Harvey Highlights
Houston MUD Bond
Development Funding
By Laila Assanie and Michael Weiss

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ABSTRACT: Historic flooding
from Hurricane Harvey
struck many Houston
housing developments
whose infrastructure was
funded with municipal
utility district (MUD) bonds.
The tax-exempt debt
has been widely used in
the Houston area, and
in the storm’s aftermath,
MUD bond issuance has
come under review with
the possibility investors
may seek greater future
compensation.

s the months pass following Hurricane Harvey’s inundation of
southeast Texas, the costs of the
epic storm continue to accumulate. The
deluge from the slow-moving system exceeded 50 inches over parts of Houston
and Galveston from Aug. 25 to Aug. 30,
producing record rainfall totals along
46 percent of river forecast points in the
region.1
Direct damage from Harvey has been
estimated at $73 billion as the ripple
effects continue.2 While hurricane-force
winds devastated communities near the
Coastal Bend—notably, Port Aransas,
Rockport and Victoria—the storm’s
flooding rains in the Houston area
provided some of the most dramatic images. Harris County, the most-populous
county in the state, expects property tax
receipts to decline in the coming year as
homeowners seek reappraisals that reflect lower values for flooded properties.
The cost of building new housing in
many areas is sure to rise as officials
recalibrate regulations following the
storm. A less-visible financial consequence could involve the costs of new
infrastructure financed with tax-exempt
municipal utility district (MUD) bonds.
The Houston City Council, which
has historically avoided limitations on
construction, approved regulations that
will require new homes built in a 500year floodplain—with a presumed 0.2
percent likelihood of flooding in a given
year—be elevated 2 feet off the ground.3
Harris County also implemented
new construction guidelines, including
one for properties within the 100year floodplain. The policy will likely
increase the cost of new construction
both within the city of Houston and in
unincorporated areas of Harris County.
For instance, raising a slab foundation
1 foot above grade at initial construc-

tion using fill dirt runs roughly $13,000
to $14,000, according to a National Association of Home Builders estimate.4
Other cost pressures may appear
more gradually. These include the
MUDs that have been a cornerstone
of Houston residential development.
Although MUDs are found statewide,
they are most prominent in the Houston metro area, where developers use
them and their authority to issue taxexempt debt—for which investors expect compensation for risk—to provide
water, sewer and drainage infrastructure and services for new tracts.
Harvey’s massive flooding heightened awareness of hazards that may
prompt investors to seek a greater risk
premium for future MUD bond issues.
Among the concerns is rising mortgage
delinquency rates that could lead to
foreclosure, affecting property inside
and outside of MUDs.5
The extensive use of MUD bonds,
often repaid over 10 or more years, underscores characteristics that differentiate residential construction in Houston
from other areas, such as Dallas. MUDs
provided the means to more quickly
develop then-distant, massive parcels
of land into master-planned communities such as The Woodlands, Kingwood
and First Colony that were sometimes
far from existing utility services.
By comparison, established North
Central Texas water utilities and the
more established suburban communities have created a more structured
framework for providing basic utilities
in new residential projects.6 Developers in Houston, working through the
MUDs they help form, operate with
many fewer strictures and can set some
of their own rules.
MUDs count on homeowners in the
new developments to repay the costs

Southwest Economy • Federal Reserve Bank of Dallas • Second Quarter 2018

3

 CHART

1

and raise home prices in residential
developments. And rising costs for
homeownership might diminish one
of the Houston area’s traditional selling
points: affordability.

Metro Houston Favors MUDs for Housing Construction
$339,459

Average price of a new home within a MUD

$492,983

Average price of a new home outside a MUD

22%
New-home sales within MUDs

78%

New-home sales outside MUDs

NOTES: MUDs are municipal utility districts. The quality and size of homes compared may vary somewhat. Location
of the home may also affect pricing.
SOURCE: "Impact of Harvey on Houston MUDs," Texas Association of Water Board Directors, Meyers Research,
April 2018.

