Can a county invest its permanent school fund at below-market rates to support low-income housing?

Texas AG Opinion JC-0004: A County Cannot Sacrifice Its School Fund for Low-Income Housing

Plain-English summary

A county permanent school fund is money a county holds in trust for its local public schools, usually proceeds from the sale of county school lands. Webb County wanted to invest part of that fund in "pass-through" mortgage-backed securities to help finance low-income housing in the county. The catch: those securities would pay more than the fund's existing investments but less than comparable securities available on the open market. A state senator, writing for the county, asked whether the Public Funds Investment Act allowed it.

The Attorney General never reached the Public Funds Investment Act, because the Texas Constitution answered the question first. Article VII, section 6 makes a county the trustee of its permanent school fund, holding the proceeds "as a trust for the benefit of public schools" in the county. Decades of court decisions and prior opinions treat the county commissioners as fiduciaries who must manage the fund with the same care and loyalty the law demands of any trustee, including the prudent-investor standard: the judgment and care that people of ordinary prudence use in managing their own affairs. Measured against that standard, the opinion concluded a court would very likely hold the proposed investment imprudent as a matter of law. A prudent investor would not buy securities paying below the market rate when similar securities, at no greater risk, would pay more. And while helping provide low-income housing is a legitimate county purpose under certain statutes, the county's duty of loyalty to the school fund's beneficiaries forbids pursuing that separate purpose at the trust's expense. In short, a county cannot use school-fund money to subsidize housing by knowingly accepting a worse return for the schools.

Currency note

This opinion was issued in 1999. Subsequent statutory amendments, court decisions, or later AG opinions may have changed the analysis. Treat this page as historical context, not current legal advice. The investment statutes cited here may have changed since 1999, though the underlying constitutional trustee duty in article VII, section 6 is long-standing. Verify current law before relying on any specific rule mentioned here.

Common questions

Could the county invest its permanent school fund in below-market housing securities?
No. The opinion concluded the investment would not be consistent with the county's trustee duties under article VII, section 6 of the Texas Constitution, and that a court would very likely find it imprudent as a matter of law.

Why does the county's fiduciary duty matter here?
Because article VII, section 6 makes the county a trustee of the permanent school fund for the benefit of local public schools. As a trustee, the county must invest with the prudence and loyalty the law requires of any fiduciary, and cannot favor a separate county goal over the trust's beneficiaries.

Isn't providing low-income housing a legitimate county purpose?
Yes, under certain statutes (the opinion cited the county housing authority and housing finance corporation provisions). But the opinion concluded the county's duty of loyalty to the school fund prevents it from advancing that purpose by investing fund proceeds at a worse-than-market return.

Why didn't the opinion analyze the Public Funds Investment Act?
Because it did not need to. The opinion concluded the constitution's trustee requirement in article VII, section 6 already precluded the investment, so it did not reach the statutory question.

Background and statutory framework

Article VII, section 6 of the Texas Constitution provides that county school lands and their proceeds "when sold, shall be held by said counties alone as a trust for the benefit of public schools therein," to be invested in specified government bonds "or in such other securities, and under such restrictions as may be prescribed by law." The opinion collected authority treating a county permanent school fund as a trust and the county as a fiduciary: Delta County v. Blackburn, 93 S.W. 419, 422 (Tex. 1906); Comanche County v. Burks, 166 S.W. 470, 473-74 (Tex. Civ. App.-Fort Worth 1914, writ ref'd); County School Trustees v. Brazoria County, 240 S.W. 675, 676 (Tex. Civ. App.-Galveston 1922, no writ); and prior opinions H-506 (1975), H-239 (1974), M-1104 (1972), and V-1089 (1950). Burks stated that the county holds the proceeds as an express trust and "should not be held to" any lesser standard than other trustees.

Applying that framework, the opinion noted that prior opinion M-1104 had applied general trust law (then the Texas Trust Act) to county permanent school funds, holding both that commissioners could not sell their own county's securities to the fund and that a low-interest investment could be impermissible, and stressing that "great caution should be exercised" to secure the highest prevailing interest rate consistent with safety. While the prudence of an investment is ordinarily a fact question (H-239), the opinion observed that H-239 had found investment in low-interest school district bonds imprudent as a matter of law. Here, the county acknowledged the pass-through securities paid below the market rate for comparable securities, which the opinion assumed (based on the county's "comparable" description) posed no greater risk. On those facts, the opinion concluded a court would very likely find the investment imprudent as a matter of law, both because a prudent investor would not accept the lower yield and because the county's duty of loyalty to the fund's beneficiaries precluded pursuing the low-income-housing purpose at the trust's expense. A footnote acknowledged that counties may facilitate low-income housing under Local Government Code chapters 392 and 394 and that Government Code section 2256.024(c) permits county housing authority and housing finance corporation bond programs to buy mortgage pass-through certificates, but distinguished those programs from an investment of permanent school fund proceeds (citing JM-942 (1988) on the limits of commissioners-court authority). Another footnote noted that under Property Code section 114.001(c)(3) a trustee who breaches the trust is chargeable with resulting damages, including lost profit.

