NEW ISSUE - FULL BOOK-ENTRY RATINGS (See "'RATINGS"herein)

In the opinion l?{ Jones Hall, A Professional Law Corporation, San Francisco. California, Bond C�ounsel, subject, however to certain qualifications described herein, under existing laHl, the interest on the Bonds is excluded fro,n gross inconie for.federal income tax purposes, and such interest is not an item of tax preference for purposes of the federal alternative minimwn tax bnposed on individuals and corporations, although for the purpose of computing the alternative minimum tax imposed on certain corporations, such interest is taken into account in determining certain income a1ulearnings, In the further opinion ,?f Bond Counsel, such interest is exempt from Cal(fornia personal income taxes. See "TAX MATT!::,RS"herein.

$46,300,000 C!TYOF� CITY OF SAN JOSE SANJOSE General Obligation Bonds, Series 2005 CAPfl�L O!-' SI! ICON \'A!J.EY (Libraries and Pnblic Safety Projects)

Dated:Date of Delivery Due: September 1, as shown below The City of San Jose' General Obligation Bonds, Series 2005 (Libraries and Public Safety ProjecL-;) (the "Bonds" or the "Series 2005 Bonds"), in the aggregate principal ainount of $46,300,000, are being issued by the City of San Jose' (the "City'') to fund the acquisition of property and the construction of improvements to neighborhood library facilities, police and fire stations, public safety training facilities and 911 communications facilities within the City.

The Bonds are general obligations of the City, and the City Council is empowered and is obligated to levy ad valorem taxes for the payment of interest on, and principal of, theBonds upon all property subject to taxation by the City without limitation of rate or an1ount (except certain personal property which is taxable at limited rates). The City will direct the County of Santa Clara (the "County") to collect such ad valorem taxes in such amounts and at such times as is necessary to ensure the timely payment of debt service on the Bonds.

The Bonds will be issued in book-entry form only, and will be initially issued and registered in the name of Cede & Co. as nominee of The Depository Trust Company, New York, New York (collectively referred to herein as "DTC"). Purchasers of the Bonds (the "Beneficial Owners") will not receive physical certificates representing their interest in the Bonds. The Bonds are issuable as fully registered securities in denominations of $5.000 or any integral multiple thereof. The Bonds will pay interest on March 1, 2006 and semiannually thereafter on March J and September 1 of each year. Payments of principal of and interest on the Bonds will be paid by Wells Fargo Bank, National Association. as Fiscal Agent, to DTC for subsequent disbursement to DTC Participants which will re1nit such payments to the Beneficial Owners of the Bonds. (Sec "THE BONDS Book-Entry-Only System").

The Bonds are subject to optional and mandatory redemption prior to maturity as described herein.

This cover page contains certain information for general reference only. It is not a summary of all the provisions of the Bonds. Prospective investors must read the entire OfficialStatement to obtain information essential to the making of an infom1ed investment decision.

MATURITY SCHEDULE Maturity Principal Interest Maturity Principal Interest {September 1) Amount Rate Yield CUSIP (September 1) Amount Rate Yield CUSIP 2006 $1,540,000 7.500% 2.650'k 798135VX4 2017 $1,545.(l()() 4.000C/o 3.800%* 798135WJ4 1,540,000 7.500 2.800 798135VY2 2018 1,545,(l()() 4.000 3.900* 798135WK1 20082007 1,540,000 7.500 2.900 798135VZ9 2019 1,545,000 4.000 4.(l()() 798135WL9 2009 1,540,000 7.500 ).000 798135WA3 2020 1,545.000 4.(XIO 4.(XXI 798135WM7 2010 1,540,IKIO 3.000 3.000 798135WBI 2021 1.545,(l()() 4.000 4.(l()() 798!35WN5 2011 1.540,(l()() 3.000 3.000 798135WC9 2022 1,545.(l()() 4.125 4.125 798135WPO 2012 1,540,(l()() 3.125 3.125 798135WD7 2023 1.545,000 4.250 4.250 798135WQ8 2013 1,540,(l()() 4.(l()() 3.400 798135WE5 2024 1,545.IXJO 4.250 4.250 798135WR6 20[4 1,540,(l()() 4.000 3.500 798135WF2 2025 1,545,000 4.300 4.30IJ 798135WS4 2015 1.540,(l()() 4.000 3.600 798135WGIJ 2026 1,545,0IJO 4.375 4.375 798135WT2 2016 1,545,000 4.(l()() 3.700* 798135WH8 2027 1,545,000 4.375 4.375 798135WU9 $6,!80.000 4.50% Term Bonds due September 1, 2031 Yield 4.580% (CUSlP 798135WY7) $6,180,000 4.50% Term Bonds due September 1, 2035 Yield 4.600% (CUSlP 798135WW5)

* Priced to par call on September!. 2015

JvIBIAInsurance Corporation, at the request of the initial purchasers, will issue simultaneously \.Viththe issuance of the Bonds, a municipal bond insurance policy insuring the scheduled pay1nent of the principal of and interest on only the Bonds maturing on September 1, 2031 and Septe1nber l, 2035, when due, as described herein.

The Bonds are delivered when, as and (f issued, subject to the approval of legality by Jones /fall, A ProjCssional Law Corporation, San Francisco, C'alifornia, Bond Counsel to the C'ity. Jones Hall, A Professional Law Corporation, is also acting as Disclosure Counsel to the City. Certain legal matters are being passed upon for the Cily by the City Attorney. It is anticipated that the Bonds will be available for delivery through DTC on or about June 23, 2005, in New York, Nett1 York. The date of this Official Statement is June 15, 2005. No dealer, broker, salesperson or other person has been authorized by the City to give any information or to make any representations olher than those contained herein. If giYen or made. such other information or representations must not be relied upon as having been authorized by the City. This Official Statement does not constitute an offer to se11 or the solicitation of an offer to buy, nor shall there be any sale of theBonds by a person in any jurisdiction in which it is unlawful for such person to make such an offer, solicitation or sale.

This Official Statement is not to be construed as a contract wilh the purchasers of the Bonds. Statements contained in this Official Statement which involve estimates, forecasts or 1natters of opinion, whether or not expressly so described herein, are intended solely as such and are not to be constn1ed as representations of fact.

The infonnation set forth herein has been obtained fron1 officialsources which are believed to be reliable. However, it is not guaranteed as to accuracy or completeness and is not to be constmcd as a representation by the City. The information and expressions of opinion herein are subject to change without notice and neither delivery of this Official Staten1ent nor any sale 1nade hereunder shall, under any circumstances, create any implication that there has been no change in the affairs of the City since the date hereof This Official Statement is being sub1nit.tedin connection with the sale of the Bonds referred to herein and may not be reproduced or used. in whole or in part, for any other purpose, unless authorized in writing by the City. All summaries of documents and laws are made subject to the provisions thereof and do not purport to be complete statements of any or all such provisions.

The Underwriter has provided the following sentence forinclusion in this Official Statement. The Underwriter has reviewed the information in this Official Statement in accordance with, and as a part of, its responsibilities to investors under the federal securities laws as applied to the facts and circumstances of this transaction, but the Underwriter does not guarantee the accuracy or completeness of such information.

Certain statements contained in this Official Statement do not reflect historical facts but are forecasts and "forward­ looking statements." No assurance can be given that the future results discussed herein will be achieved and actual results may differ materially from the forecasts described herein. In this respect, the words "estimate," "forecast," "project," "anticipate," "expect,'' "intend," "plan," "believe" and similar expressions are intended to identify forward­ looking statements. All projections, forecasts, assumptions and other forward-looking statements are expressly qualified in their entirety by the cautionary statements set forth in this Official Statement.

IN CONNECTION WITH THIS OFFERING, THE UNDERWRITER MAY OVER ALLOT OR EFFECT TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE BONDS OFFERED HEREBY AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN MARKET. SUCH STABILIZING, IF COMMENCED MAY BE DISCONTINUED AT ANY TIME. THE UNDERWRITER MAY OFFER AND SELL THE BONDS TO CERTAIN DEALERS, INSTITUTIONAL INVESTORS, BANKS OR OTHERS AT PRICES LOWER OR HIGHER THAN THE PUBLIC OFFERING PRICES STATED ON THE COVER PAGE HEREOF AND SAID PUBLIC OFFERING PRICES MAY BE CHANGED FROM TIME TO TIME BY THE UNDERWRITER.

This Official Statement is submitted in connection with the sale of the Bonds referred to herein and may not be reproduced or used, in whole or in part, for any other purpose. CITY OF SAN JOSE City Council Ron Gonzales, Mayor District 1: Linda J. LeZotte, Member District 2: Forrest Williams, Member District 3: Cindy Chavez, Vice Mayor/Member District 4: Chuck Reed, Member District 5: Nora Campos, Member District 6: Ken Yeager, Member District 7: [Vacant] District 8: David D. Cortese, Member District 9: Judy Chirco, Member District 10: Nancy Pyle, Member

CityOfficials Del D. Borgsdorf, City Manager Richard Doyle, City Attorney Lee Price, City Clerk Scott P. Johnson, Director of Finance

City Staff Julia H. Cooper, Deputy Director of Finance, Debt and Risk Management Danielle Kenealey, Senior Deputy City Attorney David Persselin, Debt Administrator Dariush Asfari, Financial Analyst

PROFESSIONAL SERVICES

Bond Counsel/Disclosure Counsel Jones Hall, A Professional Law Corporation San Francisco, California

Financial Advisor Public Resources Advisory Group Los Angeles, California

Fiscal Agent Wells Fargo Bank, National Association Los Angeles, California CITYOF A SANJOSE CAPfil'.LOF SIL!CX>N VALLEY TABLE OF CONTENTS

INTRODUCTION •••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••1 THE CITY ...... •...... 1 SOURCES OF PAYMENT FOR BONDS ...... •....•...•...... 1 AUTHORITY FOR ISSUANCE OF THE BONDS ...... 1 PURPOSE OF ISSUE ...... •...... •...... 2 OFFERING AND DELIVERY OF THE BONDS ...... •...... 2 DESCRIPTION OF THE BONDS ...... 2 CONTINUING DISCLOSURE ...... 3 OTHER INFORMATION ...... 3 THE BONDS••••••••••••••••••••••••••••••••.•••••••••••••••••.••.•••.•••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••• 3 AUTHORITY FOR ISSUANCE ...... 3 PURPOSE OF ISSUE ...... 4 SECURITY...... 5 BOND INSURANCE FOR THE INSURED BONDS ...... 6 PAYMENT OF THE BONDS...... 9 BOOK-ENTRY-ONLY SYSTEM ...... 10 FISCAL AGENT...... 10 OPTIONAL REDEMPTION ...... 11 MANDATORY SINKING FUND REDEMPTION ...... 11 REDEMPTION PROCEDURE ...... 12 PARTIAL REDEMPTION OF BONDS ...... 12 EFFECT OF REDEMPTION OF BONDS ...... 12 DEFEASANCE ...... ••...... 12 REGISTRATION, TRANSFER AND ExCHANGE OF BONDS ...... •...... 14 EVENTS OF DEFAULTS AND REMEDIES ...... 14 AMENDMENTS TO FISCAL AGENT AGREEMENT...... 15 SOURCES AND USES OF FUNDS•••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••..••••••••• 17

DEBT SERVICE SCHEDULE ••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••• 18

CONSTITUTIONAL AND STATUTORY PROVISIONS AFFECTING •••••••••••••••••••••••••••••••••••••••• 19

CITY REVENUES AND APPROPRIATIONS ••••••••••••••••••••••••••••••••••••••••••••••••••••••••••.•••••••••••••••••••• 19 ARTICLE XIIIA OF THE STATE CONSTITUTION ...... 19 LEGISLATION IMPLEMENTING ARTICLE XIIIA ...... •..•..•...... 19 ARTICLE XIIIB OF THE STATE CONSTITUTION ...... 20 ARTICLE XIIIC AND ARTICLE XIII D OF THE ST ATE CONSTITUTION ...... 20 PROPOSITION 62 ...... 21 PROPOSITION 1A...... •... 21 POSSIBLE FUTURE ACTIONS ...... 22 TAX MATTERS •••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••• 22

FINANCIAL STATEMENTS •••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••• 23

CONTINUING DISCLOSURE •••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••.•••.••••••••••••••••••••••••••••••••••••• 23

LITIGATION •••.•••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••.••••••••••••••••••••••••••••••••••••••••••••••• 24

RATINGS••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••.••••••••••••••••••••••••••••••••••••••••••• 24

FINANCIAL ADVISOR •••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••••• 24 UNDERWRITER...... 24

ADDITIONAL INFORMATION ...... 25

APPENDIX A - THE CITY OF SAN JOSE: DEMOGRAPHIC, ECONOMIC AND FINANCIAL INFORMATION APPENDIX B - AUDITED FINANCIAL STATEMENTS FOR FISCAL YEAR ENDED JUNE 30,2004 APPENDIX C - FORM OF OPINION OF BOND COUNSEL APPENDIX D - FORM OF CONTINUING DISCLOSURE CERTIFICATE APPENDIX E- BOOK-ENTRY-ONLY SYSTEM APPENDIX F - FORM OF MUNICIPAL BOND INSURANCE POLICY $46,300,000 CITY OF SAN JOSE General Obligation Bonds, Series 2005 (Libraries and Public Safety Projects)

INTRODUCTION

This Official Statement, which includes the cover page and appendices hereto, provides information in connection with the sale of City of San Jose, California, General Obligation Bonds, Series 2005 (Libraries and Public Safety Projects), in the principal amount of $46,300,000 (the "Bonds" or the "Series 2005 Bonds").

This Introduction is not a summary of this Official Statement. It is only a brief description of and guide to, and is qualified by, more complete and detailed information contained in the entire Official Statement, including the cover page and appendices hereto, and the documents summarized or described herein. A full review should be made of the entire Official Statement. The offering of Bonds to potential investors is made only by means of the entire Official Statement.

The City The City of San Jose (the "City") is the eleventh largest city in the United States and the third largest city in California with a population on January 1, 2005 estimated at 944,857 according to the California Department of Finance. The territory of the City encompasses approximately 177 square miles. Located at the southern end of the San Francisco Bay, San Jose is the county seat of the County of Santa Clara (the "County").

Sources of Payment for Bonds

The Bonds are general obligations of the City payable primarily from ad va/orem taxes levied by the City and collected by the County. The City Council is empowered and is obligated to annually levy ad va/orem taxes for the payment of the Bonds and the interest thereon upon all property within the City subject to taxation by the City, without limitation of rate or amount (except with respect to certain personal property which is taxable at limited rates). See "THE BONDS - Security" herein.

Authority for Issuance of the Bonds

At the general election of the registered voters of the City held on November 7, 2000 (the "2000 Election"), more than two-thirds of the persons voting on Measure O (San Jose Neighborhood Libraries Bond) ("Measure O (2000)") and Measure P (San Jose Safe Neighborhood Parks and Recreation Bond) ("Measure P") voted to authorize the issuance and sale of not to exceed $211, 790,000 and $228,030,000 respective principal amounts of general obligation bonds (the "Libraries Bonds" and the "Parks Bonds," respectively).

At the general election of the registered voters of the City held on March 5, 2002 (the "2002 Election"), more than two-thirds of the persons voting on Measure O (San Jose 911, Fire, Police, Paramedic and Neighborhood Security Act) ("Measure O (2002)") voted to authorize the issuance and sale of not to exceed $159,000,000 principal amount of general obligation bonds (the "Public Safety Bonds"). The Bonds are issued pursuant to the authorizations received under Measure O (2000) and Measure O (2002), certain provisions of Chapter 14.28 of the San Jose Municipal Code (the "Act"), a resolution adopted by the City Council on June 7, 2005 and a Fiscal Agent Agreement between Wells Fargo Bank, National Association (the "Fiscal Agent"), and the City dated as of June 1, 2005 (the "Fiscal Agent Agreement"). See "THE BONDS - Authority for Issuance" herein.

None of the Bonds are being issued pursuant to the authorization received under Measure P.

Purpose of Issue

The Bonds, in the aggregate principal amount of $46,300,000, are being issued by the City to fund the acquisition of property and the construction of improvements to neighborhood library facilities, police and fire stations, public safety training facilities and 91 1 communications facilities within the City.

The City expects to issue additional general obligation bonds under Measure O (2000), Measure P and Measure O (2002) authorizations over the next several years until such authorizations have been used in full. The City currently has no other voter approved authorizations for the issuance of general obligation bonds.

Offering and Delivery of the Bonds

The Bonds are offered when, as and if issued, subject to approval of legality by Bond Counsel. It is anticipated that the Bonds will be available for delivery through DTC in New York, New York on or about June 23, 2005.

Description of the Bonds

Registration - The Bonds will be issued in fully registered form only, registered in the name of Cede & Co. as nominee of The Depository Trust Company, New York, New York ("OTC"), and will be available to actual purchasers of the Bonds (the "Beneficial Owners") in the denominations set forth on the cover page hereof, under the book-entry system maintained by DTC only through brokers and dealers who are or act through DTC Participants as described herein. Beneficial Owners will not be entitled to receive physical delivery of the Bonds. See "THE BONDS - Book-Entry-Only System." In the event that the book-entry-only system described below is no longer used with respect to the Bonds, the Bonds will be registered in accordance with the Fiscal Agent Agreement described herein. See "THE BONDS - Registration, Transfer and Exchange of Bonds."

Denominations - Individual purchases of interests in the Bonds will be available to purchasers of the Bonds as fully registered securities in the denominations of $5,000 each or any integral multiple thereof.

Optional Redemption - The Bonds maturing on or before September 1, 2015, are not subject to redemption prior to their respective maturity dates. The Bonds maturing on or after September 1, 2016, may be redeemed without premium prior to maturity at the option of the City, in whole or in part on any date beginning on September 1, 2015. See ''THE BONDS - Optional Redemption" herein.

2 Mandatory Sinking Fund Redemption - The Bonds maturing on September 1, 2031, and September 1, 2035, are subject to mandatory sinking fund redemption beginning on September 1, 2028, and September 1, 2032, respectively. See "THE BONDS - Mandatory Sinking Fund Redemption" herein.

Payments - Interest on the Bonds accrues from the date of delivery. and is payable on March 1, 2006 and semiannually thereafter on each March 1 and September 1. Principal on the Bonds is payable on September 1, commencing September 1, 2006, in the amounts and years set forth on the cover page hereof.

Continuing Disclosure

The City will covenant for the benefit of bondholders to make available certain financial information and operating data relating to the City and to provide notices of the occurrence of certain enumerated events, if material, in compliance with S.E.C. Rule 15c2-12(b)(5). See, APPENDIX D - "Form of Continuing Disclosure Certificate."

Other Information

This Official Statement speaks only as of its date, and the information contained herein is subject to change. Copies of documents referred to herein and information concerning the Bonds are available prior to August 1, 2005, from the Finance Department of the City of San Jose, City Hall, 801 North First Street, Room 110, San Jose, California 95110 and, after August 1, 2005, from Debt Management, Finance, City of San Jose, 200 East Santa Clara Street, San Jose. California 95113-1905. A charge will be made to cover the City's reasonable costs of duplication and delivery. In addition, documents are available for inspection during business hours at the address above. or at the principal corporate trust office of the Fiscal Agent in Los Angeles, California.

THE BONDS

Authority for Issuance

The Bonds are issued pursuant to the authorization received under Measure O (2000) and Measure O (2002), certain provisions of Chapter 14.28 of the San Jose Municipal Code (the "Act"), a resolution adopted by the City Council on June 7, 2005, and the Fiscal Agent Agreement between Wells Fargo Bank, National Association (the "Fiscal Agent"), and the City dated as of June 1, 2005 (the "Fiscal Agent Agreement").

At the general election of the registered voters of the City held on November 7, 2000, more than two-thirds of the persons voting on Measure O (San Jose Neighborhood Libraries Bond) ("Measure O (2000)") and Measure P (San Jose Safe Neighborhood Parks and Recreation Bond) ("Measure P") voted to authorize the issuance and sale of not to exceed $211,790,000 and $228,030,000 respective principal amounts of general obligation bonds. The issuance of general obligation bonds in accordance with Measure O (2000) was approved by 75.8% of the voters. The issuance of general obligation bonds in accordance with Measure P was approved by 78.7% of the voters.

At the general election of the registered voters of the City held on March 5, 2002, more than two thirds of the persons voting on Measure O (San Jose 911, Fire, Police, Paramedic and Neighborhood Security Act) ("Measure O (2002)") voted to authorize the issuance and

3 sale of not to exceed $159,000,000 principal amount of general obligation bonds. The issuance of general obligation bonds in accordance with Measure O (2002) was approved by 71. 7% of the voters.

The Bonds include the fourth series of general obligation bonds that the City is issuing pursuant to Measure O (2000) and the third series of general obligation bonds that the City is issuing pursuant to Measure O (2002). The City is, at this time, not issuing any general obligation bonds pursuant to Measure P, but has previously issued three series of general obligation bonds pursuant to Measure P. The tables below set forth the amount of authorized and outstanding general obligation bonds issued pursuant to Measure O (2000), Measure P and Measure O (2002).

Measure O (2000) Bonds Neighborhood Libraries Bond

Amount Date Voter Authorization $211,790,000 November 7, 2000

Series 2001 Bonds 31,000,000 June 6, 2001 Series 2002 Bonds 30,000,000 July 18, 2002 Series 2004 Bonds 58,300,000 July 14, 2004 Series 2005 Bonds 21,300,000 June 23, 2005 Authorized but Unissued $71, 190,000 Measure P Bonds Safe Neighborhood Parks and Recreation Bond

Amount Date Voter Authorization $228,030,000 November 7, 2000 Series 2001 Bonds 40,000,000 June 6, 2001 Series 2002 Bonds 46,715,000 July 18, 2002 Series 2004 Bonds 46 000 000 July 14, 2004 Authorized but Unissued $95,315,000

Measure O (2002) Bonds 911, Fire, Police, Paramedic and Neighborhood Security Act

Amount Date Voter Authorization $159,000,000 March 5, 2002 Series 2002 Bonds 39,375,000 July 18, 2002 Series 2004 Bonds 14,400,000 July 14, 2004 Series 2005 Bonds 25,000,000 June 23, 2005 Authorized but Unissued $80,225,000

Purpose of Issue

The projects to be funded from the proceeds of the Bonds issued pursuant to the Measure O (2000) authorization (and all other general obligation bonds issued under the Measure O (2000) authorization) include the acquisition and construction of new and expanded branch libraries within the City (the "Libraries Project").

4 The projects to be funded from the proceeds of the Bonds issued pursuant to the Measure O (2000) authorization (and all other general obligation bonds issued under the Measure O (2002) authorization) include the acquisition of property and construction of improvements in various locations throughout the City in order to add and improve police and fire stations and public safety training facilities and to create 911 communications facilities (the "Public Safety Project").

Proceeds of the Bonds will also be used to fund the costs of issuance relating to the Bonds.

Security

The Bonds are general obligations of the City and the City Council is empowered and is obligated to levy advalorem taxes upon all property within the City subject to taxation by the City, without limitation of rate or amount (except with respect to certain personal property which is taxed at limited rates), for the payment of the Bonds and the interest thereon, in accordance with all relevant provisions of law.

The City will direct the County of Santa Clara to collect such ad va/orem taxes in such amounts and at such times as is necessary to ensure the timely payment of debt service. Such taxes, when collected, will be deposited into the debt service account for the Bonds (the "Series 2005 Debt ServiceAcc ount"), which is maintained by the City and which is irrevocably pledged for the payment of principal of and interest on the Bonds when due. For further information regarding the City's assessed valuation, tax rates, overlapping debt, and other matters concerning taxation, see APPENDIX A - "THE CITY OF SAN JOSE: DEMOGRAPHIC, ECONOMIC AND FINANCIAL INFORMATION."

The County operates on a Teeter Plan whereby taxing entities, including the City, receive 100% of their tax levy assessed by the County. The Teeter Plan will remain in effect unless the County orders its discontinuance or unless the County receives a petition for its discontinuance joined in by resolutions adopted by at least two-thirds of the participating revenue districts in the County, in which event the Board of Supervisors of the County shall order discontinuance of the Teeter Plan effective at the commencement of the subsequent fiscal year. Additionally, the County may discontinue the procedures under the Teeter Plan with respect to any political subdivision in the County if the rate of secured property tax delinquency in that political subdivision in any year exceeds three percent (3%) of the total of all taxes and assessments levied on the secured rolls for that political subdivision. If the Teeter Plan is discontinued subsequent to its implementation, only those secured property taxes actually collected would be allocated to political subdivisions (including the City) for which the County acts as the tax-levying or tax-collecting agency. For further information, please see APPENDIX A - "THE CITY OF SAN JOSE: DEMOGRAPHIC, ECONOMIC AND FINANCIAL INFORMATION - Major General Fund Revenue Sources, Property Taxes and Assessed Valuations" herein. The amount of the annual advalorem tax levied by the City and collected by the County to repay the Bonds will be determined by the relationship between the assessed valuation of taxable property in the City and the amount of debt service due on the Bonds. A reduction in the assessed valuation of taxable property in the City caused by economic factors beyond the City's control, such as economic recession, slower growth, or deflation of land values, a relocation out of the City by one or more major property owners, or the complete or partial destruction of such property caused by, among other eventualities, an earthquake, flood or other natural disaster, could cause a reduction in the assessed value of the City and necessitate an unanticipated increase in the annual tax levy. For further

5 information regarding the City's tax base, overlapping debt and other matters concerning taxation, see APPENDIX A - "THE CITY OF SAN JOSE: DEMOGRAPHIC, ECONOMIC AND FINANCIAL INFORMATION."

Bond Insurance for Insured Bonds

The bond insurance described herein was obtained by the initial purchasers of the Bonds. Neither the City nor Bond Counsel makes any representation in regard thereto. The specimen policy in APPENDIX E has been furnished by MBIA Insurance Corporation (the "Insurer").

General

Upon delivery of the Bonds, the Insurer will issue a municipal bond insurance policy insuring the payment of the principal of and the interest on only the Term Bonds maturing on on September 1, 2031, and September 1, 2035, when due (the "Insured Bonds"). None of the Bonds maturing on any other dates will have any benefit of such insurance (the "Uninsured Bonds").

The Municipal Bond Insurance Policy

The following information has been furnished by MBIA Insurance Corporation ("MBIA") for use in this Official Statement. Reference is made to Appendix F for a specimen of MBIA's policy (the "Policy").

MBIA does not accept any responsibility for the accuracy or completeness of this Official Statement or any information or disclosure contained herein, or omitted herefrom, other than with respect to the accuracy of the information regarding the Policy and MBIA set forth under the heading "Bond Insurance for Insured Bonds". Additionally, MBIA makes no representation regarding the Insured Bonds or the advisability of investing in the Insured Bonds.

The MBIA Policy unconditionally and irrevocably guarantees the full and complete payment required to be made by or on behalf of the City to the Fiscal Agent or its successor of an amount equal to (i) the principal of (either at the stated maturity or by an advancement of maturity pursuant to a mandatory sinking fund payment) and interest on, the Insured Bonds as such payments shall become due but shall not be so paid (except that in the event of any acceleration of the due date of such principal by reason of mandatory or optional redemption or acceleration resulting from default or otherwise, other than any advancement of maturity pursuant to a mandatory sinking fund payment, the payments guaranteed by the MBIA Policy shall be made in such amounts and at such times as such payments of principal would have been due had there not been any such acceleration, unless MBIA elects in its sole discretion, to pay in whole or in part any principal due by reason of such acceleration); and (ii) the reimbursement of any such payment which is subsequently recovered from any Owner of the Insured Bonds pursuant to a final judgment by a court of competent jurisdiction that such payment constitutes an avoidable preference to such Owner within the meaning of any applicable bankruptcy law (a "Preference").

MBIA's Policy does not insure against loss of any prepayment premium which may at any time be payable with respect to any Insured Bonds. MBIA's Policy does not, under any circumstance, insure against loss relating to: (i) optional or mandatory redemptions (other than mandatory sinking fund redemptions); (ii) any payments to be made on an accelerated basis;

6 (iii) payments of the purchase price of Insured Bonds upon tender by an owner thereof; or (iv) any Preference relating to (i) through (iii) above. MBIA's Policy also does not insure against nonpayment of principal of or interest on the Insured Bonds resulting from the insolvency, negligence or any other act or omission of the Paying Agent or any other paying agent for the Insured Bonds.

Upon receipt of telephonic or telegraphic notice, such notice subsequently confirmed in writing by registered or certified mail, or upon receipt of written notice by registered or certified mail, by MBIA from the Paying Agent or any owner of a Insured Bond the payment of an insured amount for which is then due, that such required payment has not been made, MBIA on the due date of such payment or within one business day after receipt of notice of such nonpayment, whichever is later, will make a deposit of funds, in an account with U.S. Bank Trust National Association, in New York, New York, or its successor, sufficient for the payment of any such insured amounts which are then due. Upon presentment and surrender of such Insured Bonds or presentment of such other proof of ownership of the Insured Bonds together with any appropriate instruments of assignment to evidence the assignment of the insured amounts due on the Insured Bonds as are paid by MBIA, and appropriate instruments to effect the appointment of MBIA as agent for such owners of the Insured Bonds in any legal proceeding related to payment of insured amounts on the Insured Bonds, such instruments being in a form satisfactory to U.S. Bank Trust National Association, U.S. Bank Trust National Association shall disburse to such owners or the Paying Agent payment of the insured amounts due on such Insured Bonds less any amount held by the Paying Agent for the payment of such insured amounts and legally available therefor.

MBIA Insurance Corporation

MBIA Insurance Corporation ("MBIA") is the principal operating subsidiary of MBIA Inc., a New York Stock Exchange listed company (the "Company"). The Company is not obligated to pay the debts of or claims against MBIA. MBIA is domiciled in the State of New York and licensed to do business in and subject to regulation under the laws of all 50 states, the District of Columbia, the Commonwealth of Puerto Rico, the Commonwealth of the Northern Mariana Islands, the Virgin Islands of the United States and the Territory of Guam. MBIA has three branches, one in the Republic of France, one in the Republic of Singapore and one in the Kingdom of Spain.

The principal executive offices of MBIA are located at 113 King Street, Armonk, New York 10504 and the main telephone number at that address is (914) 273-4545.

Regulation

As a financial guaranty insurance company licensed to do business in the State of New York, MBIA is subject to the New York Insurance Law which, among other things, prescribes minimum capital requirements and contingency reserves against liabilities for MBIA, limits the classes and concentrations of investments that are made by MBIA and requires the approval of policy rates and forms that are employed by MBIA. State law also regulates the amount of both the aggregate and individual risks that may be insured by MBIA, the payment of dividends by MBIA, changes in control with respect to MBIA and transactions among MBIA and its affiliates.

The Policy is not covered by the Property/Casualty Insurance Security Fund specified in Article 76 of the New York InsuranceLaw.

7 Financial Strength Ratings of MBIA

Moody's Investors Service, Inc. rates the financial strength of MBIA "Aaa."

Standard & Poor's, a division of The McGraw-Hill Companies, Inc. rates the financial strength of MBIA "AAA"

Fitch Ratings rates the financial strength of MBIA "AAA."

Each rating of MBIA should be evaluated independently. The ratings reflect the respective rating agency's current assessment of the creditworthiness of MBIA and its ability to pay claims on its policies of insurance. Any further explanation as to the significance of the above ratings may be obtained only from the applicable rating agency.

The above ratings are not recommendations to buy, sell or hold the Insured Bonds, and such ratings may be subject to revision or withdrawal at any time by the rating agencies. Any downward revision or withdrawal of any of the above ratings may have an adverse effect on the market price ofthe Insured Bonds. MBIA does not guaranty the market price of the Insured Bonds nor does it guaranty that the ratings on the Insured Bonds will not be revised or withdrawn.

MBIA Information

As of December 31, 2004, MBIA had admitted assets of $10.4 billion (unaudited), total liabilities of $7.0 billion (unaudited), and total capital and surplus of $3.4 billion (unaudited) determined in accordance with statutory accounting practices prescribed or permitted by insurance regulatory authorities. As of March 31, 2005 MBIA had admitted assets of $10.6 billion (unaudited), total liabilities of $7.0 billion (unaudited), and total capital and surplus of $3.6 billion (unaudited) determined in accordance with statutory accounting practices prescribed or permitted by insurance regulatory authorities.

For further information concerning MBIA, see the consolidated financial statements of MBIA and its subsidiaries as of December 31, 2004 and December 31, 2003 and for each of the three years in the period ended December 31, 2004, prepared in accordance with generally accepted accounting principles, included in the Annual Report on Form 10-K of the Company for the year ended December 31, 2004 and the consolidated financial statements of MBIA and its subsidiaries as of March 31, 2005 and for the three month periods ended March 31, 2005 and March 31, 2004 included in the Quarterly Report on Form 10-Q of the Company for the period ended March 31, 2005, which are hereby incorporated by reference into this Official Statement and shall be deemed to be a parthereof.

Copies of the statutory financial statements filed by MBIA with the State of New York Insurance Department are available over the Internet at the Company's web site at http://www.mbia.com and at no cost, upon request to MBIA at its principalexecutive offices.

Incorporation of Certain Documents byRefer ence

The following documents filed by the Company with the Securities and Exchange Commission (the "SEC") are incorporated by reference into this Official Statement:

The Company's Annual Report on Form 10-K for the year ended December 31, 2004; and

8 The Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2005.

Any documents, including any financial statements of MBIA and its subsidiaries that are included therein or attached as exhibits thereto, filed by the Company pursuant to Sections 13(a), 13(c), 14 or 15(d) of the Exchange Act after the date of the Company's most recent Quarterly Report on Form 10-Q or Annual Report on Form 10-K, and prior to the termination of the offering of the Insured Bonds offered hereby shall be deemed to be incorporated by reference in this Official Statement and to be a part hereof from the respective dates of filing such documents. Any statement contained in a document incorporated or deemed to be incorporated by reference herein, or contained in this Official Statement, shall be deemed to be modified or superseded for purposes of this Official Statement to the extent that a statement contained herein or in any other subsequently filed document which also is or is deemed to be incorporated by reference herein modifies or supersedes such statement. Any such statement so modified or superseded shall not be deemed, except as so modified or superseded, to constitute a part of this Official Statement.

The Company files annual, quarterly and special reports, information statements and other information with the SEC under File No. 1-9583. Copies of the Company's SEC filings (including (1) the Company's Annual Report on Form 10-K for the year ended December 31 , 2004, and (2) the Company's Quarterly Reports on Form 10-Q for the quarter ended March 31, 2005) are available (i) over the Internet at the SEC's web site at http://www.sec.gov; (ii) at the SEC's public reference room in Washington D.C.; (iii) over the Internet at the Company's web site at http://www.mbia.com; and (iv) at no cost, upon request to MBIA at its principal executive offices.

In the event the Insurer were to become insolvent, any claims arising under a policy of financial guaranty insurance are excluded from coverage by the California Insurance Guaranty Association, established pursuant to Article 14.2 (commencing with Section 1063) of Chapter 1 of Part2 of Division 1 of the California Insurance Code.

Payment of the Bonds

The Bonds will be issued in book-entry form only and will be initially issued and registered in the name of Cede & Co. Purchasers will not receive certificates representing their interest in the Bonds.