MAP

1

Flooding Causes Widespread Damage to Homes
in Houston Metro Area

Number of homes damaged

Tracing Harvey’s Impact
Damage claims filed with the Federal Emergency Management Agency
(FEMA) provide an overview of the
storm’s effects on Houston (Map 1).9
FEMA data, compiled at the ZIP code
level, show pockets of damage around
the periphery of the metro Houston
area that directly resulted from the torrential rainfall and those from stormrelated releases of water from the
Addicks and Barker reservoirs in the
northwest and western reaches of the
city three days into the deluge.
A good portion of central Houston sustained relatively less Harvey
damage, particularly away from the
area’s bayous. Buffalo Bayou—running
generally west to east—handled runoff
from Addicks and Barker reservoirs
and other collection points, moving
it to the Houston Ship Channel and
eventually to the Gulf of Mexico.

Under 50
50-249
250-499
500-999
1,000-1,999
2,000-2,999
3,000-3,999
4,000-4,999
5,000+

NOTES: Flooding data are compiled at the ZIP code level. Black outlines represent active municipal utility
districts (MUDs).
SOURCES: Federal Emergency Management Agency; Texas Commission on Environmental Quality.

of infrastructure, which by virtue of the
lack of economies of scale can be pricier than bigger-city projects.7 That said,
homes in MUDs are typically cheaper,
which makes up for the larger initial tax
bill (Chart 1). Although the MUDs are
government entities—much like park
and school districts—they are initially
governed by boards on which the developer’s interests are represented.

4

Of the 968 active MUDs statewide,
662 are in metropolitan Houston.8
The high concentration of MUDs in
the Houston area may expose this
financing model to new risks—those
associated with more frequent and
catastrophic flooding events.
While MUDs will likely remain a
vital part of the developer’s toolkit,
this type of debt could become costlier

Creating Housing Developments
Developers in Houston extensively
used MUDs as the metropolitan area
expanded outward. The districts provide an alternative to annexation by
neighboring jurisdictions, which could
build necessary infrastructure. MUDs
help cities sidestep the potential of
incurring additional service costs, and
developers can avoid some municipal
regulations.
The Texas Commission on Environmental Quality administers the
creation of water districts, a class of
special utility districts including MUDs,
though not their day-to-day operation.
Creating a MUD is relatively easy. Filing an application to establish a MUD
costs $700 and can be completed within 120 days with approval by the state
environmental commission. Alternatively, the Legislature can authorize a
district through the legislative process.
Local MUD boards, often including
developer and resident representatives,
oversee management.

Southwest Economy • Federal Reserve Bank of Dallas • Second Quarter 2018

 MUDs are legal entities with taxing
powers. A MUD sells municipal bonds
to investors based on the assumption
that as new houses are purchased, their
owners will pay MUD taxes to retire the
debt incurred for subdivision improvements. Prior to the bond sale, the
developer bears the upfront cost of this
infrastructure.
Homebuilders gain a sales advantage
through a lower cost for lots that reflects the improvements financed with
tax-exempt municipal bonds rather
than pricier bank or corporate debt.
Homeowners may benefit from the
lower house prices, requiring a lower
down payment. While house prices
are generally less than they might
otherwise be, homeowners’ monthly
payments are comparable when often
more-expensive MUD-related property
taxes are factored in.

Growing MUD Reach
While the flourishing MUD system
has allowed developers to readily supply
housing to meet the demands of Houston’s rapid growth, the expansion has
been largely piecemeal. There are 394
active MUDs in Harris County alone. Almost four-fifths of new Houston homes
sold in 2016 were in a MUD, according
data compiled by Meyers Research, a
market research and consulting firm.10
In the rapidly growing western
suburbs in Fort Bend County, 149
MUDs are in operation; to the north, in
Montgomery County (which includes
a portion of The Woodlands), 85 MUDs
are similarly active.
Outstanding MUD debt volume as
of April 1, 2018, totaled $10.1 billion
statewide, 84 percent of which was tied
to districts in the Houston metro area
(Map 2).11 Harris County led the pack,
with nearly $5 billion in outstanding
MUD debt. Fort Bend County was next
with $1.9 billion, followed by Montgomery County with $757 million.12
Travis County, the most-populated
county in the Greater Austin area, was
fourth with $594 million in MUD debt.
Other large Texas counties, such as
Dallas and Tarrant, had more modest
levels at $47.9 million and $40.8 million, respectively.