Citations

Statutory and constitutional provisions:

• TEX. CONST. art. VII, § 6
• TEX. GOV'T CODE ANN. ch. 2256 (Public Funds Investment Act); § 2256.024(c) (Vernon 1999)
• TEX. LOCAL GOV'T CODE ANN. chs. 392, 394 (Vernon 1998 & Supp. 1999)
• TEX. PROP. CODE ANN. § 114.001(c)(3) (Vernon 1995)

Cases:

• Delta County v. Blackburn, 93 S.W. 419, 422 (Tex. 1906)
• Comanche County v. Burks, 166 S.W. 470, 473-74 (Tex. Civ. App.-Fort Worth 1914, writ ref'd)
• County School Trustees v. Brazoria County, 240 S.W. 675, 676 (Tex. Civ. App.-Galveston 1922, no writ)

Prior Attorney General opinions cited: H-506 (1975); H-239 (1974); M-1104 (1972); V-1089 (1950); JM-942 (1988).

Source

• Landing page: https://www.texasattorneygeneral.gov/opinions/john-cornyn/jc-0004
• Original PDF: https://www.texasattorneygeneral.gov/sites/default/files/opinion-files/opinion/1999/jc0004.pdf

Original opinion text

Best-effort transcription from a scanned PDF. Minor errors may remain — the linked PDF is authoritative.

February 26, 1999

The Honorable Judith Zaffirini
Chair, Human Services Committee
Texas State Senate
P.O. Box 12068
Austin, Texas 78711

Opinion No. JC-0004

Re: Whether a county is authorized to invest county permanent school fund proceeds in "pass-through" mortgage-backed securities at an interest rate that is below market rate for comparable securities to assist in providing low-income housing in the county (RQ-887)

Dear Senator Zaffirini:

On behalf of Webb County, you ask whether a county is authorized to invest county permanent school fund proceeds in "pass-through" mortgage-backed securities[1] at an interest rate that is below market rate for comparable securities. Your request letter suggests that the crucial legal question is whether the contemplated investment is authorized by the Public Funds Investment Act, TEX. GOV'T CODE ANN. ch. 2256 (Vernon 1999), particularly Government Code sections 2256.009 and 2256.024. We do not reach the Public Funds Investment Act, however, because we conclude that article VII, section 6 of the Texas Constitution precludes the county from making such an investment on behalf of the county permanent school fund.

Article VII, section 6 provides in pertinent part that county school lands "and the proceeds thereof, when sold, shall be held by said counties alone as a trust for the benefit of public schools therein; said proceeds to be invested in bonds of the United States, the State of Texas, or counties in said State, or in such other securities, and under such restrictions as may be prescribed by law . . . ." TEX. CONST. art. VII, § 6. Numerous court opinions and opinions of this office treat a county permanent school fund as a trust and stress the fiduciary nature of a county's duty to invest the county permanent school fund on behalf of public schools in the county. See, e.g., Delta County v. Blackburn, 93 S.W. 419, 422 (Tex. 1906) (counties are trustees for benefit of state's public schools); Comanche County v. Burks, 166 S.W. 470, 473-74 (Tex. Civ. App.-Fort Worth 1914, writ ref'd); County School Trustees v. Brazoria County, 240 S.W. 675, 676 (Tex. Civ. App.-Galveston 1922, no writ) (county held fund as trustee for schools); see also Tex. Att'y Gen. Op. Nos. H-506 (1975) at 2 (county commissioners court acts in fiduciary capacity as trustee of permanent school fund), H-239 (1974) at 1 ("The county permanent school fund is impressed with a trust in favor of the local inhabitants and schools, and the commissioners court administers the fund as trustee, with the duties of trustee."), M-1104 (1972) (applying Texas Trust Act to county permanent school fund), V-1089 (1950) at 3 (commissioners court is trustee of permanent school fund; if commissioners court abused its discretion by failing to invest fund for benefit of permanent school fund, order would not be valid). As one court has stated,

The county for which [the county commissioners] act holds the proceeds as an express trust, and the investment thereof in the securities named in the Constitution or otherwise, as may be prescribed by law, necessarily involves an exercise of judgment and discretion.