The Bonds shall be issued in the denomination of $5,000 each or any integral multiple thereof. The Bonds mature on September 1, in the years and amounts set forth on the cover page hereof. See the maturity schedule on the cover page hereof and "DEBT SERVICE SCHEDULE."

Interest on the Bonds accrues from the date of delivery, and is payable on March 1, 2006, and semiannually thereafter on March 1 and September 1 of each year (the "Interest Payment Dates"). Interest on the Bonds shall be calculated on the basis of a 360-day year comprised of twelve 30-day months. Each Bond shall bear interest from the Interest Payment Date next preceding the date of registration and authentication thereof unless (i) it is registered and authenticated as of an Interest Payment Date, in which event ii shall bear interest from such date, or (ii) ii is registered and authenticated prior to an Interest Payment Date and after the close of business on the fifteenth day of the month preceding such

9 Interest Payment Date, in which event it shall bear interest from such Interest Payment Date, or (iii) it is registered and authenticated prior to February 15, 2006, in which event it shall bear interest from the date of delivery; provided, however, that if at the time of authentication of a Bond, interest is in default thereon, such Bond shall bear interest from the Interest Payment Date to which interest has previously been paid or made available for payment thereon.

Interest on the Bonds (including the final interest payment upon maturity or early redemption) is payable by check of the Fiscal Agent mailed on the Interest Payment Date to the owner thereof at such owner's address as it appears on the registration books maintained by the Fiscal Agent at the close of business on the fifteenth day of the month preceding the Interest Payment Date, or at such other address as the owner may have filed with the Fiscal Agent for that purpose; provided that an owner of $1,000,000 or more aggregate principal amount of Bonds, or the owner of all of the Bonds at the time outstanding, shall, at his or her option, receive payment of interest by wire transfer to an account in the United States of America designated by such owner to the Fiscal Agent no later than the fifteenth (15) day of the month immediately preceding the applicable Interest Payment Date. Principal of the Bonds is payable in lawful money of the United States of America at the principal office of the Fiscal Agent.

Book-Entry-Only System

The Bonds will be initially registered in the name of "Cede & Co.," as nominee of The Depository Trust Company, New York, New York ("OTC") which has been appointed securities depository for the Bonds, and registered ownership may not thereafter be transferred except as provided in the Fiscal Agent Agreement. The Bonds are being issued in book-entry form only. Purchasers will not receive certificates representing their interests in the Bonds. Principal of and interest on the Bonds will be paid by the Fiscal Agent to OTC or its nominee, Cede & Co .. which in turn is obligated to remit such principal and interest to its participants for subsequent disbursement to Beneficial Owners of the Bonds as described herein. See "APPENDIX E - BOOK-ENTRY-ONLY SYSTEM" herein.

Fiscal Agent

Wells Fargo Bank, National Association, in Los Angeles, California, will act as the registrar, transfer agent, and fiscal agent for the Bonds. As long as DTC's book-entry method is used for the Bonds, the Fiscal Agent will send any notice of redemption or other notices to owners only to OTC. Any failure of OTC to advise any OTC Participant, or of any OTC Participant to notify any Beneficial Owner, of any such notice and its content or effect will not affect the validity or sufficiency of the proceedings relating to the redemption of the Bonds called for redemption or of any other action premised on such notice.

The Fiscal Agent, the City, and the Underwriter of the Bonds have no responsibility or liability for any aspects of the records relating to or payments made on account of beneficial ownership, or for maintaining, supervising or reviewing any records relating to beneficial ownership, of interests in the Bonds.

In the event that either (i) OTC determines not to continue to act as securities depository for the Bonds, or (ii) the City determines to terminate OTC as a securities depository for the Bonds, then the City will discontinue the book-entry system with OTC. If the City fails to identify another securities depository to replace OTC, then the Bonds shall no longer be required to be registered in the name of OTC, but shall be registered in whatever name or

10 names the owners transferring or exchanging Bonds shall designate, in accordance with the provisions of the Fiscal Agent Agreement.

Optional Redemption

Bonds maturing on or before September 1, 2015, are not subject to redemption prior to their respective maturity dates. Bonds maturing on or after September 1, 2016, shall be subject to redemption prior to their respective maturity dates as a whole, or in part, on any date, from any moneys provided at the option of the City, in each case on and after September 1, 201 5, at a redemption price equal to the principal amount of Bonds called for redemption, plus accrued interest to the date fixed for redemption, without premium.

The City shall provide notice to the Fiscal Agent of any such optional redemption at least forty-five (45) days prior to the date set for redemption. In the case of a redemption in part, a City representative shall designate to the Fiscal Agent, in a written request of the City, those maturities to be redeemed in whole or in part (including as a maturity, for such purposes, principal due on the Bonds on a particular September 1 as a result of a scheduled mandatory sinking fund redemption). In the event a City representative does not designate the maturities of the Bonds to be redeemed, the Fiscal Agent shall select Bonds for redemption on a proportionate basis among maturities. In the event a particular maturity of Bonds is to be redeemed in part only, the Fiscal Agent shall select the Bonds of such maturity to be redeemed by lot.

Mandatory Sinking Fund Redemption

The Bonds maturing September 1, 2031, and September 1, 2035, are subject to mandatory sinking fund redemption in part, by lot, prior to their stated maturity dates, on each September 1 on and after September 1, 2028, and September 1, 2032, respectively, at a redemption price equal to 100% of the principal amount thereof called for redemption, plus accrued interest to the redemption date, without premium, as follows:

Term Bond Maturing September 1, 2031

Redemption Date Principal Amount of Bonds (September 1) to be Redeemed 2028 $1 ,545,000 2029 1,545,000 2030 1,545,000 2031* 1,545,000

Term Bond Maturing September 1, 2035

Redemption Date Principal Amount of Bonds (September 1) to be Redeemed 2032 $1.545,000 2033 1.545.000 2034 1.545,000 2035* 1,545,000

*Maturity

11 Redemption Procedure

Regardless of whether the City has deposited funds sufficient for any redemption with the Fiscal Agent, the Fiscal Agent shall cause notice of any redemption to be mailed, first class mail, postage prepaid, at least thirty (30) days but not more than sixty (60) days prior to the date fixed for redemption, to the respective owners of any Bonds designated for redemption, at their addresses appearing on the registration books maintained by the Fiscal Agent and to the Securities Depositories and the Information Services (both as defined in the Fiscal Agent Agreement); but such mailing shall not be a condition precedent to such redemption and failure to mail or to receive any such notice shall not affect the validity of the proceedings for the redemption of such Bonds. The City shall have the right to cancel the notice of any optional redemption by providing written notice of such cancellation to the Fiscal Agent not less than five (5) days prior to the date set for redemption.

Such notice shall state the redemption date and the redemption price and the CUSIP numbers of the Bonds to be redeemed, and, if less than all of the then outstanding Bonds are to be called for redemption, shall designate the serial numbers of the Bonds to be redeemed by giving the individual number of each Bond or by stating that all Bonds between two stated numbers, both inclusive, or by stating that all of the Bonds of one or more maturities have been called for redemption, and shall require that such Bonds be then surrendered at the principal office of the Fiscal Agent for redemption at the said redemption price, giving notice also that further interest on such Bonds will not accrue from and after the redemption date. Any notice of optional redemption shall also state that it is subject to cancellation not less than five (5) days prior to the date set for redemption. In the event term bonds are redeemed in part, the City shall deliver a revised sinking fund schedule to the Fiscal Agent.

Partial Redemption of Bonds

Upon surrender of Bonds redeemed in part only, the City shall execute and the Fiscal Agent shall authenticate and deliver to the owner, at the expense of the City, a new Bond or Bonds, of the same maturity, of authorized denominations in aggregate principal amount equal to the unredeemed portion of the Bond or Bonds.

Effect of Redemption of Bonds

From and after the date fixed for redemption, if notice of such redemption shall have been duly given as provided in the Fiscal Agent Agreement and funds available for the payment of the principal of and interest (and premium, if any) on the Bonds so called for redemption shall have been duly provided, such Bonds so called shall cease to be entitled to any benefit under the Fiscal Agent Agreement other than the right to receive payment of the redemption price, and no interest shall accrue thereon on or after the redemption date specified in such notice.

Defeasance

The City shall have the option to pay and discharge the entire indebtedness on all or any portion of the Bonds (including the principal due on the Bonds on any date as a result of a scheduled mandatory sinking fund redemption) in any one or more of the following ways:

(a) by paying or causing to be paid the principal of, and interest and any premium on, such outstanding Bonds, as and when the same become due and payable;

12 (b) by depositing with the Fiscal Agent or an escrow agent, in trust, at or before maturity, money which, together with, in the event of a discharge of all of the Bonds, the amounts then on deposit in the funds and accounts provided for in the Fiscal Agent Agreement is fully sufficient to pay such outstanding Bonds, including all principal, interest and redemption premiums; or

(c) by irrevocably depositing with the Fiscal Agent or an escrow agent, in trust, cash and Defeasance Obligations (as defined below) in such amount as the City shall determine as confirmed by an independent certified public accountant will, together with the interest to accrue thereon and, in the event of a discharge of all of the Bonds, moneys then on deposit in the fund and accounts provided for in the Fiscal Agent Agreement, be fully sufficient to pay and discharge the indebtedness on such Bonds (including all principal, interest and redemption premiums) at or before their respective maturity dates.

If the City shall have taken any of the actions specified in (a), (b) or (c) above, and if such Bonds are to be redeemed prior to the maturity thereof notice of such redemption shall have been given as in the Fiscal Agent Agreement provided or provision satisfactory to the Fiscal Agent shall have been made for the giving of such notice, then, at the election of the City, and notwithstanding that any Bonds shall not have been surrendered for payment, the pledge of the funds and moneys provided for in the Fiscal Agent Agreement and all other obligations of the City under the Fiscal Agent Agreement with respect to such outstanding Bonds shall cease and terminate. Notwithstanding the foregoing, the obligation of the City to pay or cause to be paid to the owners of the Bonds not so surrendered and paid all sums due thereon and all amounts owing to the Fiscal Agent pursuant to the Fiscal Agent Agreement shall continue in any event.

"Defeasance Obligations" means any of the following which at the time acquired or made are legal investments for the City, under applicable State of California laws and the Investment Policy (unless compliance with the City Investment Policy is waived in writing by the Director of Finance of the City), for the moneys held hereunder then proposed to be invested therein:

(a) Cash;

(b) United States Treasury notes, bonds, bills or certificates of indebtedness or those for which the faith and credit of the United States are pledged for the payment of principal and interest ("Federal Securities");

(c) Direct obligations of the Treasury which have been stripped by the Treasury itself, CATS, TIGRS and similar securities;

(d) The interest component of Resolution Funding Corporation strips which have been stripped by request to the Federal Reserve Bank of New York in book entry form;

(e) Pre-refunded municipal bonds rated Aaa by Moody's and AAA by S&P, provided that, if the issue is rated only by S&P (i.e., there is no Moody's rating), then the pre-refunded municipal bonds must have been pre-refunded with cash, direct U.S. or U.S. guaranteed obligations, or AAA rated pre-refunded municipals; and

13 (f) Bonds, debentures, notes or other evidence of indebtedness issued or guaranteed by any of the following federal agencies and provided such obligations are backed by the full faith and credit of the United States of America (stripped securities are only permitted if they have been stripped by the agency itself): (i) direct obligations or fully guaranteed certificates of beneficial ownership of the U.S. Export-Import Bank; (ii) certificates of beneficial ownership of the Rural Economic Community Development Administration (formerly the Farmers Home Administration); (iii) obligations of the Federal Financing Bank; (iv) debentures of the Federal Housing Administration; (v) participation certificates of the General Services Administration; (vi) guaranteed Title XI financings of the U.S. Maritime Administration; and (vii) project notes, local authority bonds, new communities debentures and U.S. public housing notes and bonds of the U.S. Department of Housing and Urban Development.

(g) Investments agreements or guaranteed investment contracts with banks, insurance companies or other financial institutions (i) whose long term unsecured senior obligations are rated in the highest whole rating category by at least two of Moody's, S&P and Fitch, or (ii) whose obligations under such investment agreements or guaranteed investment contracts are guaranteed by entities whose long term unsecured senior obligations are rated in the highest whole rating category by at least two of Moody's, S&P and Fitch; provided that, pursuant to such investment agreements or guaranteed investment contracts, the bank, insurance company or other financial institution shall be absolutely and unconditionally obligated to repay the moneys invested by the City and interest thereon at a guaranteed rate, without any right of recoupment, counterclaim or set off. The bank, insurance company or other financial institution may have the right to assign its obligations under any such investment agreement or guaranteed investment contract to another bank, insurance company or other financial institution; provided, however, that such assignee shall also be a bank, insurance company or other financial institution (iii) whose long term unsecured senior obligations are rated in the highest whole rating category by at least two of Moody's, S&P and Fitch, or (iv) whose obligations under such investment agreement or guaranteed investment contract are guaranteed by a bank, insurance company or financial institution whose unsecured senior obligations are rated in the highest whole rating category by at least two of Moody's, S&P and Fitch.

Registration, Transfer and Exchange of Bonds

The Fiscal Agent shall keep or cause to be kept sufficient books for the registration and transfer of the Bonds, which shall at all times be open to inspection by the City upon reasonable notice; and, upon presentation for such purpose, the Fiscal Agent shall, under such reasonable regulations as it may prescribe, register or transfer or cause to be registered or transferred, on said books, the Bonds.

Events of Defaults and Remedies

The following constitute Events of Default under the Fiscal Agent Agreement:

(a) if default shall be made by the City in the due and punctual payment of the principal of or redemption premium, if any, on any Bond when and as the same shall become due and payable, whether at maturity as therein expressed or by declaration or otherwise; or

14 (b) if default shall be made by the City in the due and punctual payment of any installment of interest on any Bond when and as such interest installment shall become due and payable.

Upon the occurrence of an Event of Default, any bondowner shall have the right, for the equal benefit and protection of all bondowners similarly situated:

(a) by mandamus, suit, action or proceeding, to compel the City and its members, officers, agents or employees to perform each and every term, provision and covenant contained in the Fiscal Agent Agreement and in the Bonds, and to require the carrying out of any or all such covenants and agreements of the City and the fulfillment of all duties imposed upon it; or

(b) by suit, action or proceeding in equity, to enjoin any acts or things which are unlawful, or the violation of any of the bondowners' rights.

Nothing in the Fiscal Agent Agreement, or in the Bonds, shall affect or impair the obligation of the City, which is absolute and unconditional, to pay the principal of and interest on the Bonds to the respective owners of the Bonds at the respective dates of maturity, or affect or impair the right of action, which is also absolute and unconditional, of such bondowners to institute suit to enforce such payment by virtue of the contract embodied in the Bonds. A waiver of any default by any bondowner shall not affect any subsequent default or impair any rights or remedies on the subsequent default. No delay or omission of any owner of any of the Bonds to exercise any right or power accruing upon any default shall impair any such right or power or shall be construed to be a waiver of any such default or an acquiescence therein, and every power and remedy conferred upon the bondowners by the Fiscal Agent Agreement may be enforced and exercised from time to time and as often as shall be deemed expedient by the owners of the Bonds.

If a suit, action or proceeding to enforce any right or exercise any remedy be abandoned or determined adversely to the bondowners, the City and the bondowners shall be restored to their former positions, rights and remedies as if such suit, action or proceeding had not been brought or taken.

No remedy conferred upon the owners of Bonds under the Fiscal Agent Agreement shall be exclusive of any other remedy and that each and every remedy shall be cumulative and shall be in addition to every other remedy given hereunder or thereafter conferred on the bondowners.

Amendments to Fiscal Agent Agreement

The Fiscal Agent Agreement and the rights and obligations of the City and of the owners of the Bonds may be modified or amended at any time by a Supplemental Fiscal Agent Agreement pursuant to the affirmative vote at a meeting of owners, or with the written consent without a meeting, of the owners of at least a majority in aggregate principal amount of the Bonds then outstanding, exclusive of Bonds disqualified as provided in the Fiscal Agent Agreement. No such modification or amendment shall (i) extend the maturity of any Bond or reduce the interest rate thereon, or otherwise alter or impair the obligation of the City to pay the principal of, and the interest and any premium on, any Bond, without the express consent of the owner of such Bond, or (ii) permit the creation by the City of any pledge or lien upon the ad valorem taxes of the taxes superior to or on a parity with the pledge and lien

15 created for the benefit of the Bonds (except as otherwise permitted by the Act, the laws of the State of California or the Fiscal Agent Agreement), or reduce the percentage of Bonds required for the amendment of the Fiscal Agent Agreement. Any such amendment may not modify any of the rights or obligations of the Fiscal Agent without its written consent.

The Fiscal Agent Agreement and the rights and obligations of the City and of the bondowners may also be modified or amended at any time by a Supplemental Fiscal Agent Agreement, without the consent of any owners, only to the extent permitted by law and only for any one or more of the following purposes:

(a) to add to the covenants and agreements of the City in the Fiscal Agent Agreement contained, other covenants and agreements thereafter to be observed, or to limit or surrender any right or power reserved to or conferred upon the City;

(b) to make such provisions for the purpose of curing any ambiguity, or of curing, correcting or supplementing any defective provision contained in the Fiscal Agent Agreement, or in regard to questions arising under the Fiscal Agent Agreement, as the City and the Fiscal Agent may deem necessary or desirable and not inconsistent with the Agreement, and which shall not adversely affect the rights of the owners of the Bonds; and

(c) to make such additions, deletions or modifications as may be necessary or desirable to assure compliance with Section 148 of the Code relating to required rebate of Excess Investment Earnings to the United States or otherwise as may be necessary to assure exclusion from gross income for federal income tax purposes of interest on the Bonds or to conform with the Regulations.

16 SOURCES AND USES OF FUNDS

The sources and uses of funds with respect to the Bonds will be applied as follows:

Sources of Funds Principal Amount of Bonds $46,300,000.00 Net Original Issue Premium 803.299.40 Total Sources $47, 1 03,299.40

Uses of Funds Deposit to Libraries Account $21,300,000.00 Deposit to Fire Subaccount 13,500,000.00 Deposit to Police Subaccount 11,500,000.00 Underwriter's Discount 453,103.11 Deposit to Costs of Issuance Account<'> 260,000.00 Bond Insurance Premium 41 ,200.00 Deposit to Bond Service Fund 48.996.29 Total Uses · $47, 1 03,299.40

<1 > Includes bond counsel fees, financial advisor fe es, rating fees, fees of the City, printing expenses and other costs of issuance with respect to the Bonds. Deposit to the Costs of Issuance Account will be made from the Net Original Issue Premium.

17 DEBT SERVICE SCHEDULE The following table shows the debt service schedule with respect to the Bonds.

Period Ending Principal Interest Semi-Annual Fiscal Year (September 1) Payment Payment Debt Service Debt Service March 1, 2006 $ 1,454,247.03 $ 1,454,247.03 $ 1,454,247.03 September 1, 2006 $1,540,000 1,055,501.88 2,595,501.88 March 1, 2007 997,751.88 997,751.88 3,593,253. 76 September 1, 2007 1,540,000 997,751.88 2,537,751.88 March 1, 2008 940,001.88 940,001.88 3,477, 753. 76 September 1, 2008 1,540,000 940,001.88 2,480,001.88 March 1, 2009 882,251.88 882,251.88 3,362,253. 76 September 1, 2009 1,540,000 882,251.88 2,422,251.88 March 1, 2010 824,501.88 824,501 .88 3,246,753.76 September 1, 201 O 1,540,000 824,501.88 2,364,501.88 March 1, 201 1 801,401.88 801,401.88 3,165,903.76 September 1, 2011 1,540,000 801,401.88 2,341,401.88 March 1, 2012 778,301 .88 778,301.88 3,119,703.76 September 1, 2012 1,540,000 778,301 .88 2,318,301.88 March 1, 2013 754,239.38 754,239.38 3,072,541.26 September 1, 2013 1,540,000 754,239.38 2,294,239.38 March 1, 2014 723,439.38 723,439.38 3,017,678.76 September 1, 2014 1,540,000 723,439.38 2,263,439.38 March 1, 2015 692,639.38 692,639.38 2,956,078.76 September 1, 2015 1,540,000 692,639.38 2,232,639.38 March 1, 2016 661,839.38 661,839.38 2,894,478.76 September 1, 2016 1,545,000 661,839.38 2,206,839.38 March 1, 2017 630,939.38 630,939.38 2,837,778.76 September 1, 2017 1,545,000 630,939.38 2,175,939.38 March 1, 2018 600,039.38 600,039.38 2,775,978. 76 September 1, 2018 1,545,000 600,039.38 2,1 45,039.38 March 1, 2019 569, 139.38 569,139.38 2,714,178.76 September 1, 2019 1,545,000 569,139.38 2, 114,1 39.38 March 1, 2020 538,239.38 538,239.38 2,652,378.76 September 1, 2020 1,545,000 538,239.38 2,083,239.38 March 1, 2021 507,339.38 507,339.38 2,590,578.76 September 1, 2021 1,545,000 507,339.38 2,052,339.38 March 1, 2022 476,439.38 476,439.38 2,528,778.76 September 1, 2022 1,545,000 476,439.38 2,021 ,439.38 March 1, 2023 444,573.75 444,573.75 2,466,013.13 September 1, 2023 1,545,000 444,573.75 1,989,573.75 March 1, 2024 411,742.50 411,742.50 2,401,316.25 September 1, 2024 1,545,000 411,742.50 1,956,742.50 March 1, 2025 378,91 1.25 378,911.25 2,335,653.75 September 1, 2025 1,545,000 378,91 1.25 1,923,911.25 March 1, 2026 345,693.75 345,693.75 2,269,605.00 September 1, 2026 1,545,000 345,693.75 1,890,693.75 March 1, 2027 31 1,896.88 311,896.88 2,202,590.63 September 1, 2027 1,545,000 31 1,896.88 1,856,896.88 March 1, 2028 278,100.00 278,100.00 2, 134,996.88 September 1, 2028 1,545,000 278,100.00 1,823,100.00 March 1, 2029 243,337.50 243,337.50 2,066,437.50 September 1, 2029 1,545,000 243,337.50 1,788,337.50 March 1, 2030 208,575.00 208,575.00 1,996,912.50 September 1, 2030 1,545,000 208,575.00 1,753,575.00 March 1, 2031 173,812.50 173,812.50 1,927,387.50 September 1, 2031 1,545,000 173,812.50 1,718,812.50 March 1, 2032 139,050.00 139,050.00 1,857,862.50 September 1, 2032 1,545,000 139,050.00 1,684,050.00 March 1, 2033 104,287.50 104,287.50 1,788,337.50 September 1, 2033 1,545,000 104,287.50 1,649,287.50 March 1, 2034 69,525.00 69,525.00 1,718,812.50 September 1, 2034 1,545,000 69,525.00 1,614,525.00 March 1, 2035 34,762.50 34,762.50 1,649,287.50 September 1, 2035 1 545 000 34,762.50 1579 762.50 1579 762.50 Total $46,300,000 $31,555,295.33 $77,855,295.33 $77,855,295.33

18 CONSTITUTIONAL AND STATUTORY PROVISIONS AFFECTING CITY REVENUES AND APPROPRIATIONS

Principal of and interest on the Bonds are payable fr om the proceeds of an ad valorem tax levied by the City for the payment thereof (See "THE BONDS - Security" herein.) Articles XII/A, X/1/B, XI/IC and XI/ID of the Constitution, Propositions 62, 111, and 218 and 1 A, and certain other provisions of law discussed below, are included in this section to describe the potential effect of these Constitutional and statutory measures on the ability of the City to levy taxes and spend tax proceeds for operating and other purposes, and it should not be inferred from the inclusion of such materials that these laws impose any limitation on the ability of the City to levy taxes for payment of the Bonds. The tax levied by the City for payment of the Bonds was approved by the City's voters in compliance with Article XII/A and all applicable laws.

Article XIIIA of the State Constitution

On June 6, 1978, California voters approved Proposition 13 ("Proposition 13"), which added Article XIIIA to the State Constitution ("Article XIIIA"). Article XIIIA, as amended, limits the amount of any ad valorem tax on real property to one percent of the full cash value thereof, except that additional ad valorem taxes may be levied to pay debt service (i) on indebtedness approved by the voters prior to July 1, 1978, (ii) on bonded indebtedness approved by a two-thirds vote on or after July 1, 1978, for the acquisition or improvement of real property and (iii) bonded indebtedness incurred by a school district, community college district or county office of education for the construction, reconstruction, rehabilitation or replacement of school facilities, including the furnishing and equipping of school facilities or the acquisition or lease of real property for school facilities, approved by 55 percent of the voters voting on the proposition. Article XIIIA defines full cash value to mean "the county assessor's valuation of real property as shown on the 1975-76 tax bill under "full cash value," or thereafter, the appraised value of real property when purchased, newly constructed, or a change in ownership has occurred after the 1975 assessment." This full cash value may be increased at a rate not to exceed two percent per year to account for inflation.

Article XIIIA has subsequently been amended to permit reduction of the "full cash value" base in the event of declining property values caused by damage, destruction or other factors, to provide that there would be no increase in the "full cash value" base in the event of reconstruction of property damaged or destroyed in a disaster, and in other minor or technical ways.

Legislation Implementing Article XIIIA

Legislation has been enacted and amended a number of times since 1978 to implement Article XIIIA. Under current law, local agencies are no longer permitted to levy directly any property tax (except to pay voter-approved indebtedness). The one percent property tax is automatically levied by the County and distributed according to a formula among taxing agencies. The formula apportions the tax roughly in proportion to the relative shares of taxes levied prior to 1989.

Increases of assessed valuation resulting from reappraisals of property due to new construction, change in ownership or from the two percent annual adjustment are allocated

19 among the various jurisdictions in the "taxing area" based upon their respective "situs." Any such allocation made to a local agency continues as part of its allocation in future years.

All taxable property is shown at full market value on the tax rolls. Consequently, the tax rate is expressed as $1 per $100 of taxable value. All taxable property value included in this Official Statement is shown at 100 percent of market value (unless noted differently) and all tax rates reflect the $1 per $100 of taxable value.

Article XIII B of the State Constitution

In addition to the limits Article XIIIA imposes on property taxes that may be collected by local governments, certain other revenues of the State and most local governments are subject to an annual "appropriations limit" imposed by Article XIIIB which effectively limits the amount of such revenues those entities are permitted to spend. Article XIIIB, approved by the voters in June 1979, was modified substantially by Proposition 111 in 1990. The appropriations limit of each government entity applies to "proceeds of taxes," which consist of tax revenues, State subventions and certain other funds, including proceeds from regulatory licenses, user charges or other fees to the extent that such proceeds exceed "the cost reasonably borne by such entity in providing the regulation, product or service." "Proceeds of taxes" excludes tax refunds and some benefit payments such as unemployment insurance. No limit is imposed on the appropriation of funds which are not "proceeds of taxes," such as reasonable user charges or fees, and certain other non-tax funds. Article XIIIB also does not limit appropriation of local revenues to pay debt service on Bonds existing or authorized by January 1, 1979, or subsequently authorized by the voters, appropriations required to comply with mandates of courts or the federal government, appropriations for qualified capital outlay projects, and appropriation by the State of revenues derived from any increase in gasoline taxes and motor vehicle weight fees above January 1, 1990, levels. The appropriations limit may also be exceeded in case of emergency; however, the appropriations limit for the next three years following such emergency appropriation must be reduced to the extent by which it was exceeded, unless the emergency arises from civil disturbance or natural disaster declared by the Governor, and the expenditure is approved by two-thirds of the legislative body of the local government.

The State and each local government entity has its own appropriations limit. Each year, the limit is adjusted to allow for changes, if any, in the cost of living, the population of the jurisdiction, and any transfer to or from another government entity of financial responsibility for providing services. Proposition 111 requires that each agency's actual appropriations be tested against its limit every two years.

If the aggregate "proceeds of taxes" for the preceding two-year period exceeds the aggregate limit, the excess must be returned to the agency's taxpayers through tax rate or fee reductions over the followingtwo years. The City has never exceeded its appropriations limit.

Article XIIIC and Article XIIID of the State Constitution

On November 5, 1996, the voters of the State approved Proposition 218, known as the "Right to Vote on Taxes Act." Proposition 218 adds Articles XIIIC and XIIID to the California Constitution and contains a number of interrelated provisions affecting the ability of the City to levy and collect both existing and future taxes, assessments, fees and charges. The interpretation and application of Proposition 218 will ultimately be determined by the courts with respect to a number of the matters discussed below, and it is not possible at this time to predict with certainty the outcome of such determination.

20 Article XIIIC requires that all new local taxes be submitted to the electorate before they become effective. Taxes for general governmental purposes of the City require a majority vote and taxes for specific purposes, even if deposited in the City's General Fund, require a two­ thirds vote. The voter approval requirements of Proposition 218 reduce the flexibility of the City to raise revenues for the General Fund, and no assurance can be given that the City will be able to impose, extend or increase such taxes in the future to meet increased expenditure needs.

Article XIIID also adds several provisions making it generally more difficult for local agencies to levy and maintain property-related fees, charges, and assessments for municipal services and programs. These provisions include, among other things, (i) a prohibition against assessments which exceed the reasonable cost of the proportional special benefit conferred on a parcel, (ii) a requirement that assessments must confer a "special benefit," as defined in Article XIIID, over and above any general benefits conferred, (iii) a majority protest procedure for assessments which involves the mailing of notice and a ballot to the record owner of each affected parcel, a public hearing and the tabulation of ballots weighted according to the proportional financial obligation of the affected party. and (iv) a prohibition against fees and charges which are used for general governmental services, including police, fire or library services, where the service is available to the public at large in substantially the same manner as it is to property owners. None of the property-related fees or assessments currently collected by the City are deposited in the General Fund. If the City is unable to continue to collect these revenues, the services and programs funded with these revenues would have to be curtailed and/or the City General Fund might have to be used to support them. The City is unable to predict whether or not in the future it will be able to continue all existing services and programs funded by the fees, charges and assessments in light of Proposition 218 or, if these services and programs are continued, which amounts (if any) would be used from the City's General Fund to continue to support these activities.

Article XIIIC also removes limitations on the initiative power in matters of reducing or repealing local taxes, assessments, fees or charges. No assurance can be given that the voters of the City will not, in the future, approve an initiative or initiatives which reduce or repeal local taxes, assessments, fees or charges currently comprising a substantial part of the City's General Fund.

Proposition 62

Proposition 62 is a statewide statutory initiative which added Sections 53720 to 53730 to the Government Code of the State and requires that all new local taxes be approved by the voters. Several State appellate courts have held that Proposition 62 does not apply to charter cities. The City is a charter city.

Proposition 1A

Proposition 1A, proposed by the Legislature in connection with the State's Fiscal Year 2004-05 Budget, approved by the voters in November 2004 and generally effective in Fiscal Year 2006-07, provides that the State may not reduce any local sales tax rate, limit existing local government authority to levy a sales tax rate or change the allocation of local sales tax revenues, subject to certain exceptions. Proposition 1A generally prohibits the State from shifting to schools or community colleges any share of property tax revenues allocated to local governments for any fiscal year, as set forth under the laws in effect as of November 3, 2004. Any change in the allocation of property tax revenues among local governments within a county

21 must be approved by two-thirds of both houses of the Legislature. Proposition 1 A provides, however, that beginning in fiscal year 2008-09, the State may shift to schools and community colleges up to 8% of locai government property tax revenues, which amount must be repaid, with interest, within three years, if the Governor proclaims that the shift is needed due to a severe state financial hardship, the shift is approved by two-thirds of both houses and certain other conditions are met. The State may also approve voluntary exchanges of local sales tax and property tax revenues among local governments within a county. Proposition 1A also provides that if the State reduces the motor vehicle license fee rate currently in effect, 0.65 percent of vehicle value, the State must provide local governments with equal replacement revenues. Further, Proposition 1A requires the State, beginning July 1, 2005, to suspend State mandates affecting cities, counties and special districts, excepting mandates relating to employee rights, schools or community colleges, in any year that the State does not fully reimburse local governments for their costs to comply with such mandates.

Proposition 1A may result in increased and more stable City revenues. The magnitude of such increase and stability is unknown and would depend on future actions by the State. However, Proposition 1 A could also result in decreased resources being available for State programs. This reduction, in turn, could affect actions taken by the State to resolve budget difficulties. Such actions could include increasing State taxes, decreasing spending on other State programs or other action, some of which could be adverse to the City.

Possible Future Actions

In recent years several initiative measures have been adopted which affect property and other local taxes. There is no assurance that the California electorate or Legislature will not at some future time approve additional limitations.

TAX MATTERS

In the opinion of Jones Hall, A Professional Law Corporation, San Francisco, California, Bond Counsel, subject, however to certain qualifications set forth below, under existing law, the interest on the Bonds is excluded from gross income for federal income tax purposes, such interest is not an item of tax preference for purposes of the federal alternative minimum tax imposed on individuals and corporations, provided, however, that, for the purpose of computing the alternative minimum tax imposed on corporations (as defined for federal income tax purposes), such interest is taken into account in determining certain income and earnings.

The opinions set forth in the preceding paragraph are subject to the condition that the City comply with all requirements of the Code that must be satisfied subsequent to the issuance of the Bonds in order that such interest be, or continue to be, excluded from gross income for federal income tax purposes. The City has covenanted to comply with each such requirement. Failure to comply with certain of such requirements may cause the inclusion of such interest in gross income for federal income tax purposes to be retroactive to the date of issuance of the Bonds.

If the initial offering price to the public (excluding bond houses and brokers) at which a Bond is sold is less than the amount payable at maturity thereof, then such difference constitutes "original issue discount" for purposes of federal income taxes and State of California personal income taxes. If the initial offering price to the public (excluding bond houses and brokers) at which each Bond is sold is greater than the amount payable at maturity thereof, then such difference constitutes "original issue premium" for purposes of federal income taxes and

22 State of California personal income taxes. De minimis original issue discount and original issue premium is disregarded. Owners of Bonds with original issue discount or original issue premium, including purchasers who do not purchase in the original offering, should consult their own tax advisors with respect to federal income tax and State of California personal income tax consequences of owning such Bonds.

In the further opinion of Bond Counsel, interest on the Bonds is exempt from California personal income taxes.

Owners of the Bonds should also be aware that the ownership or disposition of, or the accrual or receipt of interest on, the Bonds may have federal or state tax consequences other than as described above. Bond Counsel expresses no opinion regarding any federal or state tax consequences arising with respect to the bonds other than as expressly describe above.

A copy of the proposed form of opinion of Bond Counsel is attached hereto as APPENDIX C.

FINANCIAL STATEMENTS

The City's Basic Financial Statements for Fiscal Year 2003-04 included in this Official Statement have been audited by Macias, Gini & Company LLP, independent auditors, as stated in their report included in the Financial Statements. See APPENDIX B-"BASIC FINANCIAL STATEMENTS OF THE CITY OF SAN JOSE FOR THE FISCAL YEAR ENDED JUNE 30, 2004." Macias, Gini & Company LLP has not been requested to consent to the use or to the inclusion of its report in this OfficialStatement and has not reviewed this Official Statement.