MAP

Outstanding MUD Bond Volumes in Texas
Highest in Houston Metro Area

2

No MUD bonds
Less than $2.5 million
$2.5 million to $10.5 million
$10.5 million to $30 million
$30 million to $50 million
$50 million to $100 million
$225 million to $500 million
$500 million to $1 billion
$1 billion to $3 billion
$3 billion to $5 billion

NOTES: MUD refers to municipal utility districts. There were no counties with total MUD bonds in the $100 millionto-$225 million range.
SOURCE: Bloomberg.

CHART

2

Texas MUD Bonds Rated by Moody's Mostly Mid-Grade Debt

Millions
2,500

2,436

2,000
1,500
1,000

839

500
0

9

–

Aa1

Aa2

172
Aa3

260
A1

A2

A3

185

210

Baa1

Baa2

84

19

Baa3

WR

NOTES: Municipal utility district (MUD) bond ratings, listed from highest to lowest, show distribution of investmentgrade issuance. WR indicates withdrawn rating. Data are as of April 1, 2018.
SOURCES: Bloomberg; Moody's Investors Service.

Ratings attached to bonds attempt
to grade the risk to investors. The ratings affect the interest rate investors
will demand to purchase and hold the
debt. MUD bonds have traditionally
been rated lower relative to the debt of
Texas cities, for example, while at the
same time carrying many of the same
assurances of payment that come from
being able to levy taxes on property
owners. MUD-funded projects tend to
be confined to the district and, unlike
city-built projects, possess little extra
capacity for later expansion.13

Ratings vary among issuers, based
on the underlying creditworthiness,
including default risk (Chart 2). As a
group, MUD bonds are in the middle
of the rating scales of the two principal ratings firms, Standard & Poor’s
and Moody’s Investors Service, with
11 percent rated at a lower investment
grade.14 Those with “Baa” ratings “may
be characteristically unreliable over
any great length of time” and have
“speculative characteristics,” according to Moody’s. By comparison, the
Fort Bend County city of Sugar Land,

Southwest Economy • Federal Reserve Bank of Dallas • Second Quarter 2018

5

 CHART

3

Houston Metro Mortgage Delinquencies Spike Following Harvey

Percent of total mortgages
6.0
5.0
90+ days delinquent
Foreclosure

4.0
3.0
2.0
1.0
0.0

‘06

‘08

‘10

‘12

‘14

‘16

‘18

NOTES: Shaded area represents the Great Recession. Hurricane Harvey struck in August 2017.
SOURCE: Black Knight McDash Data.

an 88,000-population community with
many MUDs in the vicinity and whose
population has more than doubled
since 1990, boasts an Aa1 rating—“high
quality by all standards.”
Some MUDs are created with the expectation that nearby communities will
annex them once they are built out and
homeowners have taken responsibility
for virtually all of the bonds’ outstanding debt. When annexation occurs, the
city usually takes responsibility for any
outstanding MUD bonds. Most cities’
relatively higher credit ratings are
conferred on the assumed MUD debt.15
Thus, the MUD ratings in Chart 2 appear more creditworthy than if only
the debt of free-standing districts were
depicted. Some MUD bond issues may
also carry insurance, helping to boost
their ratings and protect investors.
In the days following Harvey,
Moody’s placed under review for
downgrade the debt of 32 MUD districts where a large number of homes
suffered flood-related damage.16 S&P
issued a negative outlook for three
additional MUDs, stating that the
significant damage to homes in these
districts could lead to a reduction in assessed value, subsequently impacting
tax revenue.17
Though ratings of most of those
under review by Moody’s were confirmed—meaning there was no change
in investor risk—a handful were down-

6

graded.18 Subsequent storm-remediation actions by various municipalities,
including amended building codes and
ordinances, suggest concern about an
upswing in weather events. Harvey was
the fourth major flooding episode in
Greater Houston since 2008.19
Many of the MUDs whose creditworthiness was reassessed were located in
suburban Houston and in areas affected by overflow from the reservoirs—the
same locations that sustained the most
serious damage from the storm, as
shown in Map 1.
More immediately, the volume of
new MUD issues in Houston between
September 2017 and March 2018
declined 11 percent compared with
the same prior-year period, in part
because the area was at a standstill for
nearly two weeks due to Harvey. Other
potential issuers likely sought to gauge
market receptivity before proceeding
with new bond sales.

