial practices than the credit firms. This is because its primary concern is not creditworthiness but ensuring that the money it provides states is used quickly and aggressively to address environmental problems, she said.

"Standard and Poor's might want them to leverage a little less than the EPA," she said. "They're ranking the programs themselves, while we evaluate the borrowers as part of an entire credit quality rating. What we do is certainly very different from a programmatic ranking."

Mr. Quigley said investment bankers and state officials explained how the proposed rating system could have caused problems for the states and their funds' credit ratings at a two-day, closed-door meeting late last week. The EPA official had called the session to let them air their complaints.

Based on discussions at the meeting, he said, he decided to drop the proposal. "We're out of the scoring and rating business. I don't see us doing any AA or BB, or 1-2-3-4-5 type of thing," he said, adding that "I was not wedded to the idea."

The problem with the scoring system, he said, was that it "could have been misleading to the bond market." It also was "subjective" and could have produced some perverse results, such as encouraging states to hoard the capitalization funds they receive from the federal government each year to improve their scores, rather than use the funds to build new projects, he said.

James N. Smith, executive director of the Council of Infrastructure Financing Authorities, said the EPA staff did not seem to be entirely aware that the rating agencies already go over a state's finances "with a fine-toothed comb."

"What they wanted was an information dump, but in the end, they agreed it wasn't altogether pertinent," he said.

Also at the recommendation of the dealers and state officials, Mr. Quigley said he decided to considerably cut back other requirements the agency had been considering imposing on the funds. "We've reoriented more toward what the states believe is useful and significant," he said.

The EPA will move ahead with its plans to collect information and impose standards in six to eight areas that it believes are fundamental to preserve the health of the funds, he said.

Among the "general areas of concern," he said, will be "the number of defaults occuring in a state program, how quickly money in the funds is being converted into construction work," and how quickly states are converting loan and bond repayments into loans for new projects.

Subscribe Now

Access to authoritative analysis and perspective and our data-driven report series.

14-Day Free Trial

No credit card required. Complete access to articles, breaking news and industry data.