CONTINUING DISCLOSURE

The City has covenanted in the Fiscal Agent Agreement that it will comply with and carry out all of the provisions of that certain Continuing Disclosure Certificate executed by the City and dated the date of issuance and delivery of the Bonds, as originally executed and as it may be amended from time to time in accordance with the terms thereof (the "Continuing Disclosure Certificate"). See "APPENDIX D - Form of Continuing Disclosure Certificate." Any Owner may take such actions as may be necessary and appropriate, including seeking mandate or specific performance by court order, to cause the City to comply with its obligations under the Continuing Disclosure Certificate. These covenants have been made in order to assist the Underwriter in complying with Securities and Exchange Commission Rule 15c2-12(b)(5) (the "Rule").

The City has never failed to comply in all material respects with any previous undertakings with regard to said Rule to provide annual reports or notices of material events. In a number of instances, however, the City did not file reports with a dissemination agent by the date required for the City to make such filings under the terms of the applicable continuing disclosure agreements, but the reports were filed with the dissemination agent prior to the date on which the information was due to be filed with the Repositories (as defined in the Continuing Disclosure Agreement). In such instances, the dissemination agent, in turn, failed to timely disseminate the information in accordance with the requirements of those prior continuing disclosure agreements.

23 LITIGATION

No litigation is pending against the City with service of process accomplished or threatened in writing concerning the validity of the Bonds, or questioning the political existence of the City or seeking to restrain or enjoin the issuance or execution of the Bonds. The City will furnish to the purchaser of the Bonds a certificate as to the foregoing as of the time of the original delivery of the Bonds.

There are a variety of civil cases in which the City is a named defendant pending at any given time, including without limitation, the actions described in Appendix A. See APPENDIX A: "THE CITY OF SAN JOSE: DEMOGRAPHIC, ECONOMIC AND FINANCIAL INFORMATION - - Litigation." Additionally, there are numerous claims filed with the City or with other agencies in which the claimants allege that they have been damaged by the City.

If these actions or the claims which develop into civil actions were determined adversely to the City, it is possible there could be an adverse effect on the City's revenues and cash flow. Although there can be no assurances as to the final result and fiscal impact of litigation pending against the City, the City believes that it is unlikely that the outcome of any pending litigation could have a material adverse effect on the City's ability to pay debtservice on the Bonds.

RATINGS

The Bonds have received ratings of "Aa1" by Moody's Investors Service, "AA+" by Standard & Poor's Rating Services ("S&P"), and "AA+" by Fitch. S&P has assigned the Bonds a negative outlook. Additionally, the Insured Bonds have received the ratings of "Aaa" by Moody's Investors Service, "AAA" by S&P, and "AAA" by Fitch. Such ratings reflect only the view of such organizations and an explanation of the significance of such ratings may be obtained from Moody's Investors Service, 99 Church Street, New York, NY 10007, (212) 553-0300; Standard & Poor's Rating Services, 55 Water Street, New York, NY 10041, (212) 438-2124; and Fitch, One State Street Plaza, New York, NY 10004, (800) 753-4824. There is no assurance that any such rating will continue for any given period of time or that such ratings will not be revised downward or withdrawn entirely by such organizations, if in their judgment circumstances so warrant. Any such downward revision or withdrawal of such ratings may have an adverse effect on the market price of the Bonds.

FINANCIAL ADVISOR

The City has retained Public Resources Advisory Group, Los Angeles, California, as Financial Advisor in connection with the authorization and delivery of the Bonds. The Financial Advisor is not obligated to undertake, and has not undertaken to make, an independent verification or to assume responsibility for the accuracy, completeness or fairness of the information contained in the Official Statement.

UNDERWRITER

The Bonds were purchased by Banc of America Securities LLC (the "Underwriter") pursuant to a competitive sale held on June 15, 2005. The Underwriter has agreed to purchase the Bonds at a price of $46,608,996.29 (represents the aggregate principal amount of the Bonds of $46,300,000 plus a net original issue premium of $803,299.40, less an underwriter's discount of $453, 103.11, and less the municipal bond insurance premium of $41,200), such price being 100.667% of the principal amount of the Bonds. The Bonds may

24 be offered and sold to certain dealers and others at prices lower than the offering prices stated on the inside cover page herein. The offering prices may be changed from time to time.

ADDITIONAL INFORMATION

Quotations from and summaries and explanations of the Bonds, the Fiscal Agent Agreement providing for issuance of the Bonds, and the constitutional provisions, statutes and other documents referenced herein, do not purport to be complete, and reference is made to said documents, constitutional provisions and statutes for full and complete statements of their provisions.

Some of the data contained herein has been taken or constructed from City records. Appropriate City officials, acting in their official capacities, have reviewed this Official Statement and have determined that, as of the date hereof, the information contained herein is, to the best of their knowledge and belief, true and correct in all material respects and does not contain an untrue statement of a material fact or omit to state a material fact necessary in order to make the statements made herein, in light of the circumstances under which they were made, not misleading. This Official Statement has been approved by the City Council.

CITY OF SAN JOSE, CALIFORNIA

By: Isl Del D. Borgsdorf. Title: City Manager

25 CITY OF A SANJOSE CAPITIIL OF SILICON VALLEY APPENDIXA

THECITY OF SAN JOSE: DEMOGRAPIDC, ECONOMIC AND FINANCIALINFORMATION

TABLE OF CONTENTS

Introductionto Appendix A ...... 1

General Description ...... 1

Demographicand Economic Information...... 2

San Jose Municipal Govermnent ...... 9

Budget ...... 9

Major General Fund Revenue Sources ...... 17

Financial Operations ...... 26

Insurance and Self-Insurance Programs ...... 29

Litigation ...... 30

Pension Plans ...... 31

Labor Relations ...... 42

InvestmentPolicy and Practices of theCity ...... 45

Current InvestmentPortfo lio ...... 45

Debt Management Policy ...... 46

Bonded and Other Indebtedness ...... 46

Overlapping Bonded Debt ...... 49 CITY OF A SANJOSE CAP= OF SILICON VAILEY APPENDIXA

THECITY OF SAN JOSE: DEMOGRAPIDC,ECONOMIC AND FINANCIALINFORMATION

Introduction to Appendix A

Appendix A is thepart of theOfficial Statement that provides investors with information concerningthe City of San Jose (the "City"). Investors are advised to read the entire Official Statement, including Appendix A, to obtain informationessential to making an informed investment decision.

Appendix A summarizes sections of the City's Comprehensive Annual Financial Report for the Year Ending June 30, 2004 (included in this Official Statement as Appendix B), the City'sAnnual Debt Report for the Year Ending June 30, 2004, the City's Proposed Budget for Fiscal Year 2005-06, and the Comprehensive Annual Reports for the Year Ended June 30, 2004 for the City's Federated City Employees Retirement Plan and the City's Police and Fire Department Retirement Plan, as well as the most recent Actuarial Valuation Reports for those retirement plans. Investors can obtain copies of the Debt Report and the budget and retirement plan documents by writing to the following addresses:

Annual Debt Report City Budget Finance Department City Manager's Budget Office City of San Jose City of San Jose 80 I North First Street,Room 110 801 North First Street, Room 440 San Jose, CA 9511O San Jose, CA 951 10

EffectiveAugust I. 2005 Effective August I. 2005 Debt Management CityManager 's Budget Office Finance Cityof San Jose Cityof San Jose 200 East Santa Clara Street 200 East Santa Clara Street San Jose, CA 95113-1905 San Jose, CA 95113-1905

Federated CityEmployees' Retirement Plan Police and Fire Department Retirement Plan Board of Administration Board of Administration Federated City Employees' Retirement System Police and Fire Department Retirement Plan 173 7 North First Street, Suite 580 1737 North First Street, Suite 580 San Jose, CA 95 112 San Jose, CA 95112

GeneralDescription The City is the eleventh largest city in the United States and the third largest city in California (the "State") with a January !, 2005 population estimated at 944,857, according to the CaliforniaDepartment of Finance. The territory of the City encompasses approximately 177.7 square miles. Located at the southern end of the San Francisco Bay, the City is the county seat of the County of Santa Clara (the "County").

Having originated as a Spanish pueblo established in 1777, the Cityis the oldest city in the State. From a former rich agricultural setting, San Jose has become the capital of the innovative, high-technology based Silicon Valley - so named for the principal material used in producing semiconductors. During the 1980's and 1990's the City experienced an economic resurgence with expansion in manufacturing, service, retail and tourist industries. However, the more recent national economic slowdown and the contraction in the telecommunications and technology industries have caused a decline in economic activity in the City. A-1 Demographic and Economic Information

In troduction The demographic and economic infonnation provided below has been collected from sources that the City has detennined to be reliable. Because it is difficult to obtaincomplete and timely regional economic and demographic infonnation, the City'seconomic condition may not be fully apparent in all of the publicly available regional economic statistics provided herein.

Population

City residents account for approximately half of the population of the County, which is the most populous of the San Francisco Bay Area counties. While the period from 1960 to 1980 was characterized by extremely rapid population growth in both the City and County, the last two decades reflect a trend of slower but steady growth. Table I below shows the population of the City, the County and the State according to the U.S. Census for the years 1960, 1970, 1980, 1990 and 2000 and the California Department ofFinance for2001 through 2005.

Table 1 CITY, COUNT Y AND STATE POPULATION STATISTICS City of Countyof State of San Jose Santa Clara California 1960 ...... 204,196 642,315 15,717,204 1970 ...... 459,913 1,064,714 19,953,134 1980 ...... 629,442 1,295,071 23,667,902 1990 ...... 782,248 1,497,577 29,760,021 2000 ...... 894,943 1,682,585 33,871,648 2001 ...... 905,522 1,701,060 34,441,561 2002 ...... 915,761 1,715,051 35,088,671 2003 ...... 923,368 1,726,628 35,691,442 2004 ...... 931,232 1,740,699 36,271,091 2005 ...... 944,857 1,759,585 36,810,358

Source: U.S. Census (1960-2000), California Department of Finance (2 001-2005).

A-2 Employment

Table 2 below sets forth employment figures for the Cityand the County and unemployment rates for the City,the State and the United States for the five most recent years. The City'sunemployment rate rose sharply after2000 as a result of the contraction in the telecommunications and technology industries that dominate the City's employment base. Although the City's unemployment rate decreased from 9.9% in 2002 to 5.8% as of April 2005, the labor force in Santa Clara County duringthe same period declined by 128,000, or 13.6%.

Table 2 SANTA CLARA COUNTY ESTIMATED AVERAGE ANNUAL EMPLOYMENT AND UNEMPLOYMENT OF RESIDENT LABOR FORCE

1 Civilian Labor Force (in thousands) 2001 2002 2003 2004 2005< ) City of San Jose Employed ...... Unemployed ...... 481 436 415 401 400 27 48 44 31 25 Totat(2J ...... County ofSanta Clara 508 484 459 432 424 Employed ...... 952 863 821 775 772 Unemployed ...... 46 80 74 54 Total(2J...... Unemployment Rates 998 943 895 829 815 City ...... 5.4% 9.9% 9.6% 7.2% 5.8% County ...... 4.6 8.5 8.2 6.6 5.3 State ...... 5.4 6.7 6.7 6.2 5.2 United States ...... 4.7 5.8 6.0 5.5 4.9 (I)Preliminary, not seasonally adjusted, data are for April 2005. (Z) Totals may not add due to independent rounding. Source: California EmploymentDevelopment Department, Labor Ma rke.I!ref ormation Division; U.S. Bureau of Labor Statistics.

The City occupies the geographic center of Silicon Valley. The high technology industiy component of the City'seconomy is diversified in research, development, manufacturing, marketing and management. Development of high technology has been supported by the area's proximity to Stanford University, San Jose State University, Santa Clara University andother institutions of higher education, and such research and development facilities as SRI International (formerly the Stanford Research Institute), the Stanford Linear Accelerator Center and Ames Research Center (NASA).

While the County is known worldwide as "Silicon Valley," the silicon-based semiconductor industl)' is only a part of the industrial picture. Other industriesinclude information systems, computers, peripherals, instruments, software and a wide array of communication electronics. These industries have all seen contractions in employment beginning in year 2000 and continuing through today.

Table 3 displays the composition of employment in the San Jose-Sunnyvale-Santa Clara Metropolitan Statistical Area bygeneral category forthe most recent three years available.

A-3 Table 3 SAN JOSE-SUNNYVALE-SANTA CLARA METROPOLIT AN STA TISTICAL AREA EMPLOYMENT BY CATEGORY ANNUAL AVERAGES Percent Percent Percent 2002 of Total 2003 of Total 2004 of Total Farm 6,900 0.75% 6,600 0.75% 6,700 0.77% Natural Resources& Mining 200 0.02 200 0.02 200 0.02 Construction 43,500 4.71 40,700 4.65 41,700 4.81 Manufacturing 203,600 22.07 177,800 20.31 170,100 19.63 Wholesale Trade 36,200 3.92 34,100 3.89 34,400 3.97 Retail Trade 85,500 9.27 83,100 9.49 82,100 9.47 Transport., Warehousing, Utilities 15,200 1.65 14,300 1.63 13,600 1.57 Information 34,300 3.72 31,400 3.59 32,800 3.78 FinancialActivities 35,400 3.84 34,900 3.99 35,000 4.04 Professional& BusinessServices 173,800 18.84 166,900 19.06 166,000 19.15 Educational & Health Services 91,700 9.94 93,500 10.68 94,600 10.91 Leisure & Hospitality 68,800 7.46 69,000 7.88 69,800 8.05 Other Services 26,400 2.86 25,300 2.89 25,000 2.88 Government 101,100 10.96 97 800 11.17 94,700 10.93 Total (I) 922,600 875,600 866,700

Maior Employers

Table 4 shows fifteen selected major employers in San Jose, ranked by the number of their employees, estimated as of November 2004.

Table 4 SELECTED MAJOR SAN JOSE EMPLOYERS Approximate Number of Company/Organization Type of Industry Employees 1. Cisco Systems Computer Equipment 16,000 2. Santa Clara County Government 15,000 3. IBM Corporation Computer Equipment 8,400 4. City ofSan Jose Government 6,800 5. San Jose State University Education 5,760 6. SanJose Unified School District Education 3,360 7. Hitachi Storage Software 2,900 8. Agilent Technologies Communications/ Life Sciences 2,880 9. Novellus Systems Semiconductor Equipment 2,700 10. Xilinx Semiconductor 2,600 11. eBay On-Line Auction 2,000 12. Adobe Systems Inc. Computer Software 2,000 13. Good Samaritan Health System Health Care 1,850 14. KLA Tencor Instruments Optical Inspection 1,850 15. Cadence Design Systems Inc. Computer Software 1,700 Source: Citya/ San Jose Office ofEconomic Develo pment, as ofNove mber 2004.

A-4 Effective Bwing In come

"Effective Buying Income" ("EBI"), also referred to as "disposable" or "after tax" income, consists of personal income less personal tax and certain non-tax payments. Personal income includes wages and salaries, other labor-related income (such as employer contributionsto private pension funds), and certain other income (e.g. proprietor's income, rental income, dividends and interest, pensions, and welfare assistance). Deducted from this total are personal taxes (federal, state and local), certain non-tax payments (e.g. fm es, fees and penalties), and personal contributions to a retirement program. Table 5 shows the top ten metropolitan markets (as defined by Sales and Marketing Management Magazine) in median EBI for 2003, among which the San Jose Metropolitan Area ranked second.

Table 5 2003 TOP TEN METROPOLIT AN AREAS MEDIAN HOUSEHOLD EFFECTIVE BUYING INCOME Los Alamos, New Mexico ...... $65,663 San Jose-Sunnyvale-SantaClara, California...... 62,138 Bridgeport-Stamford-Norwalk, Connecticut...... 56,743 Juneau, Alaska ...... 55,478 San Francisco-Oakland-Fremont, California...... 53,820 Washington-Arlington-Alexandria, D.C.-Virginia-Maryland-West Virginia ...... 53,275 Edwards, Colorado ...... 52,497 Oxnard-Thousand Oaks-Ventura, California...... 51,433 Boulder, Colorado ...... 50,267 Anchorage, Alaska ...... 49,953

U.S. Median ...... $38,201 Source: Sales & Marketing Management Magazine, "2004 Survey of Buying Pawerand Media Markets, " published 2004.

A-5 Retail Sales Table 6 sets forth a history of taxable sales for the City from calendar year 2000 through 2003. A comparison of the total taxable sales in the City between thefirst two quarters of2003 and the first two quarters of 2004 (the most recent data available) shows an increase of approximately $272 million, or 5.4%.

Table 6 CITY OF SAN JOSE TAXABLESALES (!n thousands) 1999 2000 2001 2002 2003 Apparelstores ...... $ 277,068 $ 318,569 $ 334,087 $ 344,800 $ 372,107 General merchandise stores ...... 1,171,342 1,272,431 1,213,970 1,147,174 1,145,069 Food stores ...... 379,619 408,354 417,951 406,783 397,685 Eating and drinking establishments ...... 797,736 892,796 896,298 868,944 898,859 Home furnishings and appliances ...... 369,109 423,728 376,544 351,613 336,072 Building materials and fa rm implements ...... 622,043 728,725 726,447 732,972 737,588 Auto dealers and auto supplies ...... 1,497,093 1,779,967 1,582,391 1,442,279 1,463,891 Service stations ...... 601,391 782,781 763,075 654,091 744,517 Other retail stores ...... I 589,478 1,879,859 I 617 105 1,410,114 1,362,282 Retail Stores Total ...... $ 7,304,879 $ 8,487,210 $ 7,927,868 $ 7,358,770 $ 7,458,070 All other outlets ...... 4,012,234 5,123,559 4,426,922 3,328,201 3,373,127 TOTAL ALL OUTLETS .... $11,317,1 13 $13,610,769 $12,354,790 $10,686,971 $10,831,197 Source: Cali[_ornia State Board o[ Equalization.

A-6 Construction Activity

A historyof constructionvaluation and new dwelling units forthe most recent five calendar years appears in Table 7 below.

Table 7 CITY OF SAN JOSE CONSTRUCTION VALUATION AND NEW DWELLING UNITS (valuation in thousands)<') 2000 2001 2002 2003 2004 Valuation:(') Residential ...... $ 678,358 $ 456,009 $ 378,779 $ 630,681 $ 476,060 Non-Residential .. 1,154,153 918,885 531,862 298,250 318 431 TOTAL $1,832,511 $1,374,894 $ 910,641 $ 928,93 1 $ 794,492 New DwellingUnits: Single Family ...... 1,328 659 621 887 960 Multi-Family ...... 3 131 2 710 1 863 3,631 2,017

TOTAL 4,459 3,369 2,484 4,518 2 977 (I) Totals may not add due to independent rounding. (Zl Valuation figuresare adjusted to 2004 dollars per Bureau of Labor Statistics Consumer Price Index, San Jose-San Francisco, Oakland, all items index. Source: Cily of San Jose, Deparlment ofBuildin f Planning and Code E74'rcement, Ja nuary2005.

Education

For the school year 2004-2005, there were an estimated 253,090 students were enrolled in the County's 233 elementary schools; 58 middle schools and junior high schools; 40 high schools; 57 community, alternative, special education, continuation and juvenile hall schools; and 19 charter schools. In addition, there are a number of private schools serving the residents of the County. The County has seven community colleges (within four community college districts: Foothill-DeAnza, Gavilan Joint, San Jose. Evergreen, and West Valley-Mission). Major universities in the County include Stanford University, Santa Clara University, and San Jose State University.

The City is served by 18 of the 32 public school districts in the County. These school districts cross municipal boundaries. Principal public school systems serving the City are the San Jose Unified School District (grades K-12), with an estimated enrollment forschool year 2004-2005 of 31,874, and the East Side Union HighSchool Districtwith an estimated enrollment of25,496.

Transportation

The San Jose area is served by a network of freeways providing regional, national and international access. U.S. 101, a major north-south highway between San Francisco and Los Angeles, provides access to the deepwater seaports at San Francisco and Redwood City, and toair passenger and cargo facilities at Norman Y. Mineta San Jose International Airport (the "Airport") and San Francisco International Airport. Interstate 880 connects San Jose with the Oakland International Airport and the Port of Oakland. Interstates 280 and 680 provide access to the peninsula and eastern regions of the San Francisco Bay Area, respectively, and State Route 17 serves to connect San Jose with the Pacific Coast at SantaCruz.

A-7 Additional freeways serving the local area are State Routes 85, 87 and 23 7. During the past two decades, approximately $1.8 billion has been investedby the State and the County to expand and improve the area freeway system. The Santa Clara Valley Transportation Authority (VTA) has begun improvements to the Coleman/880 interchange adjacent to the Airport. The project is estimated to cost $81 million. Construction began in March 2004 and is expected to be completed in September 2006. The VTA provides public transit service throughout Santa Clara County. Transit services are readily accessible to residents of San Jose, as most residences and businesses in the City are within a quartermile of bus or light rail service. VTA's bus network is made up of 69 bus routes and over 4,300 bus stops. The backbone ofthe bus network is Line 22, which operates between Eastridge Shopping Center in San Jose and the Menlo Park Caltrain Station, and carries almost six million passengers per year. Express routes offer a commute alternative to employment centers located throughoutthe County. The Guadalupe Light Rail Line runs 26.6 miles of service from the residential neighborhoods of south San Jose, through Downtown San Jose, the high technology employment centers in north San Jose and Milpitas, and also serves residences in East San Jose. The Tasman Light Rail Line extends the light rail system another I 0.3 miles from the Baypointe Station in North San Jose, servicing stations in Sunnyvale and Mountain View, and connecting withCaltrain commuter rail service at the Mountain View CaltrainStation. The 5.3-mile Vasona Light Rail Line is currently under construction fromDowntown San Jose to Downtown Campbell and Winchester Boulevard. The Vasona Light Rail Line is scheduled to open in August 2005. VTA also partners with Altamont Commuter Express and Caltrainto provide commuter rail service, and with Santa Cruz Metroto provide regional bus service from SantaCruz to Downtown San Jose. In the November 2000 election, the voters of the County approved a 30-year, half-cent sales tax to commence collection in 2006 upon the expiration of the current one-half cent sales tax. This sales tax will finance various transit projects, including the possible extension of the Bay Area Rapid Transit (BART) system to the City. BART is a heavy rail rapid transit system currently serving Alameda, Contra Costa, and San Francisco Counties and the northern portions of San Mateo County. The main coast line of the Union Pacific Railroad traverses the City, providing connections to San Francisco, Oakland, Sacramento and Los Angeles. Commuter rail service operates on this line between Gilroy and San Francisco. The Union Pacific Railroad also operates a branch line in the City serving heavy industry. The Airport is located on approximately 1,000 acres ofland approximately two miles north of Downtown San Jose, betweenthe Bayshore Freeway (Highway 101) and Interstate 880. The Airport is a commercial service and general aviation airport and is classified by the FAA as a "medium hub" (an airport that enplanes at least 0.25% but less than 1.0% of the total numberof passenger boardings at all commercial service airports in the United States). During fiscal year 2003-04, the Airport served approximately 5.5 million enplaned passengers and accommodated 197,756 operations (takeoffs and landings). According to preliminary traffic statistics pnblished by the Airports Council International-North America ("ACI-NA"), in calendar year 2004 the Airport was the 37th busiest airport in North America in terms of total passengers and the 44th busiest in terms of total cargo. The City has a foreign trade zone that is located near the Airport in an approximately 374-acre business park. Foreign and domestic merchandise may be moved into the zone for storage, exhibition, manipulation, manufacturing or other processing withoutpayment of federal duties or excise taxes until the goods leave the zone.

A-8 San Jose Municipal Government The City is governed by the City Council, consisting of a Mayor and ten other council members ( one council seat is currently vacant). The Mayor is elected at large for afour-year term. Council members are elected by district for staggered four-year terms. The Mayor and the council members are limited to two consecutive four-year terms. The City is a charter city, which means the City, through its charter (the "Charter"), may regulate municipal affairs, subject only to restrictions and limitations provided in the Charter; in matters other than municipal affairs, the Cityis subject to Statelaw.

The City Council appoints the City Manager who is responsible for the operation of all municipal functionsexcept the offices of City Attorney, City Clerk, CityAuditor and Independent Police Auditor. The officials heading these officesare appointed by the City Council and carry out the policies set forth by the City Council.

The City provides a full range of services contemplated by statute or charter, including those functions delegated to cities under State law. These services include public safety, sanitation and health, environmental enforcement, recreational and cultural activities, public improvements, planning, zoning and general administrative services.

Budget

State Budget In recent years the State has experienced budget challenges. The State retains the power to reduce revenues from property tax, sales and use taxes, Motor Vehicle License Fees and other revenues payable to the City, and has used such power in recent years to address its budget deficits. Although the passage of Proposition IA in November 2004 is expected to somewhat constrain the State's ability to divert City revenues in the future, an understanding of the State budget process remains important to understanding the City's financialcondition.

State Budget Process. The State's fiscal year begins on July 1 and ends on June 30. The State Constitution requires the Governor to submit a budget for each fiscal year to the Legislature by the immediately preceding January IO (the "Governor'sBudget").

Next, the Legislature considers the Governor's Budget. The Constitution requires the Legislature to pass a budget bill by June 15, however the Legislature has regularly missed this date in recent years. As a result of the passage of Proposition 58, Balanced Budget Amendment, in March 2004, beginning with FY 2004-05, the Legislature may not pass a budget bill in which State General Fund expenditures exceed estimated State General Fund revenues and fundbalances.

Because morethan half of the State's General Fund income is derived fromthe April 15 personal income tax, the Governor submits a "May Revised Budget" by May 14. The Legislature typicallywaits for the May Revised Budget before making final budget decisions. Once theBudget Bill has been approved by a two-thirds vote of each house of the Legislature, it is sent to the Governorfor approval.

March 2004 Ballot Measures. In order to address a projected deficit of approximately $14 billion dollars in FY 2004-05, the State Legislature placed both Propositions 57 and 58 on the statewide ballot at the

A-9 March 2, 2004, primary election. Both Propositions 57 and 58, asdescribed below, were passed by the voters.

• The CaliforniaEconomic Recovery Bond Act ("Proposition 57"), which authorized the State to issue up to $15 billion of economic recovery bonds to finance the negative State General Fund reserve balance as of June 30, 2004 and other State General Fund obligations undertaken prior to June 30, 2004. Proposition 57 also called for local sales and use taxes to be redirected from local governments to the State, including 0.25% that would otherwise be available to the City, to pay debt service on the economic recovery bonds, and foran increase in local governments' share of local property tax by a like amount.

• The Balanced Budget Amendment ("Proposition 58"), which required the State to adopt and maintain a balanced budget and establish an additional reserve, and restricted future long-term deficit-relatedborrowing.

The State has issued approximately $10.9 billion of economic recovery bonds, and the revenue from the 0.25 percent sales and use taxes securing such bonds was diverted from local governments, including the City, to the State commencing July 1, 2004, until the bonds (and any additional bonds authorized by Proposition 57) are paid.

2004-05 Budget Act. The FY 2004-05 Budget Act was signed by Governor Schwarzenegger on July 31, 2004. As discussed below, the major impact of the State Budget on City General Fund revenues for Fiscal Year 2004-05 is an estimated reduction of $11.4 million comprised of $11.1 million of reduced Motor Vehicle License Fee property tax replacement revenues and $300,000 of lost interest earnings. This reduction, approximately 2.0% of the City's estimated General Fund revenues, is part of a larger structural reform strategy approved by voters in November 2004 as Proposition I A, which would limit these reductions to the 2004-05 and 2005-06 fiscal years.

The 2004-05 Budget Act, related legislation and Proposition IA implement an understanding negotiated between Governor Schwarzenegger and local government officials concerning the State's control over local government revenues, commonly referred to as the State-Local Agreement ("State-Local Agreement"). These changes include:

• Motor Vehicle License Fee (MVLF). The MVLF rate was reduced from two percent to 0.65 percent of the market value of the vehicle. The State is required by statute to replace the reduction in MVLF revenues with a corresponding amount of property tax revenues. For Fiscal Years 2004-05 and 2005-06, the replacement property tax revenue to local governments is reduced by $700 million. As stated above, the City's estimated share of this reduction is $11.1 million in both FY 2004-05 and FY 2005-06. See "Other Revenues- Revenue from the State" for a more complete discussion of Motor Vehicle License Fees.

• Sales and Use Taxes. The State cannot reduce the local sales and use tax rate or change the allocation of local sales and use tax revenues. This does not impact the redirection of sales and use tax revenues to repay the economic recovery bonds issued per Proposition 57. However, under Proposition IA, once the economic recovery bonds are repaid, the redirection ofthe 0.25% portion of the local sales and use taxes from local governmentsto the State must end. See "Major General Fund Revenues Sources - Sales and Use Taxes."

• Property Taxes. The State is prohibited fromshifting to schools or communitycolleges any share of property tax revenues allocated to local governments under the laws in effect as of November 3, 2004. Any change in the allocation of property tax revenues from one local government

A-10 recipient to another would require a two-thirds vote of both houses of the State Legislature. In addition, the State cannot reduce the property tax revenues diverted to cities and counties as replacement for the sales and use tax revenues redirected to the State to pay debt service on the bonds authorized by Proposition 57. See "Major General Fund Revenues Sources Property Taxes and Assessed Valuations."

• State Borrowing of Property Tax Revenues. Beginning in fiscal year 2008-09, the State will be able to divert up to eight percent of local property tax revenues for State purposes only if: (i) the Governor declares such action to be necessary due to a State fiscal emergency; (ii) two-thirds of both houses of the Legislature approve the action; (iii) theamount diverted is required by statute to be repaid within three years; (iv) the State does not owe funds, including the MVLF gap repayment and any repayment for past property tax revenue diversions, to local agencies, and (v) such property tax revenue diversions do not occur in more than two fiscal years during any period of ten consecutive fiscalyears.

• Re-allocation of Redevelopment Agency Revenues. In both FY 2004-05 and FY 2005-06, redevelopment agencies statewide will shift $250 million in property tax revenue that they otherwise would have received to schools. The impact to the Redevelopment Agency of the City in FY 2004-05 is $18,626,954. This payment was made through the Redevelopment Agency's participation in the California Statewide Communities Development Authority (CSCDA) ERAF Loan Program. Although the primary source of repayment is Redevelopment Agency tax increment or other revenues, if the Redevelopment Agency fails to make a scheduled payment on its ERAF Loan the County Auditor will be directed to transfer the first available ad valorem property tax revenues of the City to make the payment. See "Major General Fund Revenues Sources Local Agencies" for information about moneys transferred by the Redevelopment Agency of the City tothe City's GeneralFund.

2005-06 Proposed Budget. On May 13, 2005, the Governor released the May Revised Budget for FY 2005-06 which updates the Governor'sFY 2005-06 proposed budget (the Governor'sProposed Budget"). The impact of the Governor's Proposed Budget on the City is consistent with the State-Local Agreement of FY 2004-05 in that the revenue to the City from the MVLF property tax replacement revenues is reduced by $11.1 million and reimbursements to local governments forjail booking fees are eliminated. The City anticipates that the City's increased cost forjail booking fees will be $1.25 million in FY 2005- 06.

City 's Budget Process The City'sfiscal year (FY) is fromJuly 1 through June 30. Historically, the annual budget process begins each October with the City Council's Rules Committeedeterm ining the budget schedule for thenext fiscal year. It sets dates forthe releaseof the various documents (except those specified in the CityCharter) and the dates for City Council studysessions and public hearings to discuss the budget.

In the third quarter of each fiscal year, the City Manager releases the "City Manager's Budget Request and Five-Year Economic Forecast and Revenue Projections for the General Fund and Capital Improvement Program". Since 1986, the City has used this five-year forecast to assist in projecting revenue levels and expenditures based on certain assumptions and expectations.

Pursuant to the City Charter, the Mayor releases an annual "budget message". This document describes the budget process, the current fiscal situation of the City, and the strategy fordeveloping the proposed budget, recommendations on specific budget items and other related issues. The City Council reviews the

A-1 1 Mayor's budget message, and a public hearing is held to discuss the budget message prior to its approval by the CityCouncil.

The City Charter requires that the City Manager release the Proposed Capital Budget and Capital Improvement Program and the Proposed Operating Budget at least thirty days prior to thebeginning of each fiscal year, or at such earliertime as the CityCouncil may specify. As currently directed by the City Council, in early May, the City Manager releases the Proposed Operating and Capital Budgets and a report recommending fees and charges to be imposed during thenext fiscal year for City services (the "Proposed Fees and Charges Report").

The Proposed Operating Budget contains the complete financial plan for the Cityfor the next fiscalyear. It describes activities by City Service Area, department, and core service, making recommended additions or reductions to those activities. It accounts for all revenue received and projected by the City and accounts forthe usage of the revenue. The City Council holds a number of study sessions beginning in mid-May to discuss the proposed operating and capital budgets and holds a series of public hearings on the budget in late May and earlyJune.

In early June, the Mayor releases the final budget modification message. It contains changes to the proposed budget recommended by the Mayor after City Council review and discussion of the document during the budget study sessions and public hearings. In June, the City Council adopts the operating and capital budgets for the next fiscal year, along with the implementing appropriation ordinances and fundingsources resolutions that appropriate the budgeted amounts to the respective departments.

Current City practice calls for the preparation and submission of a Monthly Financial Report that is distributed tothe CityCouncil as a method of monitoring the budget and financial status. In January of each year, the Mid-Year Budget Review is released providing a detailed and expanded analysis of the operating and capital budget status. In February of each year, the City Council considers this report and takes actions as necessary to maintain a balanced budget. The City Council's Mid-Year Budget Review is not the only time that theCity Council takes budget actions in order to maintain a balanced budget; at any public meeting, the City Council may amend or supplement the budget by affirmative vote of at least a majority of the total members of the City Council. Historically, the City Council has taken budget actions throughout the fiscal year in order to balance the budget or to make budget adjustments to respond to changing circumstances.

The City Council employs an independent certified public accountant ("Accountant") to examine books, records, inventories and reports of all officers and employees who receive, control, handle or disburse public funds, and those of any other officers, employees or departmentsas the City Council directs. For the FY 2003-04 Audited Financial Statements, the City retained the services of Macias, Gini & Company, LLP. These duties are performed both annually and upon request. Within 180 days followingeach fiscal year end, the Accountant submits the final audit forsuch fiscal yearto the City Council. The City then publishes the financial statements as of the close of the fiscal year in the City's Comprehensive Annual Financial Report. Except for City Charter requirements, the above-described process is determined by internalpolicies and can be changed at any time.

City 's FY 2004-05 Budget

On June 22, 2004, the Mayor and CityCouncil adopted the FY 2004-05 Budget (the "Adopted Budget"). In preparing the Adopted Budget, the City was faced with a shortfall of $69.8 million. The City utilized three strategies to resolve this shortfall: first, the City reduced its General Fund expenditures by approximately $24.1 million; second, the City increased General Fund revenues by approximately $17.5

A-12 million; and third, theCity used reserves and one-time revenues in the amount of approximately $28.2 million.

Although the Adopted Budget eliminated a General Fund shortfall of $69.8 million, the City Council adopted a Compensation/State Budget Impact Contingency Plan (the "Contingency Plan") at the same time that the CityCouncil adopted the Budget. The Contingency Plan set fortha plan of action to address any financial impacts to the City'sGeneral Fund from the State budget (which had not been adopted at the time of the Adopted Budget) and from labor negotiations with employee bargaining units which were in negotiations at the time of the Adopted Budget and remain in negotiations as of the date of this Official Statement. The Contingency Plan included thirty-four proposals for increasing General Fund revenues, decreasing General Fund expenditures anddrawing on reserves to close a potential budget shortfall of$35 million. The $3 5 million total represented the City's estimate of the maximum additional shortfall of the City's General Fund if, after the adoption ofthe Adopted Budget, both (i) the labor negotiations between the City and its unions were not to result in 0% salary increases for FY 2004-05 and (ii) the Citywere not to continue to receive its full share of a 2% Motor Vehicle License Fee allocation.