Climbing Mortgage Delinquencies
With tens of thousands of homes
flooded by Harvey, some affected homeowners have struggled financially. Mortgage loan delinquencies in the Houston
metro area climbed in the months following Harvey and remain elevated.
The share of mortgages 90 days or
more delinquent rose from a low of 1.3
percent in July 2017 to a high of
4.8 percent in December 2017,

according to Black Knight McDash Data
(Chart 3). This share has ticked down,
to 3.5 percent in April (the latest estimate available), but remains somewhat
elevated compared with levels seen
during the financial crisis that began
in 2008.
Meanwhile, the share of mortgages
90 days or more past due in the rest of
the state (excluding the Houston metro
area) ticked up from 1.2 percent in July
2017 to 1.6 percent in December. After
peaking in December, the rate dipped
to 1.3 percent in April, similar to its
year-ago level.
While the receipt of flood-insurance
payments and disaster aid may further
pare delinquency rates in affected areas,
their significant increase has prompted
some concern that a wave of foreclosures could occur in coming months.
Delinquencies, plotted by ZIP code,
exceeded the average increase for
Houston as a whole in many of the same
areas most severely affected by flooding
(Map 3). Areas shaded in red are those
where the increase in the delinquency
rate was higher than the average increase for Houston from July to December 2017, while areas shaded in green
saw either a decline in the delinquency
rate or a smaller increase relative to
Houston during the same period.
In ZIP codes where more than 1,000
homes flooded, according to disaster
claims data provided by FEMA, the
average increase in the delinquency
rate for mortgages 90 days past due was
4.9 percentage points, compared with a
3.5 percentage-point increase for all of
Houston in the July–December period.
The average increase was even higher
(6.2 percentage points) in ZIP codes
that had more than 4,000 homes with
reported damage.
As the map indicates, the rise in the
delinquency rate was greater to the
northeast of Houston as well as to the
west in areas located near the Addicks
and Barker reservoirs and along the
Buffalo Bayou.
Foreclosures had steadily declined
in Houston following the financial
crisis and even during most of the latest
energy bust and were at a recent low of
0.3 percent of total mortgages in October

Southwest Economy • Federal Reserve Bank of Dallas • Second Quarter 2018

 MAP

3

Delinquency Rate Rises Sharply in Parts of Houston Metro Area
Most Impacted by Flooding

Percentage-point change*
5.0
2.5
0.0
-2.5
-5.0

*Change in delinquency rate relative to the change in Houston rate overall from July to December 2017.
NOTE: Delinquency data are compiled at the ZIP code level; black outlines represent active municipal utility districts
in the Houston metro area. Gray shaded areas indicate insufficient data.
SOURCES: Black Knight McDash Data; Texas Commission on Environmental Quality.

2017.20 But there was an uptick of 0.2
percentage points in the foreclosure rate
from October through April 2018.

Longer-Term Reckoning
Given the magnitude of the Harvey flooding, many purchasers of
Houston-area MUD bonds may have
been unaware of specific flooding risks
in areas that had never before experienced a major event. In those flooded
areas with significant property damage
and little flood insurance, the recovery
will be lengthy and property valuations
are likely to sink, at least temporarily
impacting tax revenue.
Amid rising costs directly attributable to new market realities in the
aftermath of Harvey, the longer-term
effects will likely favor areas where the
perceived flooding risk is smaller. More
difficult to immediately gauge will be
investor sentiment and the price at
which investors will be willing to invest
in and hold MUD debt.
Assanie is a senior business economist
and Weiss is a senior writer/editor in
the Research Department at the Federal
Reserve Bank of Dallas.