. . .

[W]e see no reason why the county should not be held to the same rules of law that are applicable to other trustees.

Burks, 166 S.W. at 473-74 (emphasis added).

Relying on the foregoing authority, this office has applied statutory provisions applicable to trusts generally to county permanent school funds. See Tex. Att'y Gen. Op. No. M-1104 (1972) at 2. Noting that under the Texas Trust Act a trustee could not sell property to the trust, this office concluded that county commissioners could not sell to the county's permanent school fund bonds or other securities issued by the county while serving as trustees of the fund. Id. In addition, reasoning that a trustee must "exercise the judgment and care under the circumstances then prevailing, which men of ordinary prudence, discretion and intelligence exercise in the management of their own affairs," this office concluded that the proposed investment was also impermissible because of the low interest rate on the securities to be purchased. Id. at 2-3. The opinion emphasized that "great caution should be exercised [by the county commissioners court] to insure that the highest prevailing rate of interest, consistent with investment safety, is secured on any investment of county permanent school funds, and that said funds are invested in securities other than those issued by the trustee-commissioners." Id. at 3.

"The 'prudent' character of an investment is ordinarily one of fact, unless reasonable minds could not disagree." Tex. Att'y Gen. Op. No. H-239 (1974) at 2. In one opinion, however, this office concluded that courts would consider the investment of county permanent school fund proceeds in low-interest bearing independent school district bonds imprudent as a matter of law. Id.

Your letter states that although the "pass-through" mortgage-backed securities would yield more than present county permanent school fund investments, the county would receive below market rate for similar securities available in the market, explaining that the purpose of the program "is to assist in providing housing to a segment of Webb County's population that otherwise could not afford it . . . Investment in the securities also will further the public purpose of providing low income housing in an area with an urgent need for such assistance." We assume, based on your description of the other similar securities as "comparable," that the similar securities pose no greater risk.

Based on the facts you have provided, we believe that a court would very likely conclude that the proposed investment is imprudent as a matter of law. First, it is doubtful that a prudent investor would select the securities the county proposes to purchase on behalf of the permanent school fund, given that other, similar securities available in the market would yield more at no greater risk. Furthermore, although facilitating the provision of low-income housing pursuant to certain statutes is a legitimate public purpose of the county,[2] the county's duty of loyalty to the county permanent school fund trust precludes it from pursuing this county purpose in investing permanent school fund proceeds at the expense of the trust. Based on the information provided, we believe that a court would conclude that the investments you describe are not consistent with the county's constitutionally-imposed fiduciary duty to the beneficiaries of the county permanent school fund.[3]

Footnote 1: The term "pass-through" is used to describe a mortgage-backed security for which the payments on the underlying mortgages are passed from the mortgage holder through the servicing agent to the security holder. The servicing agent usually keeps a portion of the payments as a fee. See DAVID A. FRANKLIN, GLOSSARY OF PUBLIC FINANCE TERMINOLOGY 30 (1992).

Footnote 2: See TEX. LOCAL GOV'T CODE ANN. chs. 392, 394 (Vernon 1998 & Supp. 1999) (authorizing counties to establish housing authorities and housing finance corporations); see also TEX. GOV'T CODE ANN. § 2256.024(c) (Vernon 1999) (permitting housing bond programs operated by county housing authorities and county housing finance corporations to purchase mortgage pass-through certificates and individual mortgage loans). We do not address here whether a county may assist in providing low-income housing other than pursuant to these statutory provisions. See, e.g., Tex. Att'y Gen. Op. No. JM-942 (1988) at 3 (concluding that commissioners courts lack authority to guarantee loans for housing purposes).

Footnote 3: Under the Texas Trust Code, a trustee who commits a breach of trust is chargeable with any damages arising from the breach of trust, including any profit that would have accrued to the trust if there had been no breach of trust. See TEX. PROP. CODE ANN. § 114.001(c)(3) (Vernon 1995).

SUMMARY

A county's plan to invest county permanent school fund proceeds in "pass-through" mortgage-backed securities at an interest rate that is below market rate for similar securities available in the market in order to assist in providing low-income housing in the county is not consistent with the county's trustee duties with respect to the fund under article VII, section 6 of the Texas Constitution.

JOHN CORNYN
Attorney General of Texas

ANDY TAYLOR
First Assistant Attorney General

CLARK KENT ERVIN
Deputy Attorney General - General Counsel

ELIZABETH ROBINSON
Chair, Opinion Committee

Prepared by Mary R. Crouter
Assistant Attorney General