One of the potential impacts addressed by the Contingency Plan occurred when the State adopted its budget in July 2004, reducing the City's General Fund revenues related to Motor Vehicle License Fees in the amount of approximately $11.4 million. To address the shortfall created by this action, the City Council on August 12, 2004, approved two of the budget balancing strategies identified in the Contingency Plan as the 2004-05 General Fund Rebalancing Plan: (i) implementation of an Emergency Communication System Support Fee on January 1, 2005, and (ii) use of the Contingency Plan's Earmarked Reserve (resulting in the use ofone-time revenues in the amount of $2.0 million).

The Emergency Communications System Support Fee ordinance, which will sunset on December 31, 2006, was enacted to fund the cost of operating, maintaining and upgrading the City's 911 emergency communication system. The fees collected are deposited into a special fund for these purposes. Revenues from the Emergency Communications System Support Fee are projected to be $9.4 million for FY 2004-05. The City Attorney believes that voter approval is not required in connection with the imposition of the Emergency Communication System Support Fee. However, litigation challenging a similar imposition by Union City and Stockton, California, has been brought, alleging, among other theories, that the imposition violates Proposition 218. The litigation challenging Union City's fee is pending. Stockton's fee has been challenged in two cases, one involving Verizon and the other involving SBC Communications. In the Verizon case, the trial courtdismissed the plaintiffs' complaint without leave to amend, on the grounds that the plaintiffs had failed to exhaust their administrative remedies. The plaintiffs have appealed and the case is now pending in the California Court of Appeals. The case involving SBC Communications was dismissed by the federal district court. However, it is anticipated that the case will be refiled in State Court.

OnJanuary 31, 2005, the CityManage r's Office published the 2004-05 Mid-Year Budget Review, which reported that both revenues and expenditures were tracking closely to the Modified Budget as of December 31, 2004 (the "Modified Budget"). One notable action taken by the City Council was to appropriate $5.2 million of current-year expenditure reductions to increase the FY 2005-06 Future Deficit Reserve, bringing the total of that reserveto $12.5 million.

City'sFY 2005-06 Proposed Budget

On February 28, 2005 the City Manager released the 2006-2010 Five-Year Forecast and Revenue Projections (the "Forecast''). The overall Forecast assumption is that the City will face at least one more year of the same stagnant to very low growth the City has experienced for the last three years, followed

A-13 by slightly improved but still low to moderate growth for the remainder of the forecast period. The Forecast projected that there would be an ongoing imbalance between revenues and expenditures in each of the fiscal years in theForecast period, absent significant changes to thebudget and/orrevenue sources. The Forecast utilized an incremental approach to each year's budget projection which assumed that each budget is balanced on an ongoing basis each year. To the extent a shortfall in any one year is closed using one-time measures, the amount of the shortfall would be carried over to thefollowing year.

The City Manager released theFY 2005-06 ProposedOperating Budget ("FY 2005-06 Proposed Budget" or "Proposed Budget") on May 2, 2005, closing a budget shortfall of approximately $58 million. The Proposed Budget is balanced using a combination of one-time revenues and reserves, ongoing cost reductions and fee increases. The one-time budget balancing solutions include the use of the FY 2005-06 Future DeficitReserve, Cardroom Revenue (which historically has been treated as one-time revenue), the Economic Uncertainty Reserve and the Enhanced Park Maintenance Reserve. These four sources total $32.477 million, or 56% of the budget balancing strategy. The remainder of the budget balancing proposals are expenditure reductions and funding shifts. The proposed reductionsaffect all levels of the organization and include a total of 140 positions proposed to be eliminated, of which 78 are filled positions. The City Manager projects that, based on the budget balancing solutions in the FY 2005-06 Proposed Budget, the budget shortfall forFY 2006-07 will be in the range of $60 million.

Similar to the FY 2004-05 Proposed Budget, the FY 2005-06 Budget is balanced with assumptions about events that have yet to occur, but which could have significant financialimpacts on the Cityfollowing the Council's approval of the Proposed Budget in June. In the last two years (FY 2003-04 and FY 2004-05), contingency plans were used to close budget gaps of $14.3 million and $1 1.4 million, respectively, resulting almost entirely from State budget actions that impacted the City. As discussed above in "State Budget - 2005-06 Budget," no significant additional State actions beyond those already factored into the FY 2005-06 Proposed Budget ($11.1 million reduction in MVLF property tax replacement revenues and $1.25 million net increase in jail booking fees) are anticipated to impact the City's budget.

For FY 2005-06, a "Compensation Impact Contingency Plan" has been prepared to address the potential impact of salary and benefit negotiations with the City'semployee bargaining units. Chief among these potential impacts is compensation and benefit increases for public safety employee bargaining units whose contracts with the City expired in February and June 2004. Public Safety represents 66% of the City's general fund personal services budget. The City estimates that each 1 % of salary increase for sworn personnel in the Police and Fire Departments would cost approximately $2.7 million annually. These employees have theright to binding arbitration if agreementis not reached. As of June 15, 2005, the Cityand the two public safety bargaining units are proceeding to arbitration. See "Labor Relations - CurrentNegotiations".

In addition to the public safety bargaining units, the contracts with five other bargaining units expire either at theend of FY 2004-05 or during FY 2005-06. TheCity has not yet reached agreement with any of these five bargaining units. See "LaborRelations Current Negotiations".

Consistent with the Council-approved Mayor's March Budget Message, the City Manager has recommendedto the Mayor and City Council thatthe reductions contained in the"Compensation Impact Contingency Plan" not be implemented with the City Council'sadoption of the FY 2005-06 Budget. The Compensation Impact Contingency Plan, as proposed, includes a prioritized package of 55 proposals which are estimated to result in budget reductions of $35 million, assuming an implementation date of September I, 2005. If the full Plan were implemented, a total of 332.63 positions would be eliminated, impacting approximately 208 filledpositions, including a significant number of uniformed police and fire personnel. The FY 2005-06 Proposed Budget relies heavily on budget reductions in the non-public safety areas to address the approximately $58 million budget shortfall, so there are fewopportu nities for further

A-14 reductions in those areas without severely impacting service delivery. As a result, the Compensation Impact Contingency Plan includes significant reductions topublic safety services.

The Mayor and City Council held a number of budget study sessions and conducted several public hearings on the Proposed Budget during the month of May. The Mayor released his FY 2005-06 June Budget Message on June 8, 2005. On June 14, 2005, following a public hearing on June 13, 2005, the CityCouncil approved the Mayor's June Budget Message with minor modifications. The June Budget Message, as revised, approved restoration of certain City serviceswhich had been reducedor eliminated in the FY 2005-06 Proposed Budget. These restored services are proposed to be funded from varietya of sources including immediately adopting approximately $3.5 million of the budget reductions listed in the Compensation Impact Contingency Plan and thereby decreasing the budget reductions remaining to approximately $3 1.5 million. Final adoption of the FY 2005-06 Operating and Capital Budgets is scheduled for June 21, 2005.

The City cannot predict whether the remammg proposals identified in the Compensation Impact Contingency Plan, if implemented, will in fact result in budget reductions of $31.5 million or whether these reductions will be sufficient to meet the City's obligations to pay increased wages or to provide enhanced benefits, or both, which are awarded to the public safety bargaining units through an arbitration award or which are the result of negotiation with the other bargaining units. See "Labor Relations Cost Implications".

Table 8 on the following page summarizes the City's FY 2003-04 Actuals, the FY 2004-05 Modified Budget as of March 31, 2005 and the FY 2005-06 ProposedBudget.

A-15 Table 8 CITYOF SAN JOSE GENERAL FUND BUDGET SUMMARIES FY 2003-04, FY 2004-05, FY 2005-06 (inthousands;<') 2004-05 2005-06 2003-04 Modified Proposed 2 SOURCE OF FUNDS Actuals Budget< l Budget<') FUND BALANCE Encumbrance Reserve ...... $ 26,195 $ 23,154 $ 23,154 Carryover...... ----=="-"-159 573 153 454 63,611 Total Fund Balance ...... 185,768 176,608 86,765 GENERAL REVENUES PropertyTax <'l ...... 95,649 136,215 143,996 Sales and Use Tax...... 130,698 128,488 135,243 Transient Occupancy Tax...... 5,712 5,846 6,450 Franchise Fees ...... 31,712 32,162 33,138 UtilityTaxes ...... 68,455 64,804 67,844 Licenses and Permits ...... 69,590 70,871 72,270 Fines andForf eitures ...... 13,909 12,371 12,695 Revenue from Use of Money and Property...... 8,313 6,874 6,218 Revenue from Local Agencies ...... 41,862 45,628 41,713 Revenue from the State Government<') ...... 46,316 11,659 10,209 Revenue fromthe Federal Government...... 2,908 11,022 298 Departmental Charges ...... 27,350 27,297 27,273 OtherRevenue ...... ----==c-16,023 23,850 7,518 Total General Revenue ...... 558,497 577,087 564,865 INTERFUND TRANSFERS AND REIMBURSEMENTS Overhead Reimbursements ...... 32,534 29,026 27,512 Transfers to the General Fund ...... 40,496 42,388 48,693 Reimbursements forServices ...... ---���17,586 17,492 17,5 15 Total lnterfund Transfers and Reimbursements ...... 90,616 88,906 93,720 $834,880 $842,600 $745,350 TOT AL SOURCE OF FUNDS ...... ---'---'--'- USE OF FUNDS DEPARTMENTAL General Government ...... $ 56,918 $ 61,865 $ 66,950 Public Safety ...... 332,511 357,348 359,445 Capital Maintenance ...... 58,1 15 54,354 58,098 Community Services...... ---�==.c.111 633 111,111 107 330 Total Departmental...... 559,177 584,678 591,823 NON-DEPARTMENTAL Citywide...... 79,096 116,310 79,223 Capital Expenditures ...... 13,441 23,788 3,383 Transfers to Other Funds ...... 6,559 6,099 6,009 Encumbrance Reserve ...... 23,153 23,154 23,154 Earmarked Reserves(') ...... 63,408 17,796 ContingencyReserve <') ...... ______25,163 23 962 Total Non-Departmentaland Reserves ...... 122,249 257,922 153,527 TOTAL USE OF FUNDS ...... ------$681,426 $842,600 $745,350

(I) Totals may not add due to independent rounding. (') 2004-05 Modified Budget as of March 31, 2005. 0) Beginning Fund Balanceamounts shown in the FY 2005-06 Proposed Budget are estimates, as theFY 2004-05 actualending fund balance amountswere not available at the time the Proposed Budget was prepared. <4l Beginningwith the FY 2004-05 Modified Budget, property tax revenue received in-lieu of Motor Vehicle License Fee Revenue per the State-Local Agreement will be budgeted as PropertyTax Revenue, rather than as Revenue from the State. <5l Actual application of Earmarked and Contingency Reserve amounts are reflected in the Use of Funds categories to which theywere applied. At year end, theunexpended Reserve amounts are rebudgetedto the next fiscal year. Source: City of San Jose FY 2005-2006 Proposed Operating Budget. A-16 Major General Fund Revenue Sources

Following is a discussion of the City's principal General Fund revenue sources: Sales and Use Taxes, Property Taxes, Licenses, Permits and Miscellaneous Taxes, Utility Taxes, and Revenue from Local Agencies. In the FY 2004-05 Modified Budget, these top five sources of revenue, approximately $446.0 million, represent 77.3% of General Fund revenues. For FY 2005-06, theProposed Budget projects these top five sources to totalapproximately $461.0 million, representing 81.6% of the City'spro jected General Fund revenues.

Sales andUs e Ta xes The sales tax is an excise taximposed on retailers for the privilege of selling tangible personal property. The use tax is an excise tax imposed on a person forthe storage, use or other consumption of tangible personal property purchased from anyretailer. The proceeds of sales and use taxes (collectively, "Sales Tax") imposed within the boundaries of the Cityare distributedby the State to various agencies as shown below in Table 9. The total Sales Tax rate for the County of Santa Clara currently is 8.25% and is allocated as follows:

Table 9 CITY OF SANJOSE SALES TAXRATES Prior to After July I, 2004 Jull:'. I, 2004 State - General State Fiscal Fund ...... 5.00% 5.00"/o State Fiscal Recovery Fund ...... 0.00 0.25 State - Local Revenue Fund ...... 0.50 0.50 Local - City of San Jose...... 1.00 0.75 Local - Santa Clara County ...... 0.25 0.25 Public Safety Fund (Proposition I 72) ...... 0.50 0.50 Sub-Total Statewide Sales and Use Tax ...... 7.25 7.25 Santa ClaraCounty Transactions and Use Tax ...... 0.50 0.50 Santa Clara County Transit District...... 0.50 Total ...... 8.25% 8.25%

Source: California State Board ofEqua/izalion.

In March 2004, with the passage of Proposition 57, the voters in the State authorized the issuance of economic recovery bonds to provide up to $15 billion to address the State's estimated accumulated General Fund budget deficit as of June 30, 2004. As noted in Table 9, the economic recovery bonds are to be paid from a temporary one-quarter cent Sales Tax beginning July I, 2004, and deposited into the State's Fiscal Recovery Fund. Simultaneously with the temporary increase in the State's Sales Tax, the local sales and use taxauthorization under State law (which the City shares) was reduced by one-quarter cent, and local governments' share of local property tax was increased by a like amount. The State is required by law to make payments to local governments (including the City) and schools in amounts generally equal to the reduced amounts of Sales Tax available to local governments and reduced property taxes available to school districts. These payments to local governments and school districts, as required by law, commenced in FY 2004-05.

A-17 TheCity's budgeting forecast of Sales Tax receipts is based on State officials' estimates and the forecast of local economists. In addition to the 0.75% Sales Tax to be received by the City in FY 2005-06, the City's budgeting forecast also includes the Proposition 172 0.50% SalesTax extension approved by the voters on the November 1993 ballot and propertytax in-lieu payments to reimburse the City reductionfor in Sales Tax receipts resulting from the passage of Proposition 57 and the redirection of sales tax revenuesto pay the State's economic recovery bonds.

Table 1 O shows Sales Tax receipts and their respective percentage of General Fund revenues since FY 2001-02.

Table 10 CITY OF SAN JOSE SALES TAX RECEIPTS (in thousands) Percentage of Sales Tax General Fund Fiscal Year Receipts Revenues 2001-02 $138,058 23.7% 2002-03 127,457 23.1 2003-04 130,698 23.4 2004-05 ModifiedBudget asof 3/31/ 05C1J 128,488 22.3 2005-06 Proposed Budget(!) 135,243 23.9 (0 Includes property tax in·lieu payments to reimburse the City for reduction in Sales Taxreceipts resulting from the passage of Proposition 57 and the redirection of sales tax revenues to pay the State's economic recovery bonds. Sources: Annual Reports, CityManag er's Offi ce. for FY 200/-02 to FY 2002-03; FY 2005-06 Proposed Operating Budget fo r FY 2003-04 through FY 2005-06.

Total Sales Tax receipts in the FY 2004-05 Modified Budget are approximately $128.5 million, representing 22.3% of General Fund revenue and a 1.7% decrease from FY 2003-04. Total Sales Tax receipts in the FY 2005-06 Proposed Budget are approximately $135.2 million, representing 23.9% of budgeted GeneralFund revenues and a projected 5.3% increase from FY 2004-05.

As can be seen from Table I 0, the City'sSales Tax receipts have stabilized in recent years after declining as a result of general economic conditions in the City. A significant portion of Sales Tax revenues are generated by transactions between businesses, which have been significantly impacted by economic conditions in the City.

Property Tax es and Assessed Va luations The assessed valuation of property is established by the CountyAssessor, and reported at 100% of the full cash value as of January I, except for public utility property, which is assessed by the State Board of Equalization.

The County collects the ad valorem property taxes. Taxes arising from the one percent levy are apportioned among local taxing agencies on the basis of a formula established by State law in 1979. Under this formula, theCity receives a base year allocation plus an allocation on the basis of growth in assessed value (consisting of new construction, change of ownership and inflation). Taxes relating to voter-approved indebtedness are allocated to the relevant taxing agency. Beginning in FY 1990-91 (with the adoption of new State legislation), the County deducts the pro-rata cost of collecting property taxes from the City's allocation.

A-18 The California Community Redevelopment Law authorizes redevelopment agencies to receive the allocation of tax revenues resulting from increases in assessed valuations of properties within designated project areas. In effect, the other local taxing authorities realize tax revenues from such properties only on the base year valuations which are frozen at the time a redevelopment project area is created. The tax revenues which result from increases in assessed valuations flow to the redevelopment areas. The City has created redevelopment project areas pursuant to California law. Generally, funds must be spent within the redevelopment areas in which the tax increment revenues were generated, and may only be spent on projects which qualifyunder Californiaredevelopment law.

Table 11 below setsforth a ten-year history of the City's assessed valuation.

Table 11 CITY OF SAN JOSE HISTORICALASSESSED VALUE OF PROPERTY (inthousands)

Gross Assessed Percentage FiscalYear Valuation Change 1994-95 ...... $46,074,404 (0.62)% 1995-96 ...... 47,400,940 2.88 1996-97 ...... 49,441,848 4.31 1997-98 ...... 53,669,515 8.55 1998-99 ...... 59,777,691 11.38 1999-00 ...... 65,316,993 9.27 2000-01...... 72,432,107 10.89 2001-02 ...... 83,699,432 15.56 2002-03 ...... 88,634,267 5.90 2003-04 ...... 92,414,521 4.27

Sources: Cirof San Josi! Comprehensive Annual Financial Reports for FY 1994-95 through FY 2003-04.

Property Tax receipts collected for the City by the County are set forth in Table 12. Under current County policy, the City'sallocation of total ad valorem taxes is received in approximately the following cumulative percentages: 40% by mid-December, 50% by the first week of January, 85% by the third week of April, 90% by the end of April and 100% by the end of June.

The County Boardof Supervisors approved the implementation of an alternative method of distribution of tax levies and collections and of tax sale proceeds (a "Teeter Plan"), as provided for in Section 4701 et seq. of the CaliforniaRevenue and Taxation Code. Under the Teeter Plan, the County apportions secured property taxes on an accrual basis when due (irrespective of actual collections) to its local political subdivisions, including the City, for which the County acts as the tax-levying or tax-collecting agency. The County then receives all future delinquent payments, penalties and interest. The Teeter Plan was effective in the County beginning the fiscalyear commencing July 1, 1993.

The Teeter Plan is applicable to all tax levies for which the County acts as the tax-levying or tax­ collecting agency, or forwhich the County treasury is the legal depository of tax collections. As adopted by the County, the Teeter Plan excludes Mello-Roos Community Facilities Districts and special assessment districts that provide foraccelerated judicial foreclosure of property for which specialtaxes or assessments are delinquent.

The Teeter Plan is to remain in effect unless the County Board of Supervisors orders its discontinuance or unless, prior to the commencement of any fiscal year of the County (which commences on July I), the

A-19 Board of Supervisors receivesa petition for its discontinuancejoined in by resolutions adopted by at least two-thirds of the participating revenue districts in the County, in which event the Board of Supervisors is to order discontinuance of the Teeter Plan effective at the commencement of the subsequent fiscal year. The Board of Supervisors may, by resolution adopted no later than July 15 of the fiscal year for which it is to apply, after holding a public hearing on the matter, discontinue the procedures under the Teeter Plan with respectto any political subdivision in the County if the rate of secured property tax delinquency in thatpolitical subdivision in any year exceeds three percent (3%) of the total of all taxes and assessments levied on thesecured rolls for that political subdivision. If the Teeter Plan is discontinued subsequent to its implementation, only those secured property taxes actually collected would be allocated to political subdivisions (including theCity) for which the Countyacts as the tax-levying or tax-collecting agency.

Table 12 CITY OF SAN JOSE PROPERTY TAX RECEIPTS (in thousands) Percentage of Property Tax General Fund FiscalYear Receipts Revenues 2001-02 $ 88,286 15.1% 2002-03 93,592 17.0 2003-04 95,649 17.1 2004-05 ModifiedBudget as of3/3 l/05(t) 136,215 23.6 2005-06 Proposed Budget(!) 143,996 25.5 (l) Includes motor vehicle license fee (MVLF)property tax replacement revenue, less $11.1 million in each year reflectingthe impact of the State's 2004-05 Budget Act and the anticipated impact of the State's 2005-06 Budget Act. Sources: Annual Reports, CityManager 's Offi ce. for FY 2001-02 to FY 2002-03; FY 2005-06 Proposed Operating Budget for FY 2003-04 through FY 2005-06.

Property Tax receipts collected for the City by the County are set forth in Table 12 above. In preparing its budget, the City forecasts property taxes based on each of the specific categories of receipts (secured and unsecured, current and delinquent receipts, supplemental, and State replacement funds). Current receipts are based on the County Assessor's estimate of growth in assessed valuation, adjusted for estimates in growth for redevelopment project areas. Estimates of other property tax receipts are primarily based on historical collections.

Total Property Tax receipts in the FY 2004-05 Modified Budget are approximately $136.2 million, representing 23.6% of General Fund revenue and a 42.4% increase from FY 2003-04. Total Property Tax receipts in the FY 2005-06 Proposed Budget are approximately $144.0 million, representing 25.5% of budgeted General Fund revenues and a 5.7% increase from FY 2004-05. Both the 2004-05 Modified Budget and the 2005-06 Proposed Budget amounts include motor vehicle license fee (MVLF) property tax replacement revenue, less $11.1 million in each year reflecting the impact of the State's 2004-05 Budget Act and theanticipated impact of the State's 2005-06 Budget Act. See "Budget - State Budget".

According to the County Assessor's 2004-2005 Annual Report, the assessed values of 10,877 properties located in the City of San Jose were reduced by the Assessor's Office, as of the lien date January I, 2004, to reflect changes in market conditions for a total reduction of $4.11 billion. This represents a 28.74% decline from what would have been the assessed value of these properties had the market value not declinedbelow the Proposition 13 protected assessed value. Countywide, almost 95% of properties with such reductions were residential, but over 75% of the reduced value came from commercial, industrial and officeproperties.

A-20 Table 13 presents a list of the ten largest taxpayers forFY 2004-05, based on secured assessedvaluations, within the City. The total secured assessed valuation of these taxpayers represents approximately 4.47% of the total Citysecured assessed valuation for FY 2004-05. Certain of these taxpayers may own property located in one or more redevelopment areas of the City and the full amount of property taxes paid on such parcels may not contributeto the City'sGeneral Fund.

Table 13 CITY OF SAN JOSE TEN LARGEST LOCAL SECURED PROPERTY TAXPAYERS (inthousands ) Assessed Property Percentage Name Valuation of Total Cisco Technology Inc. $ 629,418 0.74% HitachiGlobal Storage Technologies Inc. 573,472 0.68 Sobrato Development Companies 450,532 0.53 VF Mall LLC 436,467 0.52 Spieker Properties LP 374,813 0.44 Irvine CommunityDevelopment Co. 295,897 0.35 San Jose WaterWorks 271,554 0.32 Carramerica Realty Corporation 255,062 0.30 Bay Apartment Communities Inc. 250,043 0.30 Mission West Properties LP 249,370 0.29 Total assessedproperty valuation, local secured $ 3,786,629 4.47%

Total Cityof San Jose secured assessed property valuation, FY 2004-05 $84,629,746

Source: California Municipal Statistics.

Utilitv Taxes

The UtilityTax is charged to all users of a given utility (electricity, gas, water, and telephone) other than the corporation providing the utility (e.g., a utility company's consumption of all utilities used in the production or supply of its serviceis not taxed). The telephone utilityuser's tax is assessed on the basic charges and all intrastate calls. Consumers pay 5% of the utility charges to the utility company that acts as a collection agent for the City. The utility company collects the tax from consumers on a monthly basis and is required to remit that amount to the City by the 25th of the following month. The tax is not applicable to State, County, or City agencies. Also, per State law, insurance companies and banks are exempted from the tax.

Total Utility Tax revenue in the FY 2004-05 Modified Budget is approximately $64.8 million, representing 11.2% of General Fund revenue and a 5.3% decrease fromFY 2003-04. Total Utility Tax revenue in the FY 2005-06 Proposed Budget is approximately $67 .8 million, representing 12.0% of budgeted General Fund revenues and a 4.7% increase from FY 2004-05. Table 14 shows Utility Tax receipts and their respective percentage of General Fund revenues since FY 2001-02.

A-21 Table 14 CITY OF SAN JOSE UTILITY TAXES (inthousands ) Percentage of General Fund Fiscal Year UtilityTaxes Revenues 2001-02 $66,889 11.5% 2002-03 65,785 11.9 2003-04 68,455 12.3 2004-05 ModifiedBudget as of 3/31/05 64,804 11.2 2005-06 Proposed Budget 67,844 12.0 Sources: Annual Reports, City Manager's Office. for FY 2001-02 to FY 2002-03; FY 2005-06 Proposed Op erating Budget fo r FY 2003-04 through FY 2005-06.

Licenses. Permits and Miscellaneous Taxes

This category comprises six major subcategories: business taxes, cardroom taxes, disposal facility taxes, fire permits, building permits and miscellaneous other licenses and permits. Total Licenses, Permits and Miscellaneous Taxes revenue in the FY 2004-05 Modified Budget is approximately $70.9 million, representing 12.3% of General Fund revenue and a 1.8% increase from FY 2003-04. Total Licenses, Permits and Miscellaneous Taxes revenue in the FY 2005-06 Proposed Budget is approximately $72.3 million, representing 12.8% of budgeted General Fund revenues and a 2.0% increase from FY 2004-05. Table 15 shows Licenses, Permits and Miscellaneous Taxes receipts and theirrespective percentage of General Fund revenues since FY 2001-02.

Table 15 CITY OF SAN JOSE LICENSES, PERMITS AND MISCELLANEOUSTAXES (in thousands) License, Percentage of Permits and General Fund Fiscal Year Other Taxes Revenues 2001-02 $59,272 10.2% 2002-03 61,407 11.1 2003-04 69,590 12.5 2004-05 Modified Budgetas of3/3 l/05 70,871 12.3 2005-06 ProposedBudget 72,270 12.8 Sources: Annual Reports, City Manager's Office. for FY 2001-02 to FY 2002-03; FY 2005-06 Proposed Operating Budget for FY 2003-04 through FY 2005-06.

Two cardroom clubs exist in the City. The City imposes an annual "base tax" on each cardroom in an amount not to exceed $175,000. In addition, if the annual gross revenues of the cardroom exceeds $10,000, the City imposes a tax equal to 13% of the cardroom's gross revenues. The City and both cardrooms are engaged in litigation concerningthe City's enactment of regulations which would limit the cardrooms' hours of operation and disallow one form of betting. The regulations are not currently in effect as a result of the pending litigation. If the City were to prevail in the cardroom litigation, the cardrooms' gross revenues may decline. However, the City is not able to predict what effect, if any, the

A-22 disputed regulations would have on the City'srevenues from thecardroom tax. Cardroom taxcollections areexpected to exceed $8.5 million in FY 2005-06.

Both cardroomclubs have filedfor bankruptcy protection and their petitions remain pending. Each of the cardroom clubs owes the City for cardroom taxes which were due prior to the filing of their respective bankruptcy petitions. The amount owed to the City in the aggregate is approximately $710,000. As of June 15, 2005, both cardroom clubs are current with their payments of post-petition cardroom taxes.

Revenue fromLocal Agencies

Revenue from Local Agencies includes reimbursements from the Redevelopment Agency, enterprise fund in-lieu charges, central fire districtpayments and paramedic program payments. Of the $4 1.7 million the City projects in Revenue from Local Agencies for FY 2005-06, approximately $29.4 million is in the form of revenue from the Redevelopment Agency, including $13.3 million to reimburse the Cityfor the payment of debt service payments on the City of San Jose Financing Authority Lease Revenue Bonds, Series 2001F (Convention Center Refunding Project) (the "Series 2001F Bonds").

In light of two years of significantdecline in tax increment revenues, the City's General Fund has become significantly exposed to changes in the Redevelopment Agency's fiscal health with respect to both repayment of debt service on the 2001F Bonds and the Redevelopment Agency's payments to the City for City services. Additionally, pursuant to the terms of the Redevelopment Agency's ERAF Loan, the Redevelopment Agency's payments are approximately $2.4 million per year through FY 2014-15. In the event that the Redevelopment Agencyhas insufficient fundsto make any of its ERAF Loan payments, the CountyAuditor is required to deduct the payment from the City's ad valorem property taxes.

Revenue from Local Agencies in the FY 2004-05 Modified Budget is approximately $45.6 million, representing 7.9% of General Fund revenues and an increase of9.0% fromFY 2003-04. The FY 2005-06 Proposed Budget projects these revenues to be approximately $41.7 million, representing 7.4% of budgeted General Fund revenues and an 8.6% decrease from FY 2004-05. Table 16 shows Revenue from Local Agencies and their respective percentage of General Fund revenues since FY 2001-02.

Table 16 CITY OF SAN JOSE REVENUE FROM LOCAL AGENCIES (inthousands) Revenue Percentage of from Local General Fund Fiscal Year Agencies Revenues 2001-02 $47,141 8.1% 2002-03 43,009 7.8 2003-04 41,862 7.5 2004-05 ModifiedBudget as of3/31/05 45,628 7.9 2005-06 Proposed Budget 41,713 7.4 Sources: Annual Reports, City Ma nager 's Offi ce.for FY 2001-02 to FY 2002-03; FY 2005-06 Proposed Operating Budget for FY 2003-04 through FY 2005-06.

A-23 Other Revenues

The following provides a discussion of the remaining General Fund revenues. Included in this category are Revenue from the State, Franchise Fees, Departmental Charges (permits, fees for use), Revenue from Use of Money and Properly (interest income), Transient Occupancy Tax, Fines, Forfeitures and Penalties, Revenue from the Federal Government and Miscellaneous Revenues. In the FY 2004-05 Modified Budget, these combined sources of revenue total approximately $131.1 million, representing 22.6% of General Fund revenues. In the FY 2005-06 Proposed Budget, these combined sources total approximately $103.8 million, representing 18.4% of General Fund revenues.

Revenue from the State - Revenue from the State consists of Motor Vehicle License Fees ("MVLF"), Airplane in-lieu taxes and State grants.

Commencing in FY 2004-05, as a result of the State-Local Agreement, the MVLF rate is reduced from 2% to 0.65% of the market value of the vehicle. Also commencing in FY 2004-05, by State statute, the State is required to allocate to cities and counties properly tax revenues in order to make up the difference in revenues as a result of the MVLF rate reduction from 2% to 0.65%. In FY 2006-07 and thereafter, the replacement properly taxes will increase at rates corresponding to the rate of increase, if any, in each jurisdiction's gross assessed properly value. Additionally, per the amendments to the State Constitution enacted by the passage of Proposition l A, if the MVLF is reduced below 0.65%, then the State must replace the corresponding revenues to cities and counties. Beginning with the FY 2004-05 Modified Budget, the MVLF replacement properly tax revenue is reflected in the City's budget as Properly Tax Revenue, rather than Revenue from the State.

Revenue from the State in the FY 2004-05 Modified Budget is approximately $11.7 million, representing 2.0% of General Fund revenues and a decrease of 74.8% from FY 2003-04. Revenue from the State in the FY 2005-06 Proposed Budget is approximately $10.2 million, representing 1.8% of budgeted General Fund revenues and a decrease of 12.4% from FY 2004-05.

In FY 2003-04, the State failed to make three months of MVLF backfill payments to cities and counties, including the City, resulting in MVLF receivables of approximately $1.3 billion. Chapter 231, Statutes of 2003, provides for the repayment in August 2006 of those MVLF receivables. Under the terms of the State-Local Agreement, the State is prohibited from implementing the financial hardship provisions of Proposition IA which would permit the State to redirectproperly tax revenues from local governments to the State if the State has not paid the MVLF backfillpayments to be paid in August, 2006.

On February 15, 2005, the City Council approved the City's participation in the California Statewide Communities Development Authority ("CSCDA") Vehicle License Fee Gap Loan Receivable Financing Program (the "VLF Gap Loan") and committed theproceeds of the VLF Gap Loan to fund a portion of the costs of the Civic Center Garage Project. On March 3, 2005, CSCDA sold revenueanticipation notes and used a portion of the sale proceeds to purchase the City's$1 5.7 million MVLF receivable for a price of approximately $14.8 million, discounted to reflect costs of issuance and capitalized interest.

Franchise Fees - Franchise Fees are collected mainly from utilityproviders for theuse of public rights-of­ way. Franchise Fees total approximately $32.2 million in the FY 2004-05 Modified Budget, representing 5.6% of General Fund revenues and an increase of 1.4% from FY 2003-04. The FY 2005-06 Proposed Budget projects revenues from Franchise Fees to total approximately $33.l million, representing 5.9% of budgeted General Fund revenues and an increase of 3 .0% from FY 2004-05.

There is an ongoing dispute between PG&E and the City withrespect to Franchise Fees owed by PG&E to the City in 2000. The amount in dispute is approximately $3.6 million. In June 2002, the City and

A-24 PG&E entered into a stipulation in order for the Cityto pursue its claim outside of PG&E's thenpending bankruptcy proceedings.

Departmental Charges - Departmental Charges are approximately $27.3 million in the FY 2004-05 Modified Budget, representing 4. 7% of General Fund revenues and an decrease of 0.2% from FY 2003- 04. The FY 2005-06 Proposed Budget projects revenues from Departmental Charges to total approximately $27.3 million representing 4.8% of budgeted General Fund revenues and a decrease of 0.1% from FY 2004-05.

Revenue from Use of Moneyand Property - Revenue from Use ofMoney and Property in the FY 2004- 05 Modified Budgetdropped to approximately $6.9 million, representing 1.2% of General Fund revenues and a decline of 17.3% from FY 2003-04. Reflecting assumptions of continued low General Fund interest yields, the FY 2005-06 Proposed Budget projects these revenues to total approximately $6.2 million, representing I.I% of budgeted General Fund revenues anda 9.5% decrease from FY 2004-05.

The FY 2004-05 Modified Budget incorporates a $300,000 decrease in General Fund interest earnings, approved by the City Council on August 31, 2004, reflecting the impact of the State's $11.1 million reduction in MVLF property tax replacement revenue. The General Fund interest earnings estimate for the FY 2005-06 Proposed Budget similarly takes into account the $11.1 million of MVLF property tax replacement revenue which will not be received in FY 2005-06.

Transient Occupancy Tax - General Fund revenue fromthe Transient Occupancy Tax in the FY 2004-05 Modified Budget is approximately $5.8 million, representing 1.0% of General Fund revenues and an increase of 2.3% from FY 2003-04. The FY 2005-06 Proposed Budget projects revenue from the Transient Occupancy Tax to total approximately $6.5 million, representing 1.1% of budgeted General Fund revenues and an increase of I 0.3% from FY 2004-05.