Notes
“Hurricane Harvey Info,” National Weather Service,
Houston/Galveston Weather Forecast Office, accessed
April 12, 2018, www.weather.gov/hgx/hurricaneharvey.
2
“Hurricane Harvey’s U.S. Cost: An Update,” Moody’s
Analytics, Oct. 2, 2017.
3
“Houston City Council Adopts Stricter Development
Rules for Houston’s Floodplains,” by Rebecca Elliott,
Houston Chronicle, April 4, 2018.
4
See “The House of the Future Is Elevated,” by Amanda
Kolson Hurley, Citylab, Dec. 8, 2017.
5
Disasters heighten investor perceptions of risk and
can increase the premia demanded, particularly among
smaller municipal bond issuers, even well beyond an
area immediately impacted. See “Accounting for Natural
Disasters: The Impact of Earthquake Risk on California
Municipal Bond Pricing,” by Jacob Fowles, Gao Liu
and Cezar Brian Mamaril, Public Budgeting & Finance,
vol. 29, no. 1, 2009, pp. 68–83. Special district size
constraints and the impact on debt ratings are discussed
in “Local Government Risk Assessment: The Effect of
Government Type on Credit Rating Decisions in Texas,”
by Robert A. Greer, Public Budgeting & Finance, vol. 36,
no. 2, 2016, pp. 70–90.
6
“The Economics of Municipal Utility Districts for Land
Development,” by Richard B. Peiser, Land Economics,
vol. 59, no. 1, 1983, pp. 43–57.
7
“Land Development Regulation: A Case Study of Dallas
and Houston, Texas,” by Richard B. Peiser, Real Estate
Economics, American Real Estate and Urban Economics
1

Association, vol. 9, no. 4, 1981, pp. 397–417.
8
Data are from Texas Commission on Environmental
Quality’s Water Districts Database, www14.tceq.texas.gov/
iwud/index.cfm. The Houston metro area encompasses
Austin, Brazoria, Chambers, Fort Bend, Galveston, Harris,
Liberty, Montgomery and Waller counties.
9
See “FEMA to Play Long-Term Role in Recovery from
Harvey,” by Jesse Thompson and Rachel Brasier, Federal
Reserve Bank of Dallas Southwest Economy, Second
Quarter, 2018.
10
See “Impact of Harvey on Houston MUDs,” Texas
Association of Water Board Directors, Meyers Research
and Municipal Information Services, April 2018.
11
Bond volume data are from Bloomberg as of April 1,
2018.
12
MUD property tax rates for homeowners in newer
subdivisions sometimes run one-half or more of those
of local school districts, which typically command the
highest rate for an individual tax bill.
13
Some MUDs built within city limits, for example,
anticipate that as homeowners occupy the district, the
city will annex the MUD and create the opportunity to
improve the initial infrastructure.
14
Bond issuers, in this case the MUDs, pay the ratings
firms to evaluate their creditworthiness. Bonds may also
be sold without a rating if the issuer chooses to do so.
Some jurisdictions purchase bond insurance, which
is designed to guarantee repayment should the issuer
be unable to do so. Such “credit enhancements” are
reflected in bond ratings.
15
See “Moody’s Upgrades Fort Bend County MUD No.
111’s, TX GOULT to Aa1 from A2 After Assumed by City
of Sugar Land, TX,” Moody’s, Jan. 26, 2018.
16
See “Moody's Places 37 Texas Municipalities Under
Review for Downgrade,” Moody’s, Sept. 22, 2017.
17
See “Outlook Turns Negative for Five Texas Utility
Districts in Harvey’s Wake,” by Richard Williamson, The
Bond Buyer, Oct. 18, 2017.
18
See “Moody's Confirms the Ratings of 18 Texas
Municipal Utility Districts,” Moody’s, Nov. 10, 2017.
19
Major flooding events were Hurricane Ike in 2008,
the Memorial Day floods of 2015, the Tax Day floods of
2016 and Hurricane Harvey in 2017. The 2015 and 2016
episodes were categorized as 500-year floods, Harvey as
a 1,000-year flood.
20
The share of mortgages in foreclosure increased from
0.5 percent in July 2015 to 0.7 percent in October 2015
and remained close to that level until March 2016. Data
are from Black Knight McDash.

Southwest Economy • Federal Reserve Bank of Dallas • Second Quarter 2018

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