Fines, Forfeitures and Penalties - Revenues from Fines, Forfeitures and Penalties in the FY 2004-05 Modified Budget are approximately $12.4 million, representing 2.1% of General Fund revenues and an 11.1% decrease from FY 2003-04. The FY 2005-06 Proposed Budget projects revenues from Fines, Forfeitures and Penalties to total approximately $12.7 million, representing 2.2% of budgeted General Fund revenues and a 2.6% increase from FY 2004-05. Revenue fromthe Federal Government- Revenue from the Federal Government is in the form of various grants received by the City. Revenue from the Federal Government in the FY 2004-05 Modified Budget is estimated to be approximately $11.0 million, representing 1.9% of General Fund revenues and an increase of 279 .0% from FY 2003-04. The FY 2005-06 Proposed Budget projects revenue from the Federal Government to total approximately $0.3 million, representing 0.1% of budgeted General Fund revenues and an decrease of97.3% fromFY 2004-05.

Other Revenue - Other Revenue in the FY 2004-05 Modified Budget is approximately $23.9 million, representing 4.1 % of General Fund revenuesand an increase of 48.8% over FY 2003-04. The FY 2005- 06 Proposed Budget projects these revenues to be approximately $7.5 million, representing 1.3% of budgeted General Fund revenues and a decrease of 68.5% from FY 2004-05.

A-25 Financial Operations

Financial Statements Since FY 2001-02, the City has prepared its audited Basic Financial Statements (referred to as General Purpose Financial Statements in previous years) in accordance with Governmental Accounting Standards Board Statement No. 34 (GASB 34). The Basic Financial Statements provide both government-wide financial statements with a long-term perspective on the City's activities while retaining the more traditional fund-based financial statements that focus on near-term inflows, outflows, and balances of spendable financial resources. The government-wide financial statements report on a full accrual basis andinclude comprehensive reporting of the City's infrastructure and other fixedassets.

Tables 17 and 18 on the following pages summarize financial information contained in theCity's General Purpose Financial Statements for FY 1999-00 and FY 2000-01 and Basic Financial Statements for FY 2001-02 through FY 2003-04. The tables include information solely on the General Fund of the Cityand the debt service fundsthat are funded from General Fund revenues.

A-26 Table 17 GENERAL FUND BALANCE SHEET FY 1999-00 throush FY 2003-04 3 1999-00<11 2000-01<11 2001-02(2, ) 2002-03 2003-04 ASSETS Cash andPooled Investments...... $167,910,518 $236, 763,349 $222,916,378 $170,170,377 $160,880,388 Other Investments ...... 169,517 279,284 487,689 Receivables: Taxes...... 42,288,403 33,603,246 31,972,095 32,151,150 33,739,040 Accrued Interest ...... 7,181,285 5,474,549 4,802,865 2,335,021 1,927,201 Grants ...... 1,188,834 950,930 1,133,236 3,919,322 785,236 Loans ...... ,,,,,,,,,,,,,, 520,000 1,650,000 2,400,000 4,146,995 2,650,000 Other.... ,,,,,,,,,,,,,,,,,,,,,,,,,, ...... 9,323,993 7,277,565 13,932,656 11,326,994 14,340,556 Due from Other Funds ...... 9,464,051 6,097,63 1 3,713,548 2,065,781 2,363,769 Due from Outside Agency ...... 243,044 400,658 387,455 227,937 Advances to Other Funds...... 3,887,199 3,863,904 3,838,204 3,809,895 3,733,754 Advnnces and Deposits...... 3,345,942 3,337,661 351,791 12,%1 44,034 Restricted Assets: Cash nnd Pooled Investments ..... 668,283 457,793 648,941 1,036,123 1,075,617 Other Investments ...... 11,371 11,371 11,371 11,371 11,371 Other Assets ...... 1,032,200 TOTAL ASSETS $246,202,440 $300,167,941 $286,208, 774 $231,373,445 $222,811,103 LIABILITIES AND FUND EQUITY LIABILITIES Accounts Payable ...... $10,049,620 $10,292,247 $10, 779,679 $6,479,532 $7,284,004 Accrued Salaries, Wages and Payroll Taxes...... 7,526,853 13,365,465 8,488,369 10,442,017 14,359,500 Accrued Vacation, Sick Leave, and 12,502,444 12,502,444 Compensatory Time ...... Due to Other Funds ...... 3,655,004 151,042 3,336,656 918,688 660,240 Due to Outside Agency ,, ...... 294,957 294,957 294,957 521,813 535,574 Deferred Revenue ...... 14,389,714 5,714,830 5,844,595 5,467,712 5,184,201 Advnnce, Deposits, and Reimbursement Credits ...... 10,011 10,011 10,011 7,203 7,203 Advnnces from Other Funds ...... Estimated Liabilityfor Workers' Compensation ...... 12,801,788 12,258,773 OtherLiabilities ...... 7,674,330 ll,571,054 7,925,529 9,883,502 11,441,299 TOTAL LIABILITIES $68,904,721 $66,160,823 $36,679, 796 $33,720,467 $39,472,021 FUND EQUITY Fund Balances: Reserved for Encumbrances ...... $ 35,557,347 $ 36,695,440 $ 45,628,108 $ 26, 195, 191 $ 23,153,824 Reserved for Noncurrent Advnnces and Lonns .... ,,,,,,,,,,,,,,. 7,996, 185 9,252,223 6,589,995 7,722,856 6,427,788 Unreserved: Designated for Contingencies. 34,538,930 36,062,439 57,314,196 38,995,175 32,466,675 Designatedfor Future Projects 15,691,341 26,579,153 39,894,383 56,883,442 68,611,596 Undesignated ...... 83,513,916 125,417,863 100,1 02,296 67,856,314 52,679,199 TOTAL FUND EQUITY $177,297,719 $234,007, 118 $249,528,978 $197,652,978 $183,339,082 TOTAL LIABILITIES AND FUNDEQUITY $246,202,440 $300,167,941 $286,208,774 $231,373,445 $222,811,103

(I) Beginning fundbalance restated to comply with GASB Statement No. 33, which changed the timing of sales taxrecognition. (') Beginning fund balance restated to comply with GASB Interpretation No. 6, which permanently removedcertain liabilities from the Cily'sgovernmental fundstatements. 3 < ) This fiscal year may not be comparable to prior fiscal years due to changes in presentation required by the implementation of GASB StatementNo. 34. Source: Cir of San Jose Finance Department.

A-27 Table 18 GENERAL FUND STATEMENT OF REVENUES, EXPENDITURES AND CHANGES IN FUND BALANCE FY 1999-00 throo11hFY 2003-04 1 ,3 1999-00(l) 2000-01< > 2001-02(' ) 2002-03 2003-04 REVENUES Taxes: Property Taxes...... •...... $ 71,970,853 $ 80,693,570 $ 89,874,366 $ 95,108,413 $ 96,582,328 Sales Taxes ...... 142,268,039 169,216,984 138,058,474 127,456,727 130,697,574 UtilityTaxes ...... 53,425,760 67,446,480 66,889,067 65,784,892 68,454,701 State of Californiain-lieu Tax .... 45,394,373 50,282,974 51,306,358 53,787,323 41,455,033 Franchise Taxes ...... 30,322,259 29,172,058 34,432, 153 32,092,363 31,712,351 Miscellaneous Taxes ...... 8,287,524 10,919,727 6,819,288 5,800,000 5,711,809 Total Taxes ...... 351,668,808 407,731,793 387,379,706 380,029,718 374,613,796 Licenses. Pennits, and Fines ...... 75,640,881 79,143,098 70,803,188 73,687,132 83,630,890 Grants...... 10,351,486 9,%5,959 13,809,346 9,745,177 10,105,250 Subventions ...... 14,129 Charges for Current Services ...... 23,967,395 25,334,621 23,909,438 22,975,190 27,409,778 Interest and Other Revenues ...... 54,579,641 69,550,824 55,565,392 32,579,726 26,940,124 TOTAL REVENUES $516,208,211 $591,740,424 $551,467,070 $519,016,943 $522,699,838 EXPENDITURES Current: General Government ...... $ 37,890,518 $ 40,094,397 $ 76,188,467 $73,083,343 $67,746,95 1 Public Safety ...... 258,350,764 269,138,828 282,865, l 88 305,212,184 317,202, 147 Capital Maintenance ...... 28,008,038 34,534,350 57,566,266 54,098, 156 40,382,461 Community Services ...... 93,477,568 100,567,853 131,322,533 133,061,556 127,453,426 Sanitation ...... 1,567,815 1,802,606 3,012,625 1,794,794 1,661,991 Other Expenditures ...... 65,943,322 73,584,824 Capital Outlay ...... 13,834,854 16,219,571 18,866,934 20,892,396 7,888,038 Debt Service:(4l Principal ...... 1,804,422 1,851,138 1,932,539 1,953,724 53,237 Interest ...... 335,930 253,915 167,745 72,960 2,093 TOTAL EXPENDITURES $501,213,231 $538,047,482 $571,922,297 $590,169,113 $562,390,344 Excess (Deficiency)of Revenues over Expenditures $14,994,980 $53,692,942 $(20,455,227) $(71,152,170) $(39,690,506) OTHER FINANCING SOURCES (USES) Transfers In ...... $ 20,696,307 $ 14,643,449 $ 23,645,842 $30,594,361 $33,020,925 Transfer.; Out ...... (12,350,668) (9,771,664) (12,429,973) (11,318,193) (7,644,315) Capital LeaseFinancing Proceeds .. 123,066 213,974 TOTAL OTHER FINANCING SOURCES (USES) $ 8,468,705 $ 5,085,759 $ 11,215,869 $19,276,168 $25,376,610 Excess (Deficiency)of Revenues and Other Sources over Expenditures and Other Uses $23,463,685 $58,778,701 $(9,239,358) $(51,876,002) $(14,313,896) Fund Balance · July 1 153,834,034 177,297,719 258, 768,336 249,528,978 197,652,976 Residual Equity Transfer (2,069,302) Fond Balance - Jone 30 $177,297,719 $234,007, 118 $249,528,978 $197,652,976 $183,339,080 <1l Beginning fund balancerestated to comply with GASB Statement No. 33, which changed the timingof sales tax recognition. <2l Beginning fund balance restated to comply with GASB InterpretationNo. 6, which permanently removed certain liabilities from the City's governmental fund statements. <3l This fiscal year may not be comparableto prior fiscal years due to changes in presentation required by the implementation of GASB Statement No. 34. <4l Excludes debt service funds ofthe Redevelopment Agency and other debt service funds. Source: Ci� o'San Jose Finance Def!E.rlment.

A-28 Financial and Accounting In formation The accounts of the City are organized on the basis of funds, each of which is considered a separate accounting entity. The fund financial statements provide information about the City's funds, including fiduciary funds. The emphasis of fund financial statements is on major governmental and enterprise funds, each displayed in a separate column. All remaining governmental and enterprise funds are separately aggregated and reported as non-major funds. The operations of each fund are accounted for with a separate set of self-balancing accounts that comprise its assets, liabilities, fund equity, revenues and expenditures (or expenses) as appropriate. Government resourcesare allocated andaccounted for in individual funds based on the purposes forwhich they are to be spent and the meansby which spending activities are controlled. Separate statements for each fund category - governmental, proprietary and fiduciary- are presented. All governmentalfunds are accounted for using the modified accrual basis of accounting. Their revenues are recognized when they become measurable and available. Taxpayer-assessed income, gross receipts and other taxes are considered "measurable" when in the hands of intermediary collecting governments and are recognized as revenue at that time. Anticipated refunds of such taxes are recorded as liabilities and reductions of revenue when they are measurable and their validity seems certain. Expenditures are recognized when a liability is incurred. Exceptions to this general rule include: (I) accumulated unpaid vacation, sick pay, and other employee amounts which are not accrued; and (2) principal and interest on general long-term debt which is recognized when due. All proprietary funds are accounted for using the accrual basis of accounting. Their income is recognized when it is earned and expenses are recognized when they are incurred.

Insurance and Self-Insurance Programs The City reassesses its insurance coverage annually. Therefore, the City makes no representations that these insurance coverages will be maintained in the future. The City currently maintains an all-risk property insurance policy covering City property, with the maximum total limit of coverage for a single occurrence for all coverages combined of $1,611,000,000. A deductible of $100,000 per occurrence for property damage and business interruption coverages combined applies. Such policy also includes coverage for boiler and machinery exposures. This policy also provides coverage for loss due to flood in the amounts of$15,000,000 for City flood zones A and V, subject to a $500,000 per occurrence deductible, and $25,000,000 for City flood zone B and $50,000,000 for all other flood zones subject to a $100,000 per occurrence deductible. The maximum coverage for flood in any one policy year is $50,000,000. The policy limit for property damage caused by war or terrorism is $2,500,000 per occurrence and in aggregate. The City does not carryearthquake insurance. The City has airport liability policies covering the Airport, which provide a limit of $200,000,000 per occurrence with an annual deductible of $100,000 per occurrence. TheCity also maintains an automobile liability policy covering vehicles associated with the Airport and Water Pollution Control Plant operations. The limit ofliability is $1,000,000 for each occurrence for liabilityand the City is self-insured for physical damage. The City also self-insures against losses fromvarious causes as follows: Third partyliability claims and worker's compensation - Claims are on a "pay as you go" basis, with an emergency reserve fund in the General Fund of$10,000,000 forboth liability and worker's compensation claims. Unemployment insurance- The Cityself -insures to the limits required by State statute.

A-29 Litigation The Cityis involved in a variety of pending actions. The actions described below are the most significant in terms of alleged damages or risk of loss, using a thresholdof$ IO million.

Evans v. Cityof San Jose , et. al.

In 2002, the Redevelopment Agency of the City of SanJose adopted the Strong Neighborhoods Initiative Redevelopment Plan ("SN! Plan"), which was adopted by ordinance of the City Council in June 2002. The SNI Plan contemplates the expenditure of Redevelopment Agency funds for, among other things, the acquisition of property for and construction of City-owned improvements in the SN! Plan area, which encompasses 9,865 acres ("ProjectArea" ).

A property owner in the Proj ect Area sued both the Redevelopment Agency and the Cityto invalidate the SN! Plan alleging that there was insufficient evidence to support the findings of blight as required by State law. The plaintiff'ssuit sought an injunction to prevent the Redevelopment Agency from expending its funds and from exercising its power of eminent domain in the Project Area.

The Redevelopment Agency and the City prevailed in the trial court, because the trial court ruled that the plaintiffhad failed to raise the objections to the SNI Plan during the administrative hearings held prior to its adoption. The trial court also found that there was sufficient evidence in the administrative record to support the adoption of the SNI Plan. The plaintiffappealed and the CaliforniaCourt of Appeals for the Sixth District upheld the trial court's decision on March 29, 2005. On May 9, 2005, the plaintifffiled a petition seeking review by the CaliforniaSupreme Court.

The Redevelopment Agency has expended or encumbered approximately $32 million in the Project Area as of May 31, 2005. Many of the projects in the Project Area areCity-owned improvements. The amount remaining available in the FY 2004-05 budget for expenditure in the Project Area is approximately $22 million. As of June 15, 2005, the proposed budget forthe Project Area for FY 2005-06 is approximately $14 million.

The City is unable to predictwhether the City's General Fund would be liable for any or all amounts paid by the Redevelopment Agency in furtherance of the SNI Plan if the plaintiffwere ultimately to prevail in this action, resulting in the invalidation of the SNI Plan.

Fong et. al. v. Cityof San Jose , et.al.

In 2002, the Redevelopment Agency brought an eminent domain action to acquire several properties in the Tropicana Center, a strip shopping mall located in a redevelopmentplan area in East San Jose. The acquisitions were pursuant to a disposition and development agreement with a developer for the renovation of the Tropicana Center. One of the Redevelopment Agency's goals in acquiring the Tropicana Center was to consolidate the fractured ownership structure to foster the redevelopment process. The Redevelopment Agency later abandoned its eminent domain action following the trial court's tentative ruling that the administrative record failed to show that the proposed project was compatible withthe greatest public good and the least private injury.

In 2004, two plaintiffs with ownership interests in the Tropicana Center brought an action against the City and the Redevelopment Agency seeking damages that the plaintiffs allegedly suffered as a result of the Redevelopment Agency's abandoned eminent domain efforts. In addition, the plaintiffs allege that the Redevelopment Agency and theCity discriminated against them on the basis of race and personal animus.

A-30 The amount of damages currently claimed forlost rental income, increased financing costs, construction costs, advertising and promotional expenses and attorneys' fees are approximately $12 million. The parties are attempting to settle the case informally and have scheduled a court sanctioned mediation for the end of June 2005. Trial in this matter would be scheduled for the end of 2005 or the first quarter of 2006.

The City'sdamages experts are currently assessing Plaintiffs' alleged damages, but have not yet reached any conclusions at this time.

Cityof San Jose , et. al. v. Countyof Santa Clara, et. al.

In August 2004, the Cityand the Redevelopment Agency fileda lawsuit seeking a judicial determination as to whether the County of Santa Clara had breached an agreement entered into among the parties in May 2001 (the "2001 Agreement''). The 2001 Agreement included provisions regarding redevelopment tax increment allocation and the application ofland use procedures in Countyterritory within the San Jose urban service area. The City and the Redevelopment Agency contend that under the 2001 Agreement, the County was required to abide by City land use procedures before it entered into agreements with private entities forthe development of a theater on the County Fairgrounds.

In April 2005, the County filed a cross complaint against the City and the Redevelopment Agency alleging, among other things, breach of the 200 I Agreement, breach of the 2001 Agreement's implied covenant of good faithand fairdealing, and intentional interference with prospective economic relations. The County's cross complaint alleges no specific amount of damages and seeks damages and restitution according to proof. However, the County also alleges, without explanation, that an assessment by Harvey Rose Corporation indicates that the amounts of the County's loss are in excess of$2.1 billion.

To the knowledge of the CityAttorney and the Redevelopment Agency General Counsel, the only Harvey Rose assessment regardingtax increment is a report to the County Finance Committee, dated February I, 2005, which concluded that over the past 10 years, the tax incrementcollected by all nine redevelopment agencies in SantaClara County was approximately $2.1 billion. The report does not addressany damages suffered by the County as a result of the causes of action alleged in the County's cross complaint.

If the County wereto prevail in this cross complaint, the Cityand theRedevelopment Agency are unable to predict thenature or amount of thedamages that can be proven.

Pension Plans

General. All regular full-timeCity employees participate in one of two public employee retirement plans established pursuantto the CityCharter : the Police and Fire DepartmentRetirement Plan (the "Police and Fire Plan") and the Federated City Employees' Retirement System (the "Federated Plan" and together with the Police and Fire Plan, the "Pension Plans"). Both PensionPlans are structured as defined benefit plans in which retirement benefits are based upon salary and length of service. Both Pension Plans pay cost-of-living increases and health and dental insurance premiums forretirees who qualify.

Participation by covered employees in the Pension Plans is mandatory; employees contribute a percentage of their salariesto the applicable Pension Plan, and the City providesfunding through contributions equal to a percentage of its full-time employee payroll. The contribution rates are based on actuarial calculations and take into consideration assumed investment earnings on the valuation assets of the Pension Plans that are used to pay benefits. Each Pension Plan is administered by its own Board of

A-31 Administration; day-to-day operations are carried out by the City'sDirector of Retirement Services and the Director'sstaff.

A summary of Pension Plan characteristics as of June 30, 2004, and actuarial results as of June 30, 2003, arepresented below in Table 19.

Table 19 SUMMARY OF PENSION PLAN CHARACTERISTICS (as of June 30, 2004) AND ACTUARIAL RESULTS (as of June 30, 2003) Federated Plan Police and Fire Plan Membership DefinedBenefit Pension Plans, excluding Postemployment Healthcare Plans: Active 4,307 2,052 Deferred 443 67 Retired 2 332 I 363 Total 7,082 3,482 Postemployment Healthcare Plans: Active 4,307 2,052 Deferred 62 5 Retired 1 711 1,223 Total 6,080 3,280 Covered Payroll $288, 136,000 $203,953,000 Calculation of Unfunded Actuarial Accrued Liability (UAAL) Actuarial Value of Benefits $1,311,691,000 $1,856,207,000 Actuarial Value of Assets 1,280,719,000 1,859,294,000 UAAL/(PrefundedAAL) $ 30,972,000 ($ 3,087,000) Funded Ratio 97.64% 100.20% Employer Cost (% of Payroll) Retirement Benefits<') 14.96% 21.77% Health Benefits 1.59 2.70 Dental Benefits 0.57 0.57 Total 17.12% 25.04% Member Cost (% of Payroll) Retirement Benefits 4.26% 8.27% Health Benefits 1.59 2.70 Dental Benefits 0.21 0.19 Total 6.06% 11.16% 1 ' ' The Police and Fire Plan City contribution rate forFY 2004-05 is 21.32%, reflecting a charge tothe Supplemental Retiree Benefits Reserve (SRBR) because of the increase in the City"s contribution rate due topoor market/investment returns. Sources: City of San Jose Finance Department fo r membership andpayroll information; Report of the Actuarial Va luation of the San Jose Federated City Employees ' Retirement System as of June 30. 2003, datedDecember 5. 2003, and Actuarial Va luation Report as of June 30, 2003: City of SanJose Police and Fire Department Retirement Plan, dated Navember 25, 2003, for actuarial results.

A-32 Service Retirement Formulas

The service retirement formulas for both the Police & Fire Plan and the Federated Plan are described below.

Police & Fire Plan. An employee who reaches normal retirement age of 55 with 20 years of service; an employee of age 50 with 25 years of service; an employee of any age with 30 years of service; or an employee of age 70 with no service requirement is entitled to a monthly retirement allowance equal to final compensation multiplied by 2.5% multiplied by years of service up to 30 years (Maximum benefit, 75% of fmal average salary) if the employee retired prior to February 4, 1996. If the employee retired after February 4, 1996, but prior to February 4, 2000, the monthly allowance consists of final compensation multiplied by 2.5% for the first 20 years of service and by 3% for the next ten years (Maximum benefit, 80% of final average salary). If the employee retired after February 4, 2000, the monthly allowance consists of final compensation multiplied by 2.5% forthe first 20 years of service, by 3% for the next 5 years of service, and by 4% for the next 5 years of service (Maximum benefit, 85% of final average salary). Final Average Salary is the highest 12 consecutive months of compensation eamable (excluding overtime and expense allowances), not to exceed 108% of compensation paid to the employee during the 12 months immediately preceding the last 12 months of service. Final Average Salary excludes overtime pay and expense allowances.

Federated Plan. An employee may retire at age 55 with five or more years of service or at any age with 30 years of service. The calculation of the retirement annuity is final average salary multiplied by 2.5% per year of service (Maximum benefit, 75% of final average salary). Final Average Salary is the average monthly salary forhighest 12 consecutive months.

UA AL and its Calculation. The City's actuarially determined contributions have two components, the "normal cost" and the amortized amount of the unfunded actuarial accrued liability ("UAAL"). Normal cost represents the portion of the actuarial present value of the benefitsthat the City will be expected to fund that are attributable to current service by covered employees. The covered employees also contribute a portion of the normal cost. The amortization of the UAAL represents the current year's portion of the unfunded accrued costs (i.e., the UAAL) attributable to past years' employment that is charged to the City. The UAAL typically results from changes in actuarial assumptions, benefit improvements and other experience which differs from that anticipated by the actuarial assumptions. Currently, the Pension Plans use the "entry age normal cost method" to calculate the annual normal cost rates of contribution.

Actuarial Valuations. The actuarial valuations forboth Pension Plans are prepared on a biennial basis, and, in each actuarial valuation for each of the Pension Plans, the applicable actuary recommends contribution rates for the two fiscal years beginning after the completion of that actuarial valuation. When approved by the respective boards of administration of the Pension Plans, these become the City's and the employees' legally required contribution rates forsuch years. As such, there is a lag between the point in time at which the actuary completes the actuarial valuation andthe date that the contributionrates calculated in the valuation go into effect. For example, the recommended contributions contained in each of the actuarial reports for the Pension Plans as of June 30, 2003 would apply to contributions to be made by the City and the employees forthe years beginning July 1, 2004 and July I, 2005. Each actuary builds in adjustments to account for the lag between the point in time at which such actuary completes the applicable actuarialvaluation and thedate that the new contribution rates go into effect.

UA AL. The UAAL is an estimate based on a series of assumptions that operate on demographic data of thePension Plans' respective memberships. This process is necessary to determine, as of the date of the calculation, how sufficientthe assets in the Pension Plans are to fund, as of the date of calculation, the

A-33 accrued costs attributable to currently active, vested terminated (i.e., the deferred members) and retired employees. The funding sufficiency is typically expressed as the ratio of the valuation assets to the accrued actuarial liabilities. If the actuarially calculated funding level of a plan is less than I 000/o, it implies that the plan has a UAAL. Examples ofthe actuarial assumptions that are used in thisprocess are the assumed rate of earnings on the assets of the plan into the future, the assumed future pay increases for current employees, assumed rates of disability, the assumed retirement ages of active employees, the assumed marital status at retirement, and the post-employment life expectancies of retirees and beneficiaries. If the plan experience differs from adopted assumptions, the actual amount paid out by a plan could be more or less than the amounts contemplated by the UAAL.

Table 20 SUMMARY OF ACTUARIAL METHODS AND ASSUMPTIONS (as ofJune 30, 2003) Federated Plan Police and Fire Plan Actuarial Methods ActuarialCost Method Entry AgeNormal Cost Method EntryAge Normal Cost Method Amortization Method Level Percentage of Payroll Level Percentage of Payroll Remaining Amortization Period 17 years of the 30-year period 14 years of the40-year period Asset Valuation Method 5-year Smoothed Marl

"Smoothing" Me thodology. When measuring assets for determining the UAAL, many pension plans, including each of the Pension Plans, "smooth" gains andlosses to reduce volatility. With respectto either Pension Plan, if in the period for which an actuarial valuation is prepared the actual investment return on that Pension Plan's assets is lower or higher than the actuarial assumed rate of return(which in the case of the Federated Plan is 8.25% and in the case of the Police and Fire Plan is 8%), then 20% of the shortfall or excess is recognized in each of the two fiscal years for which contribution rates are recommended in that actuarial valuation. This results in the smoothing or spreading of that shortfall or excess over a five­ year period. The impact of this will result in "smoothed" assets which are lower or higher than the market

A-34 value of assets depending upon whether the remainingamount to be smoothed is either a net gain or a net loss. As of June 30, 2003, as a consequence of this smoothing methodology, in the case of the Federated Plan, there were approximately a net $131.8 million of losses yet to be smoothed, and, in the case of the Police and Fire Plan,there were approximately a net $198.3 million of losses yet to be smoothed.

Amortization Method andPeriod Further, various plans use differingamortization periods for paying off (or "amortizing") a UAAL. The Federated Plan uses a 30-year fixed amortization period ending June 30, 2021, which means that in each actuarial valuation the UAAL is amortized over the number of years remaining in the fixed amortization period, which as of June 30, 2003, was 17 years. The Police and Fire Plan uses a 40-year amortization period ending June 30, 2017, with 14 years remaining as of June 30, 2003. Other plans use different amortization methods, such as the rolling amortization method, in which the UAAL is re-amortized over the same number of years each successive actuarial valuation, and the layered amortization method, in which each layer of actuarial liability is amortized over a discrete fixed amortization period. The amortization period could be changed at any time by the boards of the respective Pension Plans, as could the other assumptions, which, as a consequence, may cause the City's obligations to pay the Pension Plans in a particular year to be higher or lower. The contribution to the UAAL as of the end of a given year (as reflected in an actuarial valuation report) is amortized as a level percentage of payroll. Because the payroll is expected to increase each yearat the plan's assumed payroll inflation rate, the annual dollar contribution requirements to fund the UAAL also increase at this rate.

Forward-Looking Statement. Investors are cautioned that, in considering the amount of the UAAL, the funded ratio, and the calculations of normal cost as reported by the Pension Plans and the resulting amounts of required contributions by the City, this is "forward looking" information. Such "forward looking" information reflects the judgment of the boards of the respective Pension Plans and their respective actuaries as to the amount of assets which the Pension Plans will be required to accumulate to fund future benefits over the lives of the currently active employees, vested terminated employees and existing retired employees. These judgments are based upon a variety of assumptions, one or more of which may prove to be inaccurate or be changed in the future, that may change with the future experience of the Pension Plans. The more significant actuarial methods and assumptions used in the calculations of employer contributions to the Pension Plans for FY 2004-05 and FY 2005-06 are summarized above in Table 20.

A description ofthe current funding statusof the Pension Plans is summarized below.

The Federated Plan. The most recent actuarial valuation of the Federated Plan, as of June 30, 2003, was performed by Gabriel, Roeder, Smith & Company (the "Federated Plan Actuary") and summarized by the Federated Plan Actuary in its report dated December 5, 2003 (the "Actuarial Report"). In the Actuarial Report, the Federated Plan Actuary concluded that the funded ratio of the Federated Plan as of June 30, 2003 was 97.64%, down 1.28% since theactuarial valuation as of June 30, 2001. Although, as of June 30, 2003, the market value of total net assets of the Federated Plan available for benefits increased by $111.3 million (6.04%) as compared to the market value in fiscal year 2000-01, the funded ratio of the Federated Plan decreased. This decrease in the funded ratio is attributable to investment return on the assets of the Federated Plan being lower than the actuarial assumedrate of return of 8.25% and a higher­ than-expected increase in the Federated Plan's actuarial liability. Over the last IO fiscal years, the funded ratiohas ranged from 84.01% as of June 30, 1993 to 98.86% as of June 30, 2001. For the five fiscal years ended June 30, 2004, exclusive of contributions for health and dentalbenefits, the City has contributedto the Federated Plan $34.146 million, $35.284 million, $41.011 million, $38.411 million, and $39.534 million, respectively.

As of June 30, 2003, the Federated Plan had a UAAL of $3 1 million as compared to a UAAL of $12.2 million in the Actuarial Report completed for 2001. As of June 30, 2003, the Federated Plan had an

A-35 actuarial value of assets equal to $1,280.7 million, aftertaking into account the value of the contingency reserve, and accrued actuarial liabilities of $1,311.7 million. As discussed above, as of June 30, 2003, the Federated Plan had unrealized losses of approximately $131.8 million. As a result of these unrealized losses, if the other actuarial assumptions used by the Federated Actuary to prepare the most recent actuarial valuation are realized, the recognition of these unrealized losses may cause increased contributions in future fiscal years.

As a result of the increase in the UAAL, with respect to the contributions for retirement (i.e., exclusive of contributions forhealth and dental benefits), the City'sactuari ally determined contribution rate for fiscal years 2004-05 and 2005-06 has increased by 8.25%, and the employees' actuarially determined contribution rate forfiscal years 2004-05 and 2005-06 has increased by 5.44%, as compared to the City's and employees' contribution rates for fiscalyear 2003-04 retirement contributions. For these retirement benefits, the City and the active employee members of the Federated Plan share the normal cost contributionsat a ratio of 8:3. See Table 21 below for more detail.

Federated Retiree Health and Dental Benefits. The Federated Plan provides eligible retirees with both health and dental benefits. For health benefits,the Federated Plan pays that portion of the premium that is equivalent to the premium for the lowest-priced medical plan with which the Citycontracts for medical benefits for City employees; if the retiree elects a medical plan that is not the lowest-priced plan, the eligible retiree or survivor pays the difference between the portion paid by the Federated Plan and that charged by the medical care provider. In the case of dental benefits, the Federated Plan pays the entire premium.

The Federated Plan funds thesebenefits from contributionsby the City and the active employee members. In each actuarial valuation, the Federated Plan Actuary projects the Federated Plan's cost with respect to these benefits over the following 15 years. In doing this, the Federated Plan Actuary makes assumptions with respect to the rising costs of health and dental premiums and other assumptions related to the demographic composition of the members of the Federated Plan. The City and the active employee members of the Federated Plan contribute I/15th of that projected cost in each of the two fiscalyears with respect to which contribution rates are provided in that actuarial valuation. For the health benefits, the City and the active employee members of the Federated Plan share that cost at a ratio of 50:50, and, with respect to the dental benefits,they share that cost at a ratio of 8:3. For the five yearsended June 30, 2004, the Citycontributed $1.679 million, $1.750 million, $4.127 million, $3.866 million, and $3.938 million, respectively, to the Federated Plan with respect to these health and dental benefits.

As a result of the projected increases in health and dental premiums, with respect to health and dental benefits, the contribution rates for fiscal years 2004-05 and 2005-06 have increased by 56.52% for the City and 73.08% for the employees, respectively, as compared to the City's and employees' health and dental contribution rates forfiscal year 2003-04.

The City's total modified budget contribution with respect to retirement including, health and dental benefits to the Federated Plan for fiscal year 2004-05 is $50,369,660, of which 53.4% is paid by the General Fund. Since the City's required contribution rate for fiscal year 2005-06 is the same as the contribution rate for the current fiscal year, the amount that the City will pay to the Federated Plan in fiscalyear 2005-06 will increase or decrease from theamount paid in the current fiscal yeardepending on whether thepayr oll forthe covered employees increases or decreases. In the 2005-06 Proposed Budget, thosepayments are projected at $50,226,886.

Federated SRBR Within the assets of the Federated Plan, there is a Supplemental Retiree Benefit Reserve (the "Federated SRBR"). As of June 30, 2003, $15.14 million was on deposit in the Federated SRBR. After the end of each fiscalyear, the Board of Administration of the Federated Plan determines

A-36 the amount of net earnings(i.e. earningsof the retirement fundafter accounting for any investment losses recognized during the year and any administrative costs, and after crediting interest and income to the various accounts and reserves). Net earningsare then credited to the contingency reserve. To the extent that the amount in the contingency reserve exceeds 3% of the total amount of the retirement fund (excluding the contingency reserve), the Board declares "excess earnings." 90% of excess earnings are re-invested into valuation assets, and I 0% of excess earnings are transferred to the Federated SRBR. At the end of each calendar year, to the extent that the amount on deposit in the Federated SRBR satisfies certain thresholds, the Federated Plan pays each retiree a lump-sum payment as a supplemental benefit. As a result of the poor market performance of theinvestment of the Federated Plan'svaluation assets, no amounts have been transferred to the Federated SRBR since June 30, 1999, but if investment returns sufficiently improve, transfers of excess earnings as described above will be made to the Federated SRBR.

Table 21 CITY OF SAN JOSE FEDERATED CITY EMPLOYEES' RETIREMENT PLAN CHANGES IN CONTRIBUTION RATES (as percentage of payroll) As of June 30 2003 June 30, 2001 June 30, 2003 Employer Cost' Retirement' 13.82% 14.96% Health and Dental' 1.38 2.16 15.20% 17.12% Member Cost' Retirement' 4.04% 4.26% Health and Dental' 1.04 1.80 5.08% 6.06%

Total Cost 20.28% 23.18% 1Represents a percentage of payroll. The total payroll foremployees coveredby the Federated Plan as ofJune 30, 2003 was $292,%1,371. 2Required annual contributions under the Federated Plan are allocated between the Cityand the Members ofthe Federated Plan as follows: (a) the Current Service Rate (thecost of funding liabilities forservice afterJuly I, 1975), as required by the City Charter. is shared 8/3 between the Cityand the Members; (b) the Current Service Deficiency Rate (the amortization of the funding deficiency for service after July I, 1975 not covered bythe Current Service Rate) is borneentirely by the City; (c) the Prior Service Rate (the difference in costs between the benefit structure in place prior to July 1, 1975 and the benefit structure implemented as of July I, 1975 for service performed before July I, 1975, including any cost for gains or losses associated with liabilities for service beforeJuly I, 1975) is shared 58/42 betweenthe City and the Members; (d) the Early Retirement Incentive ProgramRa tes (the cost for funding additional benefitsgranted to certain retiring employees) is borne entirely by the Ci1y; and (e) the Reciprocity Rate (the cost ofprefunding the liabilityassociated with the adoption of reciprocal benefits with other public pension plans) is borne entirelyby the Cily. 'Requiredannual contributionsfor healthand dental insurance representthe cost for funding, as a level percent of payroll, based upon a 15-year projection of premiums. For health insurance, the cost is shared 50/50 by the City and the Members, and for dental insurance, the cost is shared 8/3 by the City and the Members. Source: Report of the Actuarial Valuation of the San Jose FederatedCity Emp layee 's Retirement System as of June 30. 2003, dated December 5, 2003.

Police and Fire Department Retirement Plan. The most recent actuarial valuation of the Police and Fire Plan, as of June 30, 2003, was performed by Mercer Human Resource Consulting, Inc. (the "Police and Fire Actuary") and presented in an Actuarial Valuation Report as of June 30, 2003 (the "Police and Fire Report"), dated November 25, 2003. In the Police and Fire Report, the Police and Fire Actuary concluded that the ratio of the actuarial value of assets to actuarial accrued liabilities decreased from 114.8% as of June 30, 2001 to 100.2% as of June 30, 2003. Over the last ten years, the funded ratio has

A-37 ranged from 99.8% as of June 30, 1993 to 114.8% as of June 30, 2001, taking into account benefit improvements adopted in 1998 and 2000 and the December 2001 implementation of the Police and Fire SRBR (as defined and explained below). For the five fiscal years ended June 30, 2004, exclusive of contributions forhealth and dental benefits, the Ci1y has contributed to the Police and Fire Plan $27.321 million, $22.157 million, $23.748 million, $23.511 million, and $24.412 million, respectively.

As of June 30, 2003, the Police and Fire Plan had a Prefunded Accrued Actuarial Liabili1y (the "Prefunded AAL") of approximately $3 million as compared to a Prefunded AAL of $221 million in the Actuarial Report completed as of June 30, 2001. As of June 30, 2003, the Police and Fire Plan had an actuarial value of assets equal to $1,859.2 million, after taking into account the value of the Health Insurance Reserve and not including the SRBR, and accrued actuarial liabilities of $1,856.2 million. As discussed above, as of June 30, 2003, the Police and Fire Plan had unrealized losses of approximately $198.3 million. As a result of these unrealized losses, if the other actuarial assumptions used by the Police and Fire Actuary to prepare the most recent actuarial valuation are realized, the recognition of these unrealized losses may cause increased contributions in fu ture fiscalyears.

Although as of June 30, 2003 the Police and Fire Plan has a Prefunded Accrued Actuarial Liabili1y of approximately $3 million, rather than a UAAL, the funded ratio of the Police and Fire Plan substantially declined from the funded ratio as of June 30, 200 I, primarily as a result of (i) investment returns on the Police and Fire Plan's actuarial valuation assets since June 30, 2001, of 4.21 % were less than the assumed investment return of8%; (ii) the Police and Fire Plan's payroll increased at a higher rate of9.9% thanthe assumed rate of increase of 4.5%; and (iii) post-retirement lifeexpec tanciesfor retirees improved.

As a result of the decrease in the fundedratio of the Police and Fire Plan, with respect to the contributions for retirement (i.e., exclusive of contributions for health and dental benefits), compared to the Ci1y's contribution rates for fiscal year 2003-04 retirement contributions, the Ci1y's actuarially determined contribution rate for fiscal year 2004-05 has increased by 77 .52% and for 2005-06 will increase by an additional 2.11%. Conversely, the employee's actuarially determined contribution rate for fiscal years 2004-05 and 2005-06 has decreased by 2.01 %. See Table 22 below.

The Ci1y's total modified budget contribution with respect to retirement including, health and dental benefits to the Police and Fire Plan for fiscal year 2004-05 is $50,128,000, all of which is paid by the General Fund, with a small reimbursement from the Airport. Since the Ci1y's required contribution rate for fiscalyear 2005-06 is very similarto the contribution rate for the current fiscal year, the amount that the Ci1y will pay to the Police and Fire Plan in fiscal year 2005-06 will increase or decrease from the amount paid in the current fiscal year primarily depending on whether the payroll for the covered employees increases or decreases. In the 2005-06 Proposed Budget, those payments are projected at $49,414,899.

A-38 Table 22 CITY OF SAN JOSE POLICE AND FIRE DEPARTMENT RETIREMENT PLAN CHANGES IN CONTRIBUTION RA TES (as percentage of payroll) As of June 30 2003 June 30, 2001 June 30, 20031 Employer Cost' Retirement' Normal Cost Rate 22.35% 21.91% Rate ofContribution to UAAL -10.34 -.14 Total Retirement'-4 12.01% 21.77% Healthand Dental' 2.21 3.27 Total City6 14.22% 25.04% Member Cost2 Retirement' 8.44% 8.27% Health and Dental' 1.81 2.89 Total Member 10.25% 11.16% Total Cost6 24.47% 36.20% After taking into account the changes in actuarial assumptions described above butbefore considering the charge to the Supplemental Reserve (which results in a decrease in the amount of the City's contributions for fiscal year 2004-05). 2Represents a percentage of payroll. Total covered payroll was $202,222,000 as of June 30, 2003. 'Required annual contributions consist of the Nonna! Cost (the annual cost that if paid annually from a Member's first year of membership throughthe year of retirement. would accumulate to the amount necessary to fully fund the Member's retirement benefits). The Normal Cos� which is shared 8/3 between the City and the Members, includes annual crediting of interest at the assumed investment earningsrate of 8%, across-the-board salary increases of 1.5% in addition to merit and longevity increases) and inflationat the rate of 3% per annum, down from 4.5% used in the June 30, 2001 valuation. 4Does not include the impact of taking into account a charge to the Supplemental Reserve, which results in a decrease in the City's contributionrates of 0.45% of payroll forfiscal year 2004-05. 5Requiredannua1 contributionfor health and dental insurance (including the cost of Medicare Part B). Contributionsrepresent the cost for funding based upon a projection of expected premium increases over the next 10 years. The cost for health insurance is shared equallyby the City andthe Members; the cost of dental insurance is shared 75/25 between the City and the Members. 'The changes in actuarial assumptions recommended by the Police and Fire Actuary in the PFDR Report resulted in an increase in the amount of the City'scontributions for retirement benefits and medical plan benefits of 0.21% of payroll and 0.94% of payroll, respectively. For Members, the impact of the changes in actuarial assumptions is a reduction of the contribution rate for retirement benefits (-0.17% of payroll) and an increase (0.94% of payroll) in the amount of contribution for medical plan costs. Source: Actuarial Valuation Report as ofJune 30, 2003, datedNov ember 25, 2003.

Police and Fire Retiree Health and Dental Benefits. The Police and Fire Plan provides its eligible retired members with both health and dental benefits. For health benefits, the Police and Fire Plan pays that portion of the premium that is equivalent to the premium for the lowest-priced medical plan with which the City contracts for medical benefits forCity employees; if the retiree elects a medical plan that is not the lowest-priced plan, the eligible retiree or survivor pays thedifference between the portion paid by the Police and Fire Plan and that charged by the medical care provider. In the case of dental benefits, the Police and Fire Plan pays the entire premium.

The Police and Fire Plan funds these benefits from contributions by the Ci1y and the active employee members. In each actuarial valuation, the Police and Fire Actuarypro jects the Police and Fire Plan's cost with respect to these benefits over the following IO years. In doing this, the Police and Fire Actuary makes assumptions with respect to the rising costs of health and dental benefits and other assumptions related to the demographic composition of the retired members. The City and the active employee

A-39 members of the Police and Fire Plan contribute 1/10th of that projected cost. With respect to the health benefits, the City andthe active employee members of the Police and Fire Plan share that cost at a ratio of 50:50, and, with respect to the dental benefits, they share the costs at a ratio of 75:25. For the five years ended June 30, 2004, theCity contributed $2.866 million, $2.515 million, $4.367 million, $4.251 million, and $4.492 million, respectively, to the Police and Fire Plan with respect to these health and dental benefits.

As a result of the projected increases in healthand dental premiums, thecontribution rates forhealth and dental benefits for fiscal years 2004-05 and 2005-06 have increased by 47.96% for the City and 59.67% forthe employees, respectively, as compared to the City's and employees' health and dental contribution rates for fiscalyear 2003-04.

Police and Fire SRBR Within the assets of the Police and Fire Plan, there is a Supplemental Retiree Benefit Reserve (the "Police and Fire SRBR"). As of June 30, 2003, $19.1 million was on deposit in the Police and Fire SRBR. Tue Police and Fire SRBR was originally funded through a one-time transfer from the valuation assets of the Police and Fire Plan calculated as of the end of the fiscal year ending June 30, 1999, in the amount of$19,I 10,300. Afterthat transfer, the Police and Fire SRBR is funded from the excess earnings of the Police and Fire Plan, as follows. After the end of each fiscal year, the Board of Administration for the Police and Fire Plan determines the amount of net earnings (i.e. earnings of the retirement fund after accounting for any investment losses recognized during the year and any administrative costs, and after crediting interest and income to the various accounts and reserves). To the extent that the net earnings exceed the actuarial assumed earnings rate, the Board declares "excess earnings." 90% of excess earnings are re-invested into valuation assets, and 10% of those assets are transferred to the Police and Fire SRBR. At the end of each calendar year, from the interest and excess earningscredited to the Police and Fire SRBR, the Police and Fire Plan pays out to each retiree and each person receiving survivor benefits a lump-sum payment as a supplemental benefit. As a result of the poor market performance of the investment of the Police and Fire Plan's valuation assets, no amounts have been transferred to the Police and Fire SRBR from excess earnings since its inception; but if investment returns sufficiently improve, transfers of excess earnings as described above will be made to the Police and Fire SRBR.

In years where the City's contribution rate will increase as a result of poor investmentreturn on the Police and Fire Plan's assets, as is the case for fiscal year 2004-05, the Police and Fire SRBR accrued principal amount is charged with I 0% of the City's increased contribution rate, not exceeding 5% of the accrued principal balance of the Police and Fire SRBR. Tue City's contribution rate for fiscal year 2004-05 has consequently been reduced by 0.45% as a result of a charge of$955,515 to the Police and Fire SRBR (5% of the principal balance of approximately $19.1 million as of June 30, 2003). No such reduction of the City'scontribution will apply in fiscal year 2005-06.

Accounting Considerations. Currently, governmental agencies, such as the City, are not required to account forpost-employment healthcare benefits in the same manner as they account for pension benefits. Tue Cityis currently analyzing its accounting practices to determine thepotential impact on the financial statements for the following two GASB Statements.

In April 2004, the Governmental Accounting Standards Board ("GASB") issued Statement No. 43, Financial Reporting for Postemployment Benefit Plans Other Tuan Pension Plans. Statement No. 43 establishes uniform financial reporting standards for postemployment healthcare and other nonpension benefits (OPEB) plans. The approach followed in Statement No. 43 generally is consistent with the approach adopted for defined benefit pension plans with modifications to reflect differences between pension plans and OPEB plans. Statement No. 43 is effective for the City's fiscal year ending June 30, 2007.

A-40 Additionally, in June 2004, GASB issued Statement No. 45, Accounting and Financial Reporting by Employers for Postemployment Benefits Other Than Pensions, which addresses how state and local governments should account for and report their costs and obligations related to OPEB. Statement No. 45 generally requires that employers account forand report the annual cost of OPEB and the outstanding obligations and commitments related to OPEB in essentially the same manner as they currently do for pensions. Annual OPEB cost for most employers will be based on actuarially determined amounts that, if paid on an ongoing basis, generally would provide sufficient resources to pay benefits as they come due. This contrasts with the City's current practice of funding its health and dental liabilityover a ten or fifteen yearperiod. StatementNo. 45's provisions may be applied prospectively and do not require governments to fund their OPEB plans. An employer may establish its OPEB liability at zero as of the beginning of the initial year of implementation; however, the unfunded actuarial liability is required to be amortized over future periods. Statement No. 45 also establishes disclosure requirements for information about the plans in which an employer participates, the funding policy followed, the actuarial valuation process and assumptions, and, for certain employers, the extent to which the plan has been funded over time. Statement No. 45 is effective for the City's fiscalyear ending June 30, 2008.

For the City, the affe cted benefits include the postemployment healthcare and dental benefits (the Postemployment Healthcare Plan) paid by each of the pension plans. Contributions to the Postemployment Healthcare Plan for both the City and the participating employees are currently based upon an actuarially determined percentage of employees base salary sufficientto provide adequate assets to pay benefits when due, over the next IO years for the Police and Fire Plan, and over the next 15 years for the Federated Plan. The significant assumptions used to compute the actuarially determined contribution requirements are the same as those used to compute the actuarial accrued liability for the definedbenefit pension plans.

Proposed Pension Measures. In December, 2004 and in January, 2005, resolutions were introduced in the State Legislature which, if passed by a two-thirds vote by both houses, would submit to the voters amendments to the State Constitution relating to public pension plans including the City's plans. The Constitutional amendments would require new employees hired by local agencies, including the City, on or after July 7, 2007, to be enrolled in defined contribution pension plans and would prohibit the enrollment of these new employees in defined benefitplans. In addition to these measures, the Howard Jarvis Taxpayers Association ("HJTA") is in the process of qualifying an initiative measure which, if placed on a future State ballot and approved by theelect orate, would amend the Constitution as outlined above. The Governor in his budget message released on January I 0, 2005 also proposed that a similar Constitutional amendment be put on the ballot for voter approval. On April 7, 2005, the Governor announced that he no longer supported the placement of the pension plan measure on the ballot for a November 2005 special election that the Governorhas since ordered to be held.

The legislative proposals and the HJTA proposal would each permit active employees enrolled in a local agency's defined benefitplan to transfer the net present value of theirinterests in the defined benefitplan to a defined contribution plan. However, there is no provision in any of these measures thatdefines net present value or provides a mechanism for such transfers.

None of theproposed measures would eliminate the City'sFederated Plan orthe Police and Fire Plan for the City'sexisting employees. Instead, existing City employees enrolled in either plan would continue to remain eligible to receive their pensions and other benefits under these plans. However, new employees would be enrolled in a defined contribution plan in which the City's contribution would be limited to a specifiedpercentage of the employee's salary. Because these new employees would not be enrolled in the Federated Plan or the Police and Fire Plan, they would make no contribution to either plan.

A-41 As these measures are recent developments and may change, the City has not analyzed the financial impact of these measures on the City'sGeneral Fund.

Labor Relations

Overview

As of May 2005, the City had approximately 6, 760 full-time equivalent authorized positions, including 283 full-time equivalent unrepresented management and professional positions. The City has 10 recognizedcollective bargaining units. The representation andagreement dates are shown below in Table 23.

Table 23 CITY OF SAN JOSE SUMMARY OF LABOR AGREEMENTS Agreement Full-Time Expiration Equivalent Date Employment San Jose Police Officers' Association (POA)<'J ...... 02/29/04 1,377 International Association of Firefighters (IAFF) <'l ...... 02129/04 711 Association of Engineers and Architects (AEA) ...... 06130107 214 Municipal Employees Federation (MEF) ...... 06/30/05 2,452 City Association of Management Personnel (CAMP) ...... 06/30/05 349 Association of Maintenance Supervisory Personnel (AMSP) ...... 06/30/05 90 Confidential Employees' Organization ...... 09/24/05 221 Association of Building, Mechanical and Electrical Inspectors...... 10/22/07 97 InternationalBrotherhood of Electrical Workers ...... 03/08/08 84 Operating Engineers, Local #3 (OE#3) ...... 04/14/06 834 (()POA and IAFF have a separate Memorandum ofAgreement with the City with respect to retirement benefits which expired on June 30, 2004. Source: Ciz ofSan Jose, Office ofEmployee Relations.

Agreements with the two of the largest bargaining units, the San Jose Police Officers' Association (POA) and the International Association of Firefighters (IAFF), expired in 2004 and the parties are proceeding towards arbitration as described below. Under California law, sworn police and fire employees are not permitted to strike. The City Charter provides that police and fire bargaining units have the right to binding interest arbitration of labor disputes once eitherthe Cityor the applicable bargaining unit declares that the negotiationsare at impasse. The other bargaining units have "no strike" clauses during the terms of their respective agreements.

CurrentAgreements

The Cityhas current agreements with eight of the ten bargaining units. Four of these agreements are one­ year agreements, three of which expire on June 30, 2005 and one of which expires on September 30, 2005. The remaining four agreements are multi-year agreements. The two-year agreement with Operating Engineers, Local 3 ("OE#3") provides forno salary increases in the first year and an increase of 1.5% effective April 10, 2005. The three-year agreement with the Association of Engineers and

A-42 Architects ("AEA") provides for no salary increases in the first year and increases of 1.5% in year two and 3.75% in year three of the agreement. The three-year agreement with the Association of Building, Mechanical and Electrical Inspectors ("ABMEI") provides for no salary increases in the first year and increases of 1.5% in year two and 3.75% in year three of the agreement. Thethree-year agreement with the International Brotherhood of Electrical Workers ("IBEW") provides for nosalary increases in the first year and increases of 1.5% in year two and 3.75% in year three of the agreement. The remaining four bargaining units have one-year agreements in which they agreed to no salary increase during fiscal year 2004-05.

All of the agreements discussed above, with the exception of the agreements with AEA and ABMEI, include side letters that provide for members of the bargaining unit to receive equivalent wages or benefits that the City negotiates with another bargaining unit or that the City Council directs should be given to another bargaining unit during the term of theCity's agreement with the other bargaining unit. Theadditional benefits are not provided to members of the bargaining units to the extent they aregranted by an arbitration panel as an arbitration award. However, the side letter provides that eitherthe City or the bargaining unit may reopen the agreement for further negotiation if (I) during the term any other bargaining unit receives wages or benefits as a result of arbitration that exceed those specified in the agreement and that are effective during the term of agreement, or (2) changed circumstances due to the uncertainty of the State's budget impact or the local economy recovery on the City'sbudget at the time the agreements were approved.

Ne gotiations with Public Safety Bargaining Un its Since February 2004, the City has been in negotiations with the public safety bargaining units: the POA and the IAFF. The POA and the IAFF each had an agreementwith the Cityregard ing wages and working conditions, excluding retirement benefits. Both of these agreements expired on February 29, 2004. The agreementamong the City, the POA and the IAFF related to retirement benefits forthe members of these bargaining units expired on June 30, 2004. The primary issues under negotiation with the POA and the IAFF have involved wage increases, enhanced retirement benefitsand other benefits.

The most significant item at issue between the City and the PONIAFF bargaining units is increased retirement benefits. Once increases in retirement benefitsare granted to employees, the increased benefit is deemed vested, therebypermanently increasing the payroll cost to the City, absent anagreement by the affected employees. One ofthe POAJIAFF proposals is that their members' service retirement benefits be calculated using an enhanced formula of 3% of final average salary per year of service up to a maximum compensation of 90% of final average salary. For a description of the current formula for calculating serviceretirements formembers of the Police and Fire Plan, see "Pension Plans - General."

There are a number of cost estimates with respect to the POA/IAFF proposals regarding the service retirement formula. One estimate which was prepared by the Police and Fire Retirement Board's actuary estimated the increased annual cost at approximately $20 million based on theannual payroll in the fiscal year ending June 30, 2003 for members of the Police and Fire Department plan. TheCity cannot predict whether any of these cost estimates, including the estimate prepared by the Police and Fire Board's actuary, accurately projects the cost. The cost of the enhanced service retirement formula could significantly exceed an annual cost of$20 million. See "Pension Plans - Forward Looking Statement."

In addition to increased retirement benefits, theCity and the POA/IAFF bargaining units are negotiating across-the-board salary increases. As discussed above in "City'sFY 2005-06 Proposed Budget", the City estimates that each I% salary increase for swornpersonnel in the Police and Fire Departmentswould cost

A-43 approximately $2. 7 million annually. In addition, as the payroll for the members of thePolice and Fire Plan increase, the City'sretirement costs also increase. See"Pension Plans."

Mediation and Arbitration with Public Safety Bargaining Units At any point during the negotiation processwith the POA and the IAFF either the City or the bargaining unit may declare impasse. On October 15, 2004, impasse was declared. Pursuant to the terms of the City'sagreements with thePOA and IAFF, once impasse is reached, the parties engage in mediation for a period of ninetydays. Althoughthe mediationperiod expired on January 15, 2005, it was extended upon mutual agreement by the parties. Mediation sessions took place during February and March 2005; however, the mediation efforts were not successful and the City, the POA and IAFF are proceeding towards arbitration. The parties are discussing whether there will be a single arbitration proceeding with each bargaining unit regarding all outstanding issues including retirement benefits or separate arbitrations with each bargaining unit regarding wages and working conditions excluding retirement benefits and a tripartite arbitration regarding retirement benefits. As of June 15, 2005, there is no resolution of this matter.

The City'sCharter specifiesthe procedures for binding arbitration of labor disputes between the City and its public safety bargaining units as follows. Under the City's Charter, the City and the bargaining unit or the joint bargaining unit, as the case may be, each select one arbitrator who in turn selects a third neutral arbitrator. The neutral arbitrator serves as the Chair of the three person arbitration board ("Arbitration Board").

The Arbitration Board atthe conclusion of the proceedings directs each of the parties to submit a last settlement offer on each of the disputed issues. The Arbitration Board is required to decide separately each issue by majority vote by selecting the last offer of settlement on that issue it finds most nearly conforms with those factors traditionally taken into consideration in the determination of wages, hours and other terms of public and private employment. Thesefa ctors include, but are not limited to: changes in the average consumer price index for goods and services, the wages, hours, and other terms and conditions of employment of other employees performing similar services, and the financial condition of the City and its ability to meet the cost of the award. Because each issue is voted on separately by the Arbitration Board, it is possible that even if the City were to prevail on most of the issues presented, it would still face significant increased costs.

Once theArbitration Board renders its decision, the Charter provides that the decision is not binding for a ten day period. During this period, the parties may by mutual agreement amend the Arbitration Board's decision. The parties may also agree to extend the ten day period. Once the ten day period or the extended period expires, without amendment by the parties, the Arbitration Board's decision becomes final and binding on the parties. The City cannot predict the outcome or the cost of the proposed arbitrationson any of the issues in dispute. The City also cannot predict when the arbitration proceedings will commence or the duration of these proceedings. It is possible that anArbitration Board's decision on one or more of the disputed issues will be retroactive to June 30, 2004 with respect to retirement benefits, and February 29, 2004, with respect to wages and other benefits.

CurrentNe gotiations with Other Bargaining Un its The City iscurrently in negotiations with the Municipal Federation of Employees ("MEF") and will be startingnegotia tions with the Association of Maintenance Supervisory Personnel ("AMSP") and the City Association of Management Personnel ("CAMP") as these three agreements expire in June 2005. The

A-44 City plans to enter into negotiations with the Confidential Employees' Organization ("CEO") during Summer, 2005 as the agreement with CEO expires in September, 2005. The City cannot predict the outcome of any of these negotiations including their cost impact.

Cost Implications The City'sBudget Office has estimated that the annual cost for each increase of 1 % in the compensation paid to all employees is approximately $6.5 million. The General Fund's estimated share of this cost would be approximately $4.7 million per 1% increase. As discussed above in "City's FY 2005-06 Proposed Budget," the City Manager, as part of the FY 2005-06 Proposed Budget, has recommended that the City Council adopt a "Compensation Impact Contingency Plan" to address the potential impact of salary and benefit negotiations with the City'semployee bargaining units. This plan, as revised by the City Council on June 14, 2005, is estimated to result in budget reductions of approximately $31.5 million, assuming an implementation date of September I, 2005. Even if these reductions were to result, it is possible that the City'scost of implementing the arbitrations awards and its negotiated agreements with the other employee bargaining could exceed the projected budget reductions of approximately $31.5 million.

Investment Policy and Practices of the City

The City and its related entities are requiredto invest all funds under the Director of Finance's control in accordance with principles of sound treasury management and in accordance with the provisions of the CaliforniaGovernment Code, the Charter of the Cityof San Jose, the City Municipal Code and the City Investment Policy (the "Policy"). The Policy was originally adopted by the City Council in its present formaton April 2, 1985 (Resolution No. 58200) and is reviewed annually by the City Council. The City Council most recently amended the Policy on December 14, 2004. The Policy has been certified by the Association of Public Treasurers of the United States and Canada.

The primary objectives of the Policy, in their order of priority, are to (I) provide for the safe preservation of principal, (2) ensure that there is sufficient liquidity foroperating needs, and (3) attain the maximum yield possible as long as investment practices are consistent with the firsttwo stated objectives.

Current Investment Portfolio

As of April 30, 2005, the book value of the City's pooled investmentfund was $1,038,612,054, while the market value was $1,028,415,811. The fund is classifiedby different typesof investmentsecurities. The composition of the fund, including the weighted average days to maturity and yield, is provided in Table 24 shown below. General Fund moneys invested in the fund represented approximately 14.99% of the fund.

A-45 Table 24 CITY OF SAN JOSE POOLED INVESTMENT FUND GENERAL POOL INVESTMENTS As of April 30, 2005(tl Weighted Percent Average Weighted of Days to Average Book Value Portfolio Market Value Maturity Yield U.S. Treasury Bills and Notes ... $ 79,871,957 7.7% $ 79,220,793 482 2.793% Federal Agency Securities...... 803,474,917 77.4 793,638,344 610 3.143 Medium Term Notes (corp.) ...... 0 0.0 0 0 0.000 Bankers Acceptance ...... 14,389,397 1.4 14,455,863 71 2.870 Commercial Paper...... 49,476,783 4.8 49,701,812 16 2.790 Repurchase Agreements...... 48,000,000 4.6 48,000,000 6 3.772 Money Market Mutual Fund...... 0 0.0 0 0 0.000 State of CaliforniaLAff< 2l ...... 43,399,000 4.2 43,399,000 1 2.720 $1:038,612,054 100.0% $1,028,415,811 511 3.107%

(!) Totals may not round due to independent rounding. ('l Estimatedbased upon City'sparticipation in the Local Agency Investment Fund(LAIF). Weighted average yield for LAIF is based upon the most recently reported quarterly earningsrate. Source: Cityof San Jose Finance Department.

Debt Management Policy

The City Council adopted a Debt Management Policy forthe Cityon May 21, 2002 (Resolution #70977). The policy allocates responsibility fordebt management activities to the Finance Department, describes the purposes for which debt may be issued, and establishes overall parameters for issuing and administering theCity's debt. The Debt Management Policy is reviewed annually by the City Council.

Bonded and Other Indebtedness

The Citymay issue general obligation bonds for the acquisition and improvement of real property subject to the approval of the voters voting on the bond proposition. A tax on all taxable real property to pay principal and interest on general obligation bonds is levied by the City and collected by the Countyon the secured and unsecured property tax bills of real property within the City. (See "Major General Fund Revenue Sources - Property Taxes and Assessed Valuations" herein). As of June 30, 2005, the City anticipates having $337,240,000 in general obligation bonds outstanding. Table 25 on the followingpage summarizes the various voter authorizations forgeneral obligation bonds.

A-46 Table 25 CITY OF SAN JOSE GENERAL OBLIGATION BONDS Anticipated as of Jone 30, 2005 Amount Date of Amonnt Amount Issued Authorized but Election Projects Authorized to Date Un issued 11/07/2000 San Jose Neighbomood Libraries Bonds $2 11,790,000 $ 140,600,000 $71,190,000 I 1/07/2000 San Jose Neighborhood Parks and Recreation Bonds 228,030,000 132,715,000 95,315,000 03/05/2002 San Jose 911, Fire,Police and ParamedicNeighbomood Security Act 159,000,000 78,775,000 80,225,000 Total $598,820,000 $352,090,000 $246, 730,000

Source: CiQ::.of San Josi Finance Dee,artment.

The Citymay enter into long-tenn lease obligations without first obtainingvoter approval. The Cityhas entered into various lease arrangements under which the City must make annual payments to occupy public buildings or use equipment necessary for City operations. Securities have been issued which certificate these lease arrangements.

As of June 30, 2005, the City anticipates it will have $875,790,587 in non-voter approved bonded or certificated lease obligations outstanding. Table 26 summarizes the projected bonded and certificated General Fund lease obligations payable out of the revenues and general funds of the City as of June 30, 2005. The City has never failed to pay principal of or interest on any debt or lease obligation when due.

A-47 Table 26 CITY OF SAN JOSE BONDED AND CERTIFICATED GENERAL FUND LEASE OBLIGATIONS Projected as of June 30, 2005 Amount Amount Final Issuer/Issue Issued Project Issued Outstanding Maturity

CTt.l' of San Jose Financing Authority�--· Community 2 _Lease Revenue Bonds, Series 1993B.< J ______03/01/93 ___Facilities 18,044,854 11,0 10,587 _ 11/15/1_8__ Lease Revenue Bonds, Series 1997A______07/01/97 .. Golf Course Project______6,875,000 6,260,000 _ 08/15/27 -- Child Care Facilities, Fire Apparatus, Library Land Lease Revenue Bonds, Series 1997B ------07/01/97 __ Refinancing ______9� ,8_05�,_000__ 4�,3_3-0, �00-0_0_8/_0_ll_l2_ Tuers-Capitol Golf Course/Camden Park _!.:��e Revenue Bonds, Seri���QQQ!!__ ·--·-·------...... 08/08/00 Refunding Project _____ 22,635,000 ___ 22, 100,000 _ 08/ 15/30 _ Ice Centre of San Jose Refunding and .!�able Lease Revenue Bonds, S."_r]e� ?O_()_Qc::__ ____ ()?/l�/O_I_ Improvement Project ?'.!,.Q00,000 24,000,000 7/ 1/24 Hayes Mansion 3 .Taxable Lease Revenue Bonds,_Series 200IC < > ..... 02/.14/0 1 _Imj>rovementPr�t _ 18,500,000 _ 18,500,000 07/01/24 Hayes Mansion 3 Lease Revenue Bonds, Series 200 ID < l ______02/1.4/0 1 .. ImprovementProject 10,800,000 ___1 0,800,000_07/0l/26 Communication Center Refunding 0 00 93 00 0 0 Lease Revenue Bonds, Series 2 orn______03/0I/Ol .. .� Pr==oj�e=-ct'-c---ccc ---=-18"'·6"-1'-'0L, =0- 11, �,9 5/01/1 Convention Center- Lease Revenue Bonds, Series 200 IF___ ·------· 07/ 0 l /0 l _ Refunding Project _____ 186, 150,000 176,850,000 09/0 1/22 Lease Revenue Bonds, Series 2002B -- 11/14/02 Civic Center 292,425,000 292,425,000 06/01/37 - - . Lease Revenue Bonds, Series 2002c·ro -11/14/02 - Civic Center 60,000,000 60,000,000 06/01/39 _Lease Revenue Bonds, Series 20�2Q�".1:::______-·iii14i02 Civic Center 60:000:000 60,0Q0,000- 06/01/39 09/18/03 Central Service Yard 00 0 0 Lease Revenue Bonds, Series 2003A ______..Re fundiJ!lL.. 22,625, �__ 2_ 1_, 8_8 i()()Q__ 1 /15/23 9 000 0 000 _Lease Revenue Commercial PaperNotes ______O_l/11/9_� _C,"iv"'i"'c-'C"'en:,:lecer,___ _,c:,810, =,c:O OO=-...... c452,,c00=, '-'"'-- N=/A.:,___ Taxable Lease Revenue Bonds, Series 2004A (l) ...... 06/03/04.... Ice Centre Expansion 9,225,000 9,225,000 12/1/24 _Taxable Lease Revenue Bonds, Series 2005A ITT 02/17/05_ _ Land Acquisition 54,4?.Q,OOO 54,480,000 03/0 1/29 00 0 000 0 .Lease Revenue Bonds, Series 2 5B (AMT) (l) 02/17/05 Land Acquisition 25,545,0 0 2:,:5,c,5:..:4cc5,"'"''--.::c3:::.i:,.Oc:.li=.34'-- $974,894,854 $875,790,587

Authorized amount. <2l Includes Capital Appreciation Bonds at an accreted value as of June 30, 2005. <3> Variable rate or auction rate bonds. <4> Variable rate bonds in initia1 fixed rate mode until June 1, 2006. Source: City ofSan Josi Finance Department.

In addition, the City and itsdepartments have issued bonds or entered intoinstallment purchase contracts secured by and payable out of loans and installment sale contracts, in order to provide conduit financing for single and multi-familyhousing, industrial development, and 50l(c)(3) non-profitcorporat ions. Such bonds and certificates of participation are not secured by any City general fundsor revenues.

A-48 Overlapping Bonded Debt

Contained within the City are overlapping local agencies providingpublic services. These localagencies have outstanding bonds issued in the form of general obligation, lease revenue, and special assessment bonds. A statement of the overlapping debt of the City, prepared by CaliforniaMunicipal Statistics, Inc., as of May 31, 2005, is shown on the followingpage in Table 27. TheCity makes no representations as to its completeness or accuracy.

A-49 Table27 CITY OF SAN JOSE STATEMENT OF OVERLAPPING DEBT DIRECT AND OVERLAPPING TAX AND ASSESSMENT DEBT: 0.4 Applicable Debt S/31/05 Santa Clara County FloodControl and Water ConservationDistrict, Zone W-1 46.991 % $ 2,497.572 FoothillCommunity CollegeDistrict 4.600 8.524,955 Gavilan Joint CommunityCollege District 7.933 2,379,900 San Jose CommunityCollege District 86.232 148,704,650 Milpitas UnifiedSchool District 0.0003 178 Morgan Hill Unified School District 21.007 14,925,002 San Jose Unified School District 97.745 295, I 06,388 Santa Clara Unified School District 4.225 5,069,578 Campbell Union High School District 59.488 55,880,053 East SideUnion High School District 94.569 263,105,094 Fremont Union High School District 9.807 14,063,238 Los Gatos Joint UnionHigh School District 0.717 530,508 AJum Rock Union School District 74.007 33.529,277 Berryessa Union School District 93.919 45,872,886 Burbank School District 17.658 294,006 CambrianSchool District 67.235 13,934,416 Campbell Union School District 44.760 38,562,220 Cupertino Union School District 16.364 20,655,468 Evergreen School District 99.472 82,710,671 Evergreen School DistrictCommunity Facilities District No. 92-1 100.000 5,805,000 Franklin-McKinley School District 98.074 56,890,108 Los Gatos Union School District 1.633 939,792 Moreland School District 75.466 55,217,915 Mount PleasantSchool District 86.%7 9,453,313 Oak Grove School District 99.786 71,993,163 Orchard School District 100.000 30,343,457 Union School District 72.263 53,526,ll9 City of San Jose 100.000 290,940,000 City of San Jose Community Facilities Districts 100.000 40,440,000 City of San Jose SpecialAssessment Bonds 100.000 39,102,504 Santa Clara Valley Water DistrictBenefit Assessment District 39.290 74 910 314 TOTAL DIRECT AND OVERLAPPING TAX AND ASSESSMENTDEBT $1,775,907,745 DIRECT AND OVERLAPPING GENERAL FUND OBLIGATION DEBT: o/o Applicable Debt 5/31/05 Santa Clara County General Fund Obligations 39.290"/ o $ 316,374,867 Santa Clara County Board of Education Certificatesof Participation 39.290 7,186,141 Community College DistrictCertificates of Participation Various 7,314,922 SanJose Unified School DistrictCertificates of Participation 97.745 103,061,713 Santa Clara Unified School DistrictCertificates of Participation 4.225 320,044 Los Gatos-SaratogaJoint UnionHigh School DistrictCertificates of Participation 0.719 31,154 Alum Rock Union School DistrictCertificates of Participation 74.007 l,065,701 CupertinoUnion School District Certificates of Participation 16.340 l,057,114 Franklin·McKinJey School DistrictCertificates of Participation 98.074 12,749,620 City of San Jose General Fund Obligations 100.000 828,409,816 MidpeninsulaRegional OpenSpace Park DistrictGenera] Fund Obligations 0.018 20,583 TOTAL GROSS DIRECT AND OVERLAPPING GENERAL FUND OBLIGATION DEBT $1,277,591,675 0 Less: Sao JoseConvention Center (lOOo/o self·supporting from tax increment revenues) l 176,850,000 TOTAL NETDIRECT AND OVERLAPPINGGENERAL FUND OBLIGATION DEBT $ 1,100,741,675 GROSS COMBINEDTOT AL DEB'!'" $3,053,499,420 NET COMBINEDTOTAL DEBT $2,876,649,420 0> Supportedfrom surplus tax increment revenues pursuant to a Reimbursement Agreementbetween the City and the Redevelopment Agency. f2> Excludes taxand revenue anticipation notes, enterprise revenue, mortgage revenue and tax allocation bonds and non-bonded capitaJ lease obligations. Ratios to 2004-0S Assessed Valuation: Dir«t Debt ($290,940,000) 0.32% Total Direct and Overlapping Tax andAssessment Debt 1.93% Ratios to Adjusted Assessed Valuation: GrossCombined Direct Debt ($1,041,109,816) 1.44% Net Combined Direct Debt ($864,259,816) 1.21% Gross Combined Tota1 Debt 3.92% Net Combined Total Debt 3.69% STATE SCHOOLBUILDING AID REPAYABLE AS OF 6/30/04: $ 8,758,188 Source: California Municipal Statistics, Inc.

A-50 APPENDIX B

AUDITED FINANCIAL STATEMENTS FOR FISCAL YEAR ENDED JUNE 30, 2004

B-1 C!TYOF A SANJOSE CAPITAL Of VALLEYSILICON MACIAS GINI & COMPANYLI.P

Ht.Oi•blo ?tut 2175 N. Caflfomia Boulevard. Ste. '45 Wt11'1Ut CNek, Califorffia '

City Council City of San Jose, California

Independent Auditor's Report

We have audited the accompanying financial statements of the governmental activities, the business-type activities, each major fund, and the aggregate remaining fund infonnation of the City of Sau Jose, California (the City), as of and for the year ended June 30, 2004, which collectively comprise the City'sbasic financial statements as listed in the table of contents. These financial statements are the responsibility of the City's management. Our responsibility is to express opinions on thesefinancial statements based on our audit.

We conducted our audit in accordance with auditing standards generally accepted in the United States of America and the standards applicable to financial audits contained in Government Auditing Standards, issued by the Comptroller General of the United States. Those standards require that we plan and perfonn the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and the significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinions.

In our opinion, the financial statements referred to above present fairly, in all material respects, the respective financial position of the governmental activities, the business-type activities, each major fund, and the aggregate remaining fund information of the City of San Jose, California, as of June 30, 2004, and the respective changes in financial position and cash flows, where applicable, thereof for the year then ended in conformity with accounting principles generally accepted in the United States of America.

In accordance with GovernmentAud iting Standards, we have also issued our report dated November 19, 2004, on our consideration of the City's internal control over financial reporting and on our tests of its compliance with certain provisions of laws, regulations, contracts, grant agreements and other matters. The purpose of that report is to describe the scope of our testingof internal control over financialreporting and compliance and the results of that testing, and not to provide an opinion on the internal control over financial reporting or on compliance. That report is an integral part of an audit performed in accordance with Government Auditing Standards and should be considered in assessing theresults of our audit.

The management's discussion and analysis, the budgetary comparison info rmation and the schedule of funding progress listed in thetable of contents are not a required part ofthe basic financial statements but are supplementary information required by accounting principles generally accepted in the United States of America. We have applied certain limited procedures, which consisted principally of inquiries of management regarding the methods of measurement and presentation of the required supplementary information. However, we did not audit the infonnation anddo not express an opinion on it.

I Ct!.Fl'T'lt'ttO PU8t,IC ACCOUHT'ANTS' & MANAGEME:NT CONSULTA NT$ Our audit was conducted forthe purpose of forming opinions on thefinancial statements that collectively comprise the City's basic financial statements. The introductory section, combining nonmajor fund fm ancial statements and schedules, and statistical section are presented for purposes of additional analysis and are not a required part of the basic financial statements. The combining nonmajor fund fm ancial statements and schedules have been subjectedto the auditing procedures applied in the audit of the basic financial statements and, in our opinion, are fairly stated in all material respects in relation to thebasic financial statements taken as a whole. The introductory and statistical sections have not been subjected to the auditing proceduresapplied in theaudit of the basic financial statements and, accordingly, we express no opinion on them.

Certified Public Accountants

Walout Creek, California November 19, 2004

2 Management's Discussion and Analysis

Management's Discussion and Analysis (MD&A) in conjunction with the transmittal letler (page v) and the City's basic financial statements (page 18) provides the reader an overview of the City's financial activities for the fiscal year ended June 30, 2004.

FINANCIAL HIGHLIGHTS

• The assets of the City exceeded liabilities at the close of the 2003-04 fiscal year by $7.7 billion (net assets). Of this amount, $465 million (unrestricted net assets) may be used to meet the City's ongoing obligations to citizens and creditors, $491 million is restricted for specific purpose {restricted net assets), and $6.8 billion is invested in capital assets, net of related debt. • The City's total net assets decreased by $428 million during the fiscal year. A significant portion of this decrease is related to $364 million depreciation. • The City's governmental funds reported combined ending fund balances of $1.325 billion, a decrease of $171 million. Approximately 48.0 percent of the combinedfund balances, $630 million, is available to meet the City's current and future needs (unreseNed fund balance). • At the end of the fiscal year, unreserved fund balance forthe general fund was $153.8 million, or 27.3 percentof total general fund expenditures. • The City's total long-term obligations increased by $482 million compared lo the prior year. The increase consisted of $840 million of new debt issuance for Infrastructure, Redevelopment Agency projects, Airport facility improvements and refunding of prior bonds issued on behalf of the general government and the Redevelopment agency. These additions to long-tenn debt were offset by $178 million of scheduled principal retirements and $253 million of refunded Redevelopment agency tax allocation bonds and $23 million of general government lease revenuebonds. Estimated liabilities for claims and judgments also experienced a significant Increase of $51 million mainly due to higher workers' compensation claims and an adjustment for incurred but not reported (IBNR) claims in the amount of $21 million based a recent actuarial study.

OVERVIEW OF THE FINANCIAL STATEMENTS

This discussion and analysis is intended to serve as an introduction to the City's basic financial statements. The City's basic financial statements are comprised of four components 1) Government-wide Financial Statements; 2) Fund Financial Statements; 3) Notes to the Basic Financial Statements; and 4) Required Supplementary lnfonnalion. In addition this report also contains other supplementary information.

Government-wide Financial Statements

Government-wide Financial Statements are designed to provide readers with a broad overview of City finances, in a manner similar to a private-sector business.

The statement of net assets presents information on all of the City's assets and liabilities, with the difference between the two reported as net assets. Over time, increases or decreases in net assets may serveas a useful indicator of whether the financial position of the City is improving or deteriorating.

The statement of activities presents infonnation showing how the City's net assets changed during the most recent fiscal year. All changes in net assets are reported as soon as the underlying event giving rise to the change occurs, regardless of the timing of related cash flows. Thus, revenues and expenses are reported in this statement for some items that will result in cash flows in future fiscal periods, such as

3 Management's Discussion and Analysis (Continued)

revenues pertaining to uncollected taxes and expenses pertaining to earned but unused vacation and sick leave.

Both of these government-wide financial statements distinguish functions of the City that are principally supported by taxes and intergovernmental revenues (governmental activities) from other functions that are intended to recover all or in part a portion of their costs through user fees and charges (business-type activities). The governmental activities of the City include general government, public safety, capital maintenance, community services, and sanitation. The business-type activities of the City include an airport, wastewater operations, water operations, and various parking facilities.

The government-wide financial statements include not only the City itself (known as the primary government), but also a legally separate redevelopment agency and three legally separate financing authorities for which the City is financially accountable. The business-type activities include the wastewater and parking financing authorities.

Fund Financial Statements

Fund Financial Statements are designed to report information about groupings of related accounts which are used to maintain control over resources that have been segregated for specific activities or objectives. The City, like other state and local governments, uses fund accounting to ensure and demonstrate finance-related legal compliance. All of the funds of the City can be divided into three categories: governmentalfunds, proprietaryfunds, and fiduciary funds.

Governmental funds are used to account for essentially the same functions reported as governmental activities in the government-wide financial statements. However, unlike the government-wide financial statements, governmental funds financial statements focus on near-term inflows and outflows of spend able resources, as well as on balances of spendable resources available at the end of the fiscal year. Such information may be useful in determining what financial resources are available in the near future to finance the City's programs.

Because the focus of governmental funds is narrower than that of the government-wide financial statements, It is useful to compare the information presented for governmental funds with similar information presented for governmental activities in thegovernment-wide financial statements. By doing so, readers may better understand the long-term impact of the government's near-term financing decisions. Both the governmental funds balance sheet and the governmental funds statement of revenues, expenditures and changes in fund balances provide a reconciliation to facilitate this comparison betweengovernmental funds and governmentalactivities.

Information is presented separately in the governmental funds balance sheet and in the governmental funds statement of revenues, expenditures and changes in fund balances for the General Fund, Redevelopment Agency, Housing Activities, Special Assessment Districts, and Civic Center which are considered to be major funds. The City maintains several individual governmental funds organized according to their type (special revenue, debt service, and capital projects funds). Data from the remaining governmental funds are combined into a single, aggregated presentation. Individual fund data for each of these nonmajor governmental funds is provided in the form of combining statements elsewhere in this report.

Proprietary funds are generally used to account for services for which the City charges customers - either outside customers, or internal units of departmentsof the City. Proprietary funds provide the same type of information as shown in the government-wide financial statements, only in more detail. Proprietary funds are used to report the same functions presented as business-type activities in the government-wide financial statements. The City uses proprietary funds to account for the Norman Y. Mineta San Jose International Airport, Wastewater Treatment System, Municipal Water System, and Parking System.

4 Management's Discussion and Analysis (Continued)

Fiduciary funds are used to account for resources held for the benefit of the City's employees and parties outside the City. The City's pension plan trust funds, private purpose trust fund, and agency funds are reported under the fiduciary funds. Since the resources of these funds are not available to support the City's own programs, they are not reflected in the government-wide financial statements. The accounting used for fiduciary funds is much like that used for proprietary funds.

Notes to the Basic Financial Statements provide additional information that is essential to a full understanding of the data provided in the government-wide and fund financial statements.

Required Supplementary Information is presented concerning the City's General Fund and Housing Activities budgetary schedules and the City's progress in funding Its obligation to provide pension benefits. The City adopts an annual appropriated budget forits General Fund and Housing Activities. A budgetary comparison schedule has been provided for the General Fund and Housing Activities to demonstrate compliance with this budget. The City's pension schedules have been provided to present the City's progress in fundingits obligation to provide pension benefits to City employees.

The combining and Individual fund statements and schedules referred to earlier provide information for nonmajor governmental funds and fiduciary funds and are presented immediately following the required supplementary information.

GOVERNMENT-WIDE FINANCIAL ANALYSIS

Analysis of Net Assets: As noted earlier, net assets may serve as a useful indicatorof a government's financial position. For the City, assets exceeded liabilities by $7.7 billion at the close of the current fiscal year.

The following table Is a condensed summary of the City's net assets for governmental and business-type activities:

Statement of Net Assets June 30, 2004 (in thousands)

Governmental Business-type Actlv!Ues Activities Totals FY2004 FY2003 FY2004 FY2003 FY2004 FY2003 Assets: Current and other assets... .$ 1,666,590 1,803,873 789,989 597,183 2,456,579 2,401 ,056 Capital assets...... 8,321,084 8,430,073 1,087,590 953,262 9,408,674 9,383,335 Total assets ...... 9,987,674 10,233.946 1.877,579 1,550,445 11,865,253 11,784,391

Uabllltles: Current and other liabilities ..•. 235,011 217,324 35.276 25,879 270.287 243,203 Long-term llabllltles ...... •.• 3,187,374 2,945,725 681,649 441,118 3,869,023 3,386,843 Total llabilttles ...... 3,422,385 3,163,049 716,925 466.997 4,139,310 3,630,046

Net assets: Invested In capital assets, net of related debt...... 6,118,214 6,252,648 651,130 513,697 6,769,344 6,766,345 Restricted net assets ...... 229,871 551 ,968 261,303 256,821 491,174 808,789 Unrestricted net assets ...... •.. 217,204 266,281 248,221 312,930 465,425 579,211 Total net assets ...... $ 6,565,289 7,070,897 1,160,654 1,083,448 7,725,943 8,154,345

5 Management's Discussion and Analysis (Continued)

Al the end of the current fiscal year, the City reported positive balances in all three categories of net assets, both for the City as a whole, as well as for its separate governmental and business-type activities.

The largest portion of the City's net assets al $6.8 billion (88.0 percent) reflects its investment in capital assets (e.g. infrastructure, land, buildings, improvements other than buildings, and vehicles and equipment); less any related debt used lo acquire those assets that is still outstanding. The City uses these capital assets to provide services to citizens; consequently, these assets are not available forfuture spending. Although the City's investment in its capital assets is reported net of related debt, it should be noted that the resources needed to repay this debt must be provided from other sources, since the capital assets themselves cannot be used to liquidate these liabilities.

Of the City's net assets, $465 million (6.0 percent) represents unrestricted net assets which may be used to meet the City's ongoing obligations to citizens and creditors. For governmental activities, the City reported a positive balance of $217 million in unrestricted net assets and for business-type activities, the City reported a positive balance of $248 million in unrestricted net assets. An additional portion of the City's net assets of $491 million (6.4 percent) represents resources that are subject to external restrictions on how they may be used.

The City's net assets decreased by 5.3 percent or $428.4 million during the current fiscal year. The City is still experiencing the impact of the slow down in the economy which has resulted in a reduction in revenue streams in the face of increasing costs.

Key changes in the statement of net assets are as follows:

The City's capital assets increased by $25 million or less than 1 percent. Governmental capital assets decreased by $109 million offset by an increase in business-type capital assets of $134 million. The decrease in governmental capital assets was mainly the result of depreciation on major infrastructure assets and the transfer of the 4'" and San Fernando parking garage In the amount of $56 million. The offsetting increase in business-type capital assets was due mostly to continued airport expansion construction projects and a parking garage asset transfer from the Redevelopment Agency.

The City's current and other assets increased by $56 million or 2.3 percent. This increase is a result of a $137 million decrease in governmental activities offset by a $193 million increase in business-type activities. The decrease in governmental activities is mainly the result of spent general obligation bond proceeds for capital projects. Conversly the decrease was mainly offset by increases in business-type activities related to unspent bond proceeds of $192 million for airportcapital projects.

Long-term liabilities for the City increased $482 million or 14.2 percent. This is mainly due to the issuance of bonds for airport improvements ($250 million), and Redevelopment Agency tax allocation bonds, $130 million net of refunding. The City also experienced an increase in Estimated Liabilities for Claims and Judgements of $56 million partly due to higher cost of workers' compensation claims and an claims development adjustment of $21 million based a recently completed actuarial study. Most of the growth in claims relate to Public Safety activities which experienced an increase of 258 open claims. Also the average cost of Public Safety claims rose 4.8 percent from $21,000 to $22,000.

Current and other liabilities for the City increased by $27 million or 11.1 percent. This net increase is generally spread across all categories. Increases in Accounts payable, Accrued liabilities, Interest payable and Other liabilities ($67 million) were offset by decreases in Due to outside agencies, Unearned revenue and Advances, deposits and reimbursable credits ($40 million).

The City's net assets invested in capital assets net of related debt experienced a modest increase of $3 million. While business-type activities category grew by $137 million, this increase was offset by a decrease in general government activities in the amount of $134 million.

6 Management's Discussion and Analysis (Continued)

Analysis of Activities: The following table indicates the changes in net assets for governmental and business-type activities:

Statement of Activities For the Year Ended June 30, 2004 (In thousands)

Governmental Business�type Activities Activities Totals FY2004 FY 2003 FY 2004 FY 2003 FY 2004 FY2003 Revenues: Program revenues: Fees, fines, and charges for services...... $ 199,761 190,128 242,865 243,770 442,626 433,898 Operating grants and contributions...... 46,034 51,691 5,724 5,685 51,758 57,376 capital grants and contributions ...... 81,229 70,726 24,601 16,821 105,830 87,547 General revenues: Property taxes ...... 338,210 351,902 338,210 351,902 Utility taxes.•.•.••.•.....•...... •.. .•..•••.••.•.••••••.. 68,455 65,785 68,455 65,785 Franchisetaxes ...... 31,712 32,093 31,712 32,093 Transitand occupancytaxes ...... 14,166 14,600 14,166 14,600 SaJeslaxes shared revenue••..••...... 126.426 122,757 126,426 122,757 Stale ofC81ifomla lrHleu ...... 41,455 53,787 . 41,455 53.787 Business license tax ...... 36,201 35,594 36,201 35,594 Unrestricted Interest and Investment earnings 17,040 59,287 3,024 15,861 20,064 75,148 Other revenue...... 26,368 22,994 26,368 22,994 Gain on sale of capital assets ...... 4,487 317 4.487 317 Total revenues...... ••••••.•.••.••.. 1,031,544 1,071,661 276,214 282,137 1,307,758 1,353,798

Expenses: General government....••.••.•.••.•.....•...... 143,342 125.482 143,342 125,482 Public safely...•..•...••...•.••.•...•.. •...... 353,009 323,461 353,009 323,461 capital maintenance.....•••.•••••.•..••...••...••..• 502,812 652,748 502,812 852,748 Community services...... 277,404 222,250 277,404 222.250 SanltatJon •••••.•...... •..••••.••..••.•..•.••••.••.•• 76,889 77,001 76,889 77,001 Interest and fiscal charges...... 127,052 121,647 127,052 121,647 NormanY. Mlneta San Jost! International Airport...... 117,122 112,723 117,122 112,723 Wastewater Treatment System...... 101,627 102,148 101,627 102,148 Municipal Water System....•..•••.•.•.•..•...... 19,089 15,577 19,089 15,577 Pa11

Net assets at beginning of year 7,070,697 7,514,487 1,083,448 1,046,576 8,154,345 81561,063 Net asssts at end of year ..•.••.•.•••.•••••.••.•.•.. $ 6,565,289 7,070,897 1,160,654 1,083,448 7,725,943 e 154,345 1

Governmental activities: Governmental activities decreased the City's net assets by $506 million, which accounts for more then 100 percent ofthe total decrease in net assets of the City. This decrease in the City's net assets was partially offset by a $77 million increase in the business-type activities as noted in greater detail below.

7 Management's Discussion and Analysis (Continued)

Key elementsof the decrease in net assets for governmental activities are as follows:

• The City maintained a balanced budget in the General Fund by utilizing a combination of on-going and one-time solutions by increasing various revenue sources, reducing service levels and related expenditures for various City programs and by utilizing a portion of its accumulated fund balance. As a result, the fund balance in the General Fund decreased by $14 million contributing to the decrease in the governmental activities net assets.

• Property taxes decreased by $13.7 million (3.9 percent} during the year. This decrease is primarily due to a decline of $27 .8 million in Redevelopment Agencytax increment revenue attributed to the effects of a continuing weak local economy, property owner assessment appeals and declining value of R&D/office property in redevelopment project areas. increases in property tax and conveyance tax revenues helped offset the tax increment decrease by $14.1 million. These increases are attributed to higher real estate resale values and increased property assessments.

• Sales taxes shared revenue increased by $3.7 million or 3.0 percent during the year. This increase is mainly due to a one time collection from delinquent payers. Taking into account the one lime collection, sales tax revenue compared to the prior year were essentially the same.

• Other revenues, including, utility taxes, business license tax and other revenues and gain on sale of capital asset increased by approximately $10.8 million. These increases were offset by decreases in franchise taxes, hotel transient occupancy tax, State of California in-lieu revenue and lower investment earnings totaling approximately $68.2 million. The most significant of these decreases are attributed to the state balancing action that reduced motor vehicle in-lieu fees ($12.3 million} and reduced investment earnings ($42 million) attributed to decreased cash flow and lower investment yields.

• Depreciation of infrastructure and other capital assets resulted in a decrease in net assets of $324 million in depreciation expense during the year.

• During the year, the City's investment portfolio earned interest yield declined from 3.0 percent in FY 2003 to 2.2 percent for FY 2004. Factors contributing to this decrease included: 1} the general decline in interest rates during the fiscal year as a result of the Federal Reserve action that lowered the federal funds rate and the discount rate to stimulate the economy; and 2} the continued uncertainty of global political conditions and by the continued weakness in economic data.

• In January, 2004, the City entered into a management agreement with Dolce International to operate the City owned Hayes Mansion Conference Center The special item in the amount of $7 .9 million represents the loss from the Hayes operations at this transition point.

8 Man,gernent's Discussionand Analysis (Continued)

l'l1e following chart shows a graphl(;al COlnJ)al'lson of revenue sources for .governmental actlvlli!l$lll!i • percentageof 10181 menu&$ tor fiscal year2004:

ac.,o,111-a�·--·­ ...,. __...... �·-F----- lll'... ft� . .,...... __ ...... ·---�-· ...

For !ht, most part,. l!ICl'EIEISEIII in expljnses paralleled Increases In thacost of living In the Bl!y Area and growth 111 . lhe demandfor government services. The folloWing chart shows a graphical comparison of governmantai actMty. · el!pelises. for each category 8$ apercentage . . of mtal expenses for fiscal year200:t:

2004

Of thelilfal amountof �ell !rtf'ubllo Safety ($30 mllllon) and GelleralGOV!l(nmtlllt mlllon}, ($18 $17 mlllon ror Public Safety and allot the.Oe neratG® .emment Increasecan be.ettributed to Increases In l!Q$1 for workers' compensation andgEmeral llablllty dlalms. Thelncr!leff In Community $eMcesa� Is to an increase In hoUslng loan actlvlty eoupled with a loanresarve adjustmtlfll of$48 mlllrorr{S!Je major fonda

Business-type activities: Business-type activities increased the City's net assets by $77 million, helping to offsetthe $506 million decrease in governmental activities net assets resulting in an overall decrease in the City's net assets of $428.4 million. Key factors of the business-type activities increase are as follows:

• The Norman Y. Mineta San Jose International Airport (Airport) net assets increased by $15 million. The Airport's operating loss increased to $21.7 million from an operating loss of $17.7 million in fiscal year 2003. Nonoperating revenue, primarily passenger facility charges and operating grants, exceeded nonoperating expenses by $25.1 million. The Airport is still experiencing the impacts of increased security measures, lower passenger activity, and reduced revenues that occurred after the September 11 attacks. In addition, the Airport received $11.7 million in capital contributions, primarily fromAirport Improvement Program grants.

• The Wastewater Treatment System net assets increased by $0.3 million. The Wastewater Treatment System reported operating revenues of $99 million, down $3.5 million from operating revenues of $103 million in the prior year. This reduction in addition to lower investment earnings of $7 .5 million were offset by increases in capital contributions of $4 million and reduced operating expenses of $0.2 million.

• The Municipal Water System net assets increased by $6.7 million or 1 percent. Increases in operating revenues and capital contribution of $2.5 million and $4.6 million respectively were offset by higher operating expenses of $3.5 million and lower non-operating revenue of $0.6 million.

• The Parking System net assets increased by $55 million or 151 percent. The Parking System reported operating revenues of $9.6 million, down from $10.1 million in fiscal year 2003. Nonoperatlng income of $0.134 million was $0.59 million less than nonoperating income of $0.723 in fiscal year 2003 million mainly due to lower investment earnings. The transfer of the recently completed 4th Street Parking garage capital asset from the Redevelopment Agency increased net assets by $56 million.

FINANCIALANALYSIS OF THE CITY'S FUNDS

As noted earlier, the City uses fund accounting to ensure and demonstrate compliance with finance­ related legal requirements.

Governmental funds: The focus of the City's governmental funds is to provide information on near-term inflows, outflows and balances of resources that are available for spending. Such information is useful in assessing the City's financial requirements. In particular, unreserved fundbalance may serve as a useful measure of a government's net resources available for spending at the end of the fiscal year. Types of governmental funds reported by the City include the General Fund, Special Revenue Funds, Debt Service Funds, and Capital Project Funds.

As of the end of the current fiscal year, the City's governmental funds reported combined fund balances of $1 .325 billion, an decrease of $171 million in comparison with the prior year. AP proximately $630 million of this total amount constitutes unreserved fund balance, which is available for spending at the City's discretion. The remainder of fund balance is reserved to indicate that it Is not available for new spending because it has been committed: 1) to pay debt service ($184 million); 2) to reflect advances, loans, and other assets that are long-term in nature and thus do not represent available spend able resources ($240 million); 3) to liquidate contractual commitments of the period ($272 million); and 4) for a variety of other restricted purposes ($0.108 million).

Revenues and other financing sources for governmental functions totaled approximately $1 .878 billion in the fiscal year ended June 30, 2004, which represents a decrease of 17.7 percent from the fiscal year ended June 30, 2003.

10 Management's Discussion and Analysis (Continued)

General Fund: The General Fund is the chief operating fund of the City. At the end of the current fiscal year, the unreserved fund balance of the General Fund was $153.8 million while total fund balance was $183.3 million. As a measure of the General Fund's liquidity, ii may be useful to compare both unreserved fund balance and total fund balance to total fund expenditures. Unreserved fund balance represents 27 .3 percent of total General Fund expenditures of $562.4 million, while total fund balance represents 32.6 percent of that sameamount.

General Fund revenues of $522.7 million were $3.7 million, or 0.7 percent higher than the prior fiscal year level of $519.0 million. An increase in Licenses, Permits, and Fines ($9.9 million) and Charges for Current Services ($4.4 million) were driven by increased fees. These increases were offset by lower returns In investment interest ($5.6 million) and lower Taxes and special assessment revenues ($5.4 million). The change in tax revenues is net of increases in property tax ($1.5 million), Sales Tax ($3.2 million), and Utility Tax ($2.7 million) against a lower State of California in-lieu fees ($12.3 million) and other taxes ($0.5 million).

General Fund expenditures of $562.4 million decreased by $27.8 million or 4.7 percent less than prior year expenditures of $590.2 million. The decrease generally impacted all governmentalfunctions with the exception of Public Safety which had higher local law enforcement grant expenditures ($5.2 million) and higher personal service expenditures of $8 million. With the exception of Public Safety which will continue to be of the highest priority, general decreases across the organization reflect budget and corresponding service level reductions mandated by shrinking revenues driven by sluggish state and local economies.

Redevelopment Agency: The Redevelopment Agency (Agency) fund accounts for the activities of the Redevelopment Agency of the City of San Jose which was created to redevelop and upgrade blighted areas of the City. The Agency's governmental funds reported combined fund balances of $263.5 million, an increase of $65.3 million in comparison with the prior year. Most of this total amount, $230.1 million, is attributable to new debt, net of refunding, offset by excess expenditures over revenues ($92.3 million), net transfers out ($77.0 million) and proceeds from sale of capital assets $4 mllllon).

The following are some of thehighlights for the Agency:

• Revenues decreased by $60 million or 24.9 percent to $181.3 million from $241.3 million in the prior fiscal year. Most of this decrease relates to tax increment revenue which were lower by $28 million, or 14 percent, and a decrease in developer contributions in the amount of $25.8 million. The decrease in tax increment revenue reflects a continuing decline of the local economy that triggered a rise of assessment appeals from property owners and a declining value of R&D/office property in redevelopment project areas.

• Expenditures decreased $100 million or 26.7 percent primarily due to deferrals of several redevelopment projects.

Housing Activities: The Housing Activities fund accounts for the City's commitment to ensure that lower and moderate income residents are provided with a diverse range of safe, decent, and affordable housing opportunities. In order to achieve this goal, the City works to preserve the existing affordable housing stock, continues to increase the supply of affordable housing, and provides servicesto homeless and at-risk populations in the City of San Jose. The fund's primary source of funding are proceeds from Redevelopment Agency tax allocation bonds and 20% of the gross property tax increment. As required by California State law, these 20% tax increment funds are used solely for affordable housing purposes. Loans to developers of

11 Management's Discussion and Analysis (Continued)

affordable housing project increased the Housing Activities fund loans receivable by $48 million. Most of this growth was offset by an adjustment to loan reserves for a similar amount.

Special Assessment Districts: The Special Assessment Districts fund accounts for the activities related to the issuance of debt and the related capital improvements by special assessment districts in different parts of the City. In fiscal year 2004, $12.5 million in new bonds were Issued for one community facilities districts to finance roadway improvements in a new residential development.

At June 30, 2004, a total of $85.1 million in special assessment debt was outstanding, issued by twelve special assessment and community facilities districts. The debt is secured by special assessments or special taJ

Proprietary funds: The City's proprietary funds provide the same type of information found in the government-wide financial statements, but in more detail. At the end of the fiscal year, the unrestricted net assets for the Norman Y. Mineta San Jose International Airport were $6 miilion, the Wastewater Treatment System were $213 million, the Municipal Water System were $1 1 million, and the Parking system amount of $18 million.

The total growth in net assets for proprietary funds was $77 million. other factors concerning the activities of these funds have already been addressed in the discussion of the City's business-type activities above.

GENERAL FUND BUDGETARY HIGHLIGHTS

General Fund differences between the original 2003-04 budget and the final amendedbudget resulted in an increase of $10.6 million in budgeted revenues and transfers in an increase in appropriated expenditures and transfers out of $22.2 million.

Overall Increases in most categories of revenue were offset by reductions in State of California in-lieu fee ($10.5 million) as a result in state balancing budget strategies. Utility taxes decreased $2 million due to the impact of California Public Utilities settlement agreements with Pacific Gas and Electric.

The City charter mandates that the operating and capital budget be submitted to the City Council prior to the beginning of the fiscal year. Adjustments to the original budget, adopted by the City in June 2003, were driven by the delayed slate budget action which was enactedin August 2003.

CAPITAL ASSETS AND DEBT ADMINISTRATION

Capital Assets:

The City's investment in capital assets for its governmental and business-type activities as of June 30, 2004, amounted to $9.4 billion (net of accumulated depreciation). This investment in capital assets includes land, infrastructure, structures and improvements, vehicles and equipment, intangible assets, and construction in progre ss. The City's investment in capital assets increased by less than 1 percent. The City's decision to depreciate infrastructure capital assets results in recording a large non-cash depreciation expense each year that offsets additions to capital assets.

12 Management's Discussion and Analysis (Continued)

Major capital asset events during the current fiscal year included the following:

• Construction in progress increased by $175 million, or 39.5 percent. Of this amount $135 million is attributable to the governmental activities. The new civic center project represents approximately $100 million of the increase in construction in progress. The primary addition for business type activities were the continuing Airport expansion projects ($17 million) and Waste Water Systems ($16 million) mainly for the South Bay Water Recycling System improvements. • Buildings increased by $72 million or 10.3 percent. This increase is mainly due to the transfer of the th 4 Street Parking garage in the amount of $56 million from the Redevelopment Agency.

For government-wide financial statement presentation, all depreciable capital assets were depreciated from acquisition date to the end of the current fiscal year. Fund financial statements record capital asset purchases as expenditures. Capital assets, net of depreciation, for the governmental and business-type activities are presented below to illustrate changes from the prior year:

Increase/ Governmental activities Business-typeactivities Total (Deaease) Percent of 2004 2003 2004 2003 2004 2003 Change

Land· $ 474,260 480,729 126,645 117,211 600,905 597,940 0.50% Constructkm in progress 491,415 356,265 126,325 86,448 617,740 442,713 39.54% Buildings 407,321 375,448 363,386 323,350 770,707 698,798 10.29% Improvements, other than buildings 31,518 28,912 449,752 403,603 481,270 432,515 11.27% Infrastructure 6,897,718 7,164,126 6,897,718 7,164,126 -3.72% Vehicles and equipment 18,533 21,963 7,506 7,895 24,039 29,858 -19.49% Intangible assets 8,903 9,227 8,903 9,227 -3.51% Property under capitalleases 2,319 2,630 5,073 5,528 7,392 8,158 -9.39%

Total capital assets $ 8.321.084 8:430.073 1.087.590 953,262 91408.674 9,383,335 0.27% The City's infrastructure assets are recorded at historical cost in the government-wide financial statements as required by GASB Statement No. 34.

Commitments outstanding as of June 30, 2004, related to governmental and business-type activities construction In progress total approximately $187.B million and $125.6 million respectively.

Ad ditional information about the City's capital assets can be found in Note 111.D to the financial statements.

Debt Administration:

Debt Management Policy

The Debt Management Policy for the City was adopted by the City Council on May 21, 2002. The first set of program-specific policies, related to the City's multifamily housing program, was adopted by the City Council on June 11, 2002. The Debt Management Policy establishes the following equally important objectives:

13 Management's Discussion and Analysis (Continued)

• Minimize debt service and issuance costs; • Maintain access to cost-effective borrowing; • Achieve the highest practical credit rating; • Full and timely repayment of debt; • Maintain full and complete financial disclosure and reporting; • Ensure compliance with applicable State and Federal laws.

General Fund Bonded Debt Limit

The City of San Jose Charter limits bonded indebtedness for General Obligation bonds to 15 percent of the total assessed valuation of all real and personal property within the City. The total taxable assessed value on the City's FY 2003-04 tax roll is $92.4 billion, which results In a net total debt capacity of approximately $13.8 billion. As of June 30, 2004, theCity had $178.5 million of General Obligation bonds outstanding.

General Obligation Bond Rating

In June 2004, the City received confirmation of its general obligation bond ratings from the three major rating agencies: Aa1 from Moody's; AA+ from Standard & Peer's; and AA+ from Fitch. These ratings place San Jose in the second highest rating category (only one "notch" below Aaa/AAA/AAA), ranking It higher than the State of California and the highest-rated large city in California.

Outstanding Debt

The City's debt service obligations include general obligation bonds, revenue bonds, lease revenue bonds, special assessment bonds and reassessment bonds, Redevelopment Agency tax allocation bonds, capital lease obligations, and commercial paper.

As of June 30, 2004, the City had $2.9 billion of outstanding long-term debt related to Governmental Activities and $670 million of debt related to Business-Type Activities, for a total of $3.6 billion. These amounts for the fiscal year ended June 30, 2003 were $2. 7 billion for Governmental Activities and $434 million for Business-Type Activities, for a total of $3.2 billion.

The table below identifiesthe net changes In each category:

Asof Asol Net June30 2004 June 302003 Chanae Governmental Activities GObonds $ 178,480 184,720 (6,240) Revenuebonds 45,000 47,545 (2.545) Lease revenuebonds 579,2.77 573.140 6.137 Reassessment revenue bonds 2,935 4.960 (2.025) Special assessments 85,142 80,708 4,434 Redev�opment agency 2.041,365 1,854,680 186,885 Equipment leases 17 81 !64) Sub-total: 2932 216 2 745,834 186 382 Business-Type Activities Revenue bonds 608,245 388,055 240,190 State of CA-Revolving Fund Loan 58,099 59.479 (3,380) Commercial papernotes 5786 6658 (872l Sub-total; 670 130 434 192 235938 Totalc $ 3,602,346 3,180,026 422,320

14 Management's Discussion and Analysis (Concluded)

Additional information about the City's long-term obligations can be found in Nole 111.F to the financial statements.

ECONOMIC FACTORS AND NEXT YEAR'S BUDGET AND RATES

• The City currently faces a continuation of an unfavorable economic environment. The City faces the daunting task of creating a balanced budget in the face of a third straight year of declining revenues and a forecast that shows little chance of recovery in the near term.

• Following City Council priorities, the adopted budget will attempt to focus available resources on the most essential services - primarily public safety, meeting basic infrastructure requirements and maintainingthe City Council's commitment to neighborhoods.

• Key revenues such as sales taxes and hotel transient occupancytax continue to decline.

• Unemployment for the City remains at an uncomfortable 9.6% for 2003 which is well above state and national averages.

• Contract negotiations with the City's two largest labor organizations: the Police Officers Association and the International Association of Fire Fighters remain unresolved.

• Following Council direction from a year ago, a "Tier Two" strategy will be available in the fonm of a 2004-2005 Compensation/State Budget Impact Contingency Plan in the event a need for additional balancing actions prove to be necessary. These contingencies could be triggered depending on changes to employee compensation assumptions and, as in the prior year, additional revenue reduction which could result from final state budget actions.

All of these factors were considered in preparing the City's budget for fiscal year 2005.

REQUEST FOR INFORMATION

This financial report is designed to provide our citizens, taxpayers, customers, investors, and creditors with a general overview of the City's finances. Questions concerning any of the information provided in this report or requests for additional financial information should be addressed to the Director of Finance, 801 North First Street, Room 110, San Jose, CA 951 10.

15 This Page Intentionally Left Blank

16 Basic Financial Statements

17 City of San Jose Statement of Net Assets June 30, 2004 ($000's)

Govemmental Business-Type Activities Activities Total ASSETS Equity in pooled cash and Investments $ 670,214 367,435 1,037,649 Other cashand investments 99,055 99,055 Receivables (net of allowances for uncollectibles) 167,085 12,256 179,341 Due from outside agencies 359 130 489 Internal balances (10,977) 10,977 Inventories 1,832 1,325 3, 157 Loans receivable (net) 255,915 255,915 Advances and deposits 971 2,100 3,071 Other assets 10,294 179 10,473 Restricted assets: Equity In pooled cash and Investments 74,509 262,639 337,148 Other cash and investments 367,324 115,371 482,695 Receivables(net of allowances for uncollectibles) 157 8,513 8,670 Deferred bond issuance costs (net of accumulated amortization) 29,852 9,064 38,916 Capital assets (net of accumulated depreciation): Non depreciable 965,675 252,970 1,218,645 Depreciable 7,355,409 834,620 8,190,029 Total assets 9,987,674 1,877,579 11,865,253

LIABILITIES Accounts payable 57,376 24,149 81,525 Accrued liabilities 17,220 1,389 18,609 Interest payable 46,344 5,430 51,774 o·ue to outside agencies 16,015 16,015 Unearnedrevenue 19,195 878 20,073 Advances, deposits, and reimbursable credits 41,341 3,100 44,441 Other liabilities 37,520 330 37,850 Noncurrent obligations: Due within one year 108,351 29,356 137,707 Due In more thanone year 3,079,023 652,293 3,731,316 Total liabilities 3,422,385 716,925 4139,310 NET ASSETS Invested in capitalassets, net of related debt 6,118,214 651,130 6,769,344 Restricted for: Debt service 97,939 88,221 186,160 Capitalprojects 28,184 90,399 118,583 Communityservices 101,583 101,583 Public safely 2,165 2,165 Other purposes 82,683 82,683 Unrestricted 217,204 248,221 465,425 Total net assets $ 6,565,289 1,160,654 7,725,943

The notes to the financial statements are an integral part of this statement.

18 City of San Jose Statement of Activities For the Year Ended June 30, 2004 ($000's)

Net (Expense) Revenue and Proqram Revenues Changes In Net Assets

Fees, Fines, Operating Capital Gtan1& and Charges Grants and and Govemmental Business -Type Functions/Programs Expenses forServices Contributions Contributions Activities Activttles Total

Governmentalactivities:

General government $ 143,335 18,646 746 (123,943) (123,943) Public safety 353,009 18,856 9,SBB (324,565) (324,565)

capital maintenance 502,819 28,359 8,206 81,229 · (385,025) (385,025) Community services 277,404 53,635 27,209 (196,560) (196,560) Sanitation 76,889 60,265 285 3,661 3,661 Unallocated interest and fiscal charges • 127,052 (127,052) (127,052)

Totalgovernmental actlvttles 1,480,508 199,761 46,034 81,229 p,153,484} !1,153,4841 Business . Type activities: Norman Y. Mlneta San Josi)

lntemational Airport 117,122 113,758 5,721 11,725 14,085 14,085 Wastewater Treatment System 101,627 99,511 4,624 2,508 2,508 Municipal Water System 19,089 20,013 8.252 9,178 9,176

Parking System 9.952 9.583 58,0SO 55,881 55,881

Total business-type activities 247,790 242,865 5,724 80881 81,450 81,450 Total s 1,728.298 44�626 51,758 181,880 {1,153,484� 81 450 {1,072,034�

General revenues: Taxes·

Property 338,210 338,210

Utility 68,455 68,455 Franchise 31,712 31,712 Transit and occupancy 14,166 14,166 Sales taxes shared revenue 126,426 126,426 State of California in.lieu 41,455 41.455 Business license tax 36,201 36,201 Unrestricted interest and investmenteamlngs 17,040 3.024 20,064 Other revenue 26,368 26,368

Gain on sale of capital assets 4,487 4.487 Transfers (48,782) (7,268) (56,050) Specialitem·Loss at transition ---�(7�,8�6�2�) ------�(7�,86=2 �)

Total general revenues, transfers and special ltem_ __ �64=7�,8�7�6- _____( �4�,2�4-'44)___ 64 =3�,6�3�2�

Change in net assets (505,608) 77,208 (428,402)

Net assets · begiMlng 7 070,897 1,083 448 8,154 345

Net assets • ending 565 89 1 160 654 94 $. ��--·�· ="2""' .__����, =="'·· -��'·=' =25�, .....3.

.. Thisamount excludes $7 ,975 of Interest &Jepense that is Included as direct expensesof the communityservices program.

The notes to the financial statements are an integral part of this statement.

19 City of San Jose Balance Sheet Governmental Funds June 30, 2004 {$000's)

Redevelopment Housing General Fund �enci Activities ASSETS Equity in pooled cashand investments held in City Treasury $ 160,880 164,982 30,630 Other cash and investments Receivables (net of allowance for uncollectibles) 50,792 1,544 2,111 Due from outside agencies 228 51 Due from other funds 2,364 4,332 Inventories Loans receivable (net) 2,650 35,830 207,078 Advances and deposits 44 62 Restricted assets: Equity in pooled cash and investments held in City Treasury 1,076 3 Othercash and investments 11 129,743 Accrued interest 157 Advances to other funds 3,734 16,780 Other assets 1 032 9098 Total assets $ 222,811 353,430 248,971 LIABILITIES AND FUND BALANCES Liabillties: Accounts payable $ 7,284 5,737 422 Accrued salaries, wages, and payroll taxes 14,360 317 206 Due to other funds 660 10,031 Due to otheragencies 536 15,479 Deferred revenue 5,184 37,623 6,030 Advances, deposits,and reimbursable credits 1 20,682 Advances from otherfunds 16,780 Other liabilities 11,441 Total liabilities 39 472 89,869 23,438

Fund balances: Reserved for: Encumbrances 23,154 38,808 11,315 Noncurrent advances, loans and other assets 6,428 3,909 215,460 Debt service 76,737 Restricted cash commitments 3 Unreserved reported in: General fund 153,757 Special revenue funds (1,245) Capital projects funds 144 107 Totalfund balances 183 339 263 561 225,533 Total liabilitiesand fund balances $ 222,811 353,430 248,971

The notes tothe financial statements are an integral part of this statement.

20 Spacial NonmaJor Total Assessment Governmental Governmental Districts Civic Center Funds Funds

11,570 302,152 670,214 99,055 99,055

85,503 27,135 167,085 5 75 359 33,129 39,825 1,832 1,832 10,357 255,915 415 450 971

28,570 44,860 74,509 16,760 128,639 92,171 367,324 157 20,514 164 10294 142,823 128,639 611,380 1,708,054

430 16,522 26,981 57,376 13 22 2,302 17,220 3,552 32,032 46,275 16,015 85,552 7,482 141,871 3,871 16,780 41,340 8,261 25,041 26 079 37,520 89,866 20,096 119,917 382 658

3,610 81,722 113,625 272,234 5 13,714 239,516 19,876 87,296 183,909 105 108

153,757 192,374 191,129 29466 26 821 84 349 284,743 52957 108 543 491,463 1,325,396 142,823 128,639 611,380 1,708,054

21 City of San Jose Reconciliation of the Governmental Funds Balance Sheet to the Statementof Net Assets June 30, 2004 ($000's)

Total fund balances-governmental funds (Page 21) $ 1,325,396

Amounts reported for governmental activities in the statement of net assets are different because: Capital assets used in governmental activities are not financial resources and therefore are not reported in the funds. These assets consist of:

Land $ 474,260 Infrastructure assets 11,021 ,591 Other capital assets 1,205,856 Accumulated depreciation (4,380,623) Total capital assets 8,321,084

Interest payable on long-term debt does not require the use of current financial resources and, therefore, interest payable is generally not accrued as a liability in the balance sheet of governmental fu nds. (46,344)

Bond issuance costs are expended in governmental funds when paid, however, are capitalized and amortized over the life of the corresponding bonds for purposes of the statement of net assets. Deferred charges, net of amortization 29,852

Special Assessments are reported as revenue when levied in government-wide financial statements. In governmental funds, these assessments are reported as deferred revenue (a liability) since they are not available. 85,142

Long-term receivables are not available to pay for current period expenditures and, therefore, are deferred on the modified accrual basis. 37,533

Long-term liabilities are not due and payable in the current period and therefore are not reported in the funds. Those liabilities consist of:

Bonds and notes payable $ (2,934,553) Accreted interest on capital appreciation bonds (2,700) Capital leases (17) Compensated absences (77,246) Claims and judgments (158,354) Other (14,504) Total long-term liabilities (3, 187,374)

Net assets of governmental activities (Page 18) $ 6,565,289

The notes to the financial statements are an integral part of this statement.

22 This Page Intentionally Left Blank

23 City of San Jose Statement of Revenues, Expenditures and Changes In Fund Balances Governmental Funds For the Year Ended June 30, 2004 ($000's)

Redevelopment Housing General Fund �·"!:Y: Activities REVENUES Taxes and special assessments $ 374,614 170,208 Licenses, permits, and fines 83,631 Intergovernmental 10,105 2,136 Charges forcurrent services 27,410 Rent 998 171 Interest and other revenues 26,940 10 106 4,743 Total revenues 522 700 181 312 7050

EXPENDITURES Current General government 67,747 22,423 Public safety 317,202 capital maintenance 40,383 46,384 Communityservices 127,454 74,467 Sanitation 1,662 Capitaloutlay 7,888 61,993 Debt service: Principal 53 32,635 Interest and fiscalcharges 2 89,388 Bond issuance costs 8,867 Payment to refunded bond escrow agent 11,952 Total expenditures 562 391 273 642 74 467 Excess(deffciency) ofrevenues over(under) expenditures (39.691) (92.330) (67,417)

OTHER FINANCING SOURCES (USES) Proceeds from bonds 195,000 Proceeds fromrefunding bonds 350,985 Premiums (discount)on bonds 16,725 Payment to refunded bond escrow agent (332,571) Proceeds from sale of capital assets 4,487 Loan proceeds Transfers in 33,021 15,875 70,803 Transfers out !7.644) (92.826) (11,468) Total o1herfinancing sources (uses) 25 377 157 675 59 335

SPECIAL ITEM Loss at transition

Net change in fund balances (14,314) 65,345 (8,082)

Fund balances - beginning 197 653 198 216 233 615 Fund balances � ending $ 183,339 263,561 225,533

The notes to the financial statements are an integral partof this statement.

24 Special Non major Total Assessment Governmental GovemmentaJ Districts Civic Center Funds Funds 9,150 92,760 646,732 83,631 55,013 67,254 175,154 202,564 6,687 7,856 2675 2749 20 869 68 082 11,825 2 749 350483 1 076 119

99,962 190,132 8,099 325,301 3,137 87,784 177,688 47,158 249,079 75,845 77,507 12,475 99,692 96.488 278,536

7,901 14,377 54,966 4,671 35,580 129,641 697 1,611 11,175 2964 14 916 28 881 99 692 469 868 1508 941

(17,056) (96,943) (119,385) (432,822)

12,500 9,225 216,725 22,625 373,610 (16) 86 16,795 (20,258) (352,829) 4,487 3,200 3,200 40 20,305 47,084 187,128 (415) (67,507) (179,860) 12 524 19 890 (5,545) 269 256

(7.862) (!,862)

(4,532) (77,053) (132,792) (171,428)

57489 185 596 624 255 1 496 824 52,957 108,543 491,463 1,325,396

25 Cityof San Jose Reconciliation of the Change In Fund Balances of Governmental Funds to the Statement of AcUvitles For the Year Ended June 30, 2004 ($000's)

Net change In fund balances-total governmentalfunds (Page 25) $ (171,428)

Amounts r,ported for governmental activities In the statement of activities are different because:

Capital outlays are reported as expendituresin governmental funds. However, in the statementof activities, the costof capital assets is allocated over their estimated useful lives as depreciation expense. In thecurrent period, these amounts are: Capital outlay $ 278,536 Depreciationexpense (321,043) Excessof depreciation expense over capital outlay (42,507) The nel effectof various miscellaneous transactions involving capital assets (I.e. sales, retirements,trade-ins, donations) Donated assets $ 18,852 Transfers (56,050) Disposal and other adjustments (29,285) (66,483) Bond issuance costsare expended in governmental funds when paid, however, are capitalized and ·amortized over the life of thecorresponding bondsfor the purposes of the statement of activities. Bond issuance costs $ 11.175 Amortization of bond issuance costs (559) Total bond isSuance costs. net ot amortization 10,616 Repaymentof long�term obligation principal is reported as an expenditure in governmental funds and, thus, has theeffect of reducing fund balance because current financial resources have been used. For the government-wide statements, however, the principal payments reduce the liabilities in the statementof net assets and do not result in an expense in the statement of activities. The City's long-term obligationswere reduced because principal payments were made to bOndholders and HUD. 404,578 Accrued interest expenseon long-term debt is reported in the goventment-wlde statementof act lvities, but does not requlre the use of current flnancial resources. Amortization of bondpreml.lms, discounts and deferred amounts on refunding should beexpensed as a componentof interest expense on the statement of activities. This amount represents the net accrued interest expense and the amortizationof bond premiums,discounts and deferred amounts on refunding not reported in governmental funds. Accrued interest on capital appreciationbonds $ (98) Oiscountf(premium) on bonds issued 16,811 Increase in accrued interest expense (2.n1) Amortization of deferred amounts, premiums and discounts (479) Deferred amounts on bonds issued premiums and discounts !16,966) Total net in1erestexpense and amortization of discount/premium (3,509) Bond and loanproceeds provide current financial resources to governmental funds, however, issuing debt increases long-term llabilit!es in thestatement of net assets. (593,535) Because some revenues will not be collected for several months afterthe City's fiscal year ends, they are not considered �available" revenue and are deferred in the governmental funds. Deferred revenues increased by this amount this year. 9,888 Some items reported in the statement of activities do not require the use of current financial resources and therefore are not reported as expenditures in governmental funds. These activities consist of: Net decrease in accrued landfill postclosure costs $ 465 Net increase innet pensiOn obligation (24) Net Increase in vacation, sick leave, and compensatorylime (2,469) Net increase in estimated liability for self-insurance (51,220) Net decrease in arbitrage liability 20 Total additionalexpenditures (53,228) Change in net assets of governmental acttvHles (Page 19) $ (505,608) The notes to the financial statements are an integral partof this statement.

26 This Page Intentionally Left Blank

27 City of San Jose Statement of Fund Net Assets Proprietary Funds June 30, 2004 ($000'&)

Norman Y. Mineta San Jose Wastewater Municipal International Treatment Water Parking Al!]!!!rt System !x!;tem Sl!;tem Totals ASSETS Current assets: Equity in pooled cash and investments held in City Treasury $ 66,740 265,095 17,125 18,475 367,435 Receivables (net ofallowance for uncollectibles) 2,400 6,641 2,594 621 12,256 Due from outside agencies 130 130 Due from other funds 6,450 6,450 Inventories 1,325 1,325 Total unrestricted current assets 69 140 279,641 19 719 19096 387,596 Restricted assets: Equity In pooled cash and investments held in City Treasury 240,925 21,714 262,639 Other cash and investments 105,689 8,144 1,538 115,371 Receivables (net ofallowances for unoollectibles) 8,513 8,513 Pr8paid expenses, advances and deposits 179 179 Total restricted ament assets 355 306 29 858 1 538 366,702 Total currentassets 424,446 309,499 19,719 20,634 774,298 Noncurrentassets: Deferred bond Issuance costs (net of accumulated amortization) 8,139 925 9,064 Advancesand deposits 2,100 2,100 Advances to otherfunds 10,342 10,342 Capital assets (net ofaccumulated depreciation): Nondepreciable 125,674 101,441 7,231 18,624 252,970 Depreciable 360,754 365,534 55,010 53,322 834,620 Total noncurrent assets 496 667 478 242 62 241 71 946 1,109,096 Total assets 921 113 787 741 81 960 92,580 1,883,394

The notes to the financial statements are an integral part ofthis statement.

28 City of San Jose Statement of Fund Net Assets Proprietary Funds June 30, 2004 ($000's)

Norman Y. Mlneta San Jose Wastewater Municipal International Treatment Water Parking Alreon !}:stem System System Totals LIABILITIES Current liabilities: Accountspayable $ 4,240 3,035 1,495 883 9,653 Accruedliabilities 75 1,168 97 49 1,389 Interest payable 575 575 Accruedvaca tion,sick leave and compensatorytime 3,693 40 83 3,816 Estimated liability forself -Insurance 1,605 56 10 1,671 Loans payable 3,476 3,476

Total current liabilities 4 315 13 552 1688 1 025 20,580 Current liabilities payable from restricted assets: Accountspayable and accrued llabllities 14,496 14,496 Interest payable 4,374 481 4,855 Acaued vacation,sick leave and compensatorytime 2,548 2,548 Estimated liability for self-insurance 480 480 Advancesand deposits payable 561 561 Deferred revenue 878 878 Current portion of loans payable 5,786 5,786 Current portion of bonds payable 7,869 3 710 11 579 Total currentliabilities payable from restricted assets 36,992 4191 41 183 Noncurrentliabilities: Estimatedliability for self-insurance 3,637 4,1 11 7,748 Advances from otherfunds 5,815 5,815 Advance contributions from participating agencies 1,382 1,382 Advances, deposits and reimbursable credits 1,157 1,157 Loans payable 52,623 52,623 Bonds payable (net of discountand deferred loss onpremium/refunding) 501,378 90,544 591,922 Other liabllitles 330 330 Total noncurrentliabilities 505 345 148 660 6972 660,977 Totalliabilities 546 652 166 403 8660 1 025 722 740 NET ASSETS Invested In capital assets, net of related debt 246,913 270,030 62,241 71,946 651,130 Restricted fordebt service 76,837 9,845 1,539 88,221 Restricted forcapital projects 44,711 45,688 90,399 City of Santa Clara equity In Wastewater TreatmentSystem 82,683 82,683 Unrestricted 6000 213,092 11 059 18070 248,221 Total net assets $ 374,461 621,338 73,300 91,555 1, 160,654

29 City of SanJose Statement of Revenues, Expenses, and Changes in Fund Net Assets Proprietary Funds For the Year Ended June 30, 2004 ($000's)

Norman Y. Mlneta San Jose Wastewater Municipal International Treatment Water Parking Alreart S�tem S�tem S�stem Totals OPERATING REVENUES Charges forservices $ 45,400 76,832 19,880 9,573 151,685 Rentals and concessions 40,242 991 41,233 Customer transportation fees 4,183 4,183 Service connection. engineering and inspection 5,348 5,348 Contributions 10,947 10,947 Other 5,368 5,368 Total operatingrevenues 89,825 99 486 19,880 9,573 218 764

OPERATING EXPENSES Operations and maintenance 71,568 56,435 16,114 2,555 146,672 General and administrative 21,944 21,738 723 5,058 49,463 Depreciation and amortization 18,016 17,860 2,100 2,242 40,218 Materials and supplies 220 97 317 Total operating expenses 111,528 96253 18 937 9952 236 670 Operating Income (loss) (21,703) 3,233 943 (379) (17,906)

NONOPERATING REVENUES (EXPENSES) Passenger facilitycharges 21,842 21,842 Operating grants 5,724 5,724 Investment inoome 1,060 1,770 67 127 3,024 Land and building rental 25 25 Interest expense (5,594) (5,095) (152) (10,841) Contributions refunded to participating agencies (275) (275) Loss on disposal of capital assets (4) (4) Other revenues 2,091 133 10 2,234 Net nonoperating revenues (expenses) 25 123 (3,579) 48 137 21 729 Income before capital contributions and transfers 3,420 (346) 991 (242) 3,823

Capital contributions 11,725 4,624 8,252 56,050 80,651 Transfers in 20 20 Transfers out (4,008) (2,533) (747) (7,288) Changes in net assets 15,145 270 6,710 55,081 77,206 Net assets - beginning 359 316 621 068 66 590 36 474 1,083,448 Net assets • ending $ 374,461 621,338 73,300 91,555 1,160,654

The notes to the financial statements are an integral part of this statement.

30 City of San Jose Statement of Cash Flows ProprietaryFunds For theYear Ended June 30, 2004 ($OOO's)

Norman Y. Mlneta San Jose Wastewater Municipal International Treatment Water Parking Alrl!!!rt S;etem S31!:tem Sl!tem Totals CASH FLOWS FROMOPERATING ACTIVITIES Receiptsfrom customersand users $ 91,090 90,172 19,256 9,411 209,929 Payments tosuppliers (41,681) (36,910) {12,881) (2,132) (93,804) Payments to employees (29,511) {40,627) (3,068) (5,021) (78,227) Payments for interfund services (16,830) (16,830) Claims paid {371) (371) Otherreceipts (pa-nts) 2,125 10,947 13,072 Net cash provided by operating activities 4822 23582 3307 2258 33969 CASH FLOWS FROM NONCAPITAL FINANCING ACTIVITIES Transfer (to} fromother funds (4,008) (2,533) {727) (7,268) Advances (to)from other funds {4,203) {4,203) Subsidies from operating grants 5,592 5,592 Advances,deposits and credits {2,100) {133) (2,233) Net cash provided by {used in) by noncapitaf and related financing activities 3,492 (6,211) (2,666l !727) (!!,112) CASH FLOWS FROM CAPITAL AND RELATED FINANCING ACTIVITIES Passenger facility charges received 22,000 22,000 Proceeds fromdebt 248,564 246,584 Proceeds from commercial paper 35,069 35,089 Payments tocommercial paper (35,941) {35,941) Subsidies from capital grants 9,611 530 10.141 Acquisition andconstruction ofcapital assets (57,182) (26,1 98) (5,452) (1 ,626) (92,480) Principal paid on debt (6,270) (8,920) (13,190) Bond Issuance costs (3,347) (3,347) Interest paid on debt {13,322) (5.057) (18,379) Net cash provided by (used in) capital and relatedfinancing activities 199 202 {39.645] (5,4521 (1,628) 152477 CASH FLOWS FROM INVESTING ACTIVITIES Proceeds fromsales and maturities Of investments 577,920 577,920 Purchase OfInvestments (575,679) (11) (575,690) Interest and dividends received 2,509 2,449 141 161 5,280 land and building rentals 25 25 Net cash provided by investing activities 4,750 2463 141 181 7,515 Net change in cash andcash equivalents 212,266 (21,811) (4,670) 64 185,649

Cash and cashequivalents - beginning 187 236 308 819 21 795 19949 537 599 Cash and cashequivalents - ending $ 399,502 286,808 17,125 20,013 723,446

(Continued}

The notes to the financial statements are an integral partof this statement.

31 City of San Jose Statement of Cash Flows Proprietary Funds For the YearEnded June 30, 2004 ($000's)

Norman Y. Mlneta San Jose Wastewater Municipal International Treatment Water Parking Alregrt S�tem �stem snwm Totals Reconciliation of operating Income (loss}to net cash provided by operating activities:

Operating income �oss) $ (211703) 3233 943 (379) (17,906) Adjustments toreconcile operating income (loss) to net cash provided by operating activities: Depreciation and amortization 18,018 17,860 2,100 2,242 40,218 Other nonoperating revenues(expenses) 2,091 133 10 2,234 Decrease (Increase) in: Accountsreceivable 1,579 1,568 (757) (171) 2.219 Due from outside agencies 64 64 Inventories (22) (22) Prepaid expenses (178) (178) Increase (decrease) In: Accounts payable and accrued liabilities 2,751 (1 ,895) 871 541 2,268 Accruedvacation, sick leave and compensatorytime 215 107 13 13 348 Estimated liability forself-insurance 1,967 2,667 4 2 4,640 Deferred revenues 304 304 Advancesand deposits payable (220) !220} Total adjustments 26 525 20.349 2,364 2,637 51,875 Net cash provided byoperating activities $ 4,822 23,582 3,307 2,258 33,969

Reconciliation of cash and cash equivalents to the balance sheet: Equity in pooled cash and investments heldin City Treasury Unrestricted $ 66,740 265,095 17,125 18,475 367,435 Restricted 240,924 21,714 262,638 Other Investments 105,689 8,144 1,538 115,371 Less Investments not meeting

the definition ofcash equivalents {131851} !8, 145} {21,996} 286 808 399 502 17 125 20013 723.448

Noncash noncapital, capitaland related financing activities: Loss on disposalof capital assets $ (4) (4) Acquisition of capital assets on accounts payable and accruedliabilities 10,408 582 10,990 Bond discountl(premium) (820) (820) Capitalized interest 6,664 6,684 Unrealized loss on investments held by fiscal agent (3) (3) Contributions from developers and other funds 1,936 8,252 58,050 66,238

The notes to the financial statements are an integral part of this statement.

32 City of San Jose Statement of FiduciaryNet Assets FiduciaryFunds June 30, 2004 {$OOO's}

Pension James Lick Trust Private Purpose Agency Funds Trust Fund Funds ASSETS Equity in pooledcash and investmentsheld In City Treasury $ 13 4,442 Investmentsof retirement plans: Investments, excluding securities lending collateral 3,405,584 Securities lending collateral 331,815 Other cash and investments 32 Receivables (net of allowances for uncollectibles): Accrued investment income 14,249 21 Employeecontributions 1,214 Employer contributions 2,306 Due from brokers 180,297 Other 2,071 Total assets 3,937,536 45 4,463

LIABILITIES Due to brokers 283,484 Accounts payable 1,370 Securities lending collateral, due to borrowers 331,815 Accrued salaries,wages and payroll taxes 9 Adva nces, deposns and reimbursable credits 376 Other liabilities 4,903 3,084 Total liabilities 620,578 4,463

NET ASSETS Held in trust for: Employees' pension benefits 3,209,831 Employees' postemployment healthcare benefits 107,127 Other purpose 45 $ 3,316,958 45

The notes to the financial statements are an integral partof this statement.

33 City of SanJose Statement of Changes In Fiduciary Net Assets Fiduciary Funds For the Year Ended June 30, 2004 ($000's)

Pension James Lick Trust Private Purpose ADDITIONS Funds Trust Fund Investment income: Interest $ 50,317 2 Dividends 21,186 Net rental income 13,491 Net change in fair value of planinvestments 387,164 Investment expenses (12,645) Securities lending activities: Securities lending income 3,824 Securities lending expenses (3,055) Contributions: Employer 72,385 Employees 36,514 Total additions 569,181 2

DEDUCTIONS General and administrative 3,999 Health insurance 20,966 Refunds to terminated employees 1,321 Retirement and other benefits paid: Death benefits paid 9,430 Retirement benefits paid 115,027 Total deductions 150,743

Change In net assets 418.438 2

Net assets • beginning 2,898,520 43 Net assets . ending $ 3,316,958 45

The notes to the financial statements are an integral part of thisstat ement.

34 City of San Jose

Notes to Basic Financial Statements

June 30 2004

I. Summary of Significant Accounting Policies

A. Reporting Entity

The City of San Jose, California(the City), was chartered on March 25, 1850, and operates under a Council-Manager form of government. The City has defined its reporting entity in accordance with accounting principles generally accepted in the United Stales of America (GAAP), which provide guidance for determining which governmental activities, organizations, and functions should be included in the reporting entity. In evaluating how to define the City for financial reporting purposes, management has considered all potential component units. The primary criterion for including a potential component unit within the reporting entity is the governing body's financial accountability. A primary government is financially accountable if it appoints a voting majority of a component unit's governing body and it is able to impose its will on the component unit, or If there is a potential for the component unit to provide specific financial benefits to, or impose specific financial burdens on, the primary government. A primary government may also be financially accountable if a component unit is fiscally dependent on the primary government regardless of whether the component unit has a separately elected governing board, a governingboard appointed by a higher level of government, or a Jointly appointed board. Based upon the application of these criteria, the following is a brief description of each component unit included within the City's reporting entity. All such component units have been "blended" as though they are part of the primary government because the component unit's governing body is substantively the same as the City's governing body, and/or the component unit provides services entirely, or almost entirely, to the City or otherwise exclusively, or almost exclusively, benefits the City even though it does not provide services directly to it.

• Redevelopment Agency of the City of San Jose - The Redevelopment Agency of the City of San Jose (the Redevelopment Agency) was created by the City Council with the authority and responsibility for redeveloping and upgrading blighted areas of the City. The members of the City Council are also members of the Redevelopment Agency's Board of Directors and, as such, are authorized to transact business and exercise their power to plan, engineer, and carry out projects of the Redevelopment Agency.

• Parking Authority of the City of San Jose - The Parking Authority of the City of San Jose (the Parking Authority) was created by the City Council to provide funding through debt issuance for parking facilities constructed on City-owned land. Such parking facilities are leased to the City. Members of the City Council are also members of the Parking Authority's Board of Directors.

• San Jose - Santa Clara Clean Water Financing Authority - The San Jose - Santa Clara Clean Water Financing Authority (the Clean Water Financing Authority) was created pursuant to a Joint Exercise of Powers Agreement between the City, the City of Santa Clara, and certain other cities to finance the acquisition of additions and improvements to the existing San Jose - Santa Clara Water Pollution Control Plant (the Plant). The Clean Water Financing Authority is governed by a five-member Board of Directors, three are members of the City Council of the City of San Jose and two are members of the City Council of the City of Santa Clara. The Clean Water Financing Authority and the participating cities subsequently entered into an Improvement Agreement, which requires the cities to make base payments that are at least equal to the debt service requirements of the Clean Water Financing Authority's outstanding revenue bonds.

35 (Continued} City of San Jose

Notes to Basic Financial Statements

June 30 2004

• San Jose Financing Authority - The San Jose Financing Authority (the Authority) was created by a Joint Exercise of Powers Agreement between the City and the Redevelopment Agency. The Authority was created for the purpose of facilitating the financing of public improvements and facilities within the City and is authorized to issue bonds for this purpose. The Authority is governed by an 11 member Governing Board, which consists of the members of the City Council.

Separate financial reports for the year ended June 30, 2004, containing additional information as required by revenue bond indentures and more detailed information regarding financiaf condition and change in financial position, are available from the City's Director of Finance, 801 North First Street, Room 110, San Jose, CA 95110, for the following:

• Federated City Employees' Retirement System

• Police and Fire Department Retirement Plan

• Redevelopment Agency of the City of San Jose

• Norman Y. Mineta San Jose International Airport

• San Jose - Santa Clara Clean Water Financing Authority

B. New Pronouncements

The City is currently analyzing its accounting practices to determine the potential impact on the financial statements for the following GASB Statements:

In March 2003, GASB issued Statement No. 40, Deposit and Investment Risk Disclosures-an amendment of GASB statement No. 3. The deposits and investments of state and local governments are exposed to risks that have the potential to result in losses. This Statement addresses common deposit and investment risks related to credit risk, concentration of credit risk, interest rate risk, and foreign currency risk. As an element of interest rate risk, this Statement requires certain disclosures of investments that have fair values that are highly sensitive to changes in interest rates. Deposit and investment policies related to the risks identified in this Statement also should be disclosed. This statement is effective for the City's fiscal yearending June 30, 2005.

In November 2003, GASB issued Statement No. 42, Accounting and Financial Reporting for Impairmentof CapitalAssets and for Insurance Recoveries. This statementestablishes accounting and financial reporting standards for impairment of capital assets. A capital asset is considered impaired when its service utility has declined significantly and unexpectedly. This statement also clarifies and establishes accounting requirements for insurance recoveries. This statement is effective for the City's fiscal year ending June 30, 2006.

In April 2004, GASB issued Statement No. 43, Financial Reporting for Postemployment Benefit Plans Other Than Pension Plans. This statement establishes uniform financial reporting standards for other postemployment benefits (OPEB) plans. The approach followed in this statement generally is consistent with the approach adopted for defined benefit pension plans with modifications to reflect differences between pension plans and OPEB plans. The statement applies for OPEB trust funds included in the financial reports of plan sponsors or employers, as well as for the stand-alone financial reports of OPEB plans or the public employee retirement systems, or other third parties, that administer them. This statement is effective for the City's fiscal yearending June 30, 2007.

36 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004 in May 2004, GASB issued Statement No. 44, Economic Condition Reporting: The Statistical Section-an amendment of NCGA Statement 1. This statement amends the portions of NCGA Statement 1, Governmental Accounting and Financial Reporting Principles, that guide the preparation of the statistical section. The statistical section presents detailed information, typically in ten-year trends, that assists users in utilizing the basic financial statements, notes to basic financial statements, and required supplementary information to assess the economic condition of a government. This statement adds new information that financial statement users have identified as important and eliminates certain previous requirements. This statement is effective for the City's fiscal year ending June 30, 2006. In June 2004, GASB issued Statement No.· 45, Accounting and Financial Reporting by Employers for Postemployment Benefits Other Than Pensions, which addresses how state and local governments should account for and report their costs and obligations related to postemployment healthcare and other nonpension benefits. Collectively, these benefits are commonly referred to as other postemployment benefits, or OPEB. The statement generally requires that employers account for and report the annual cost of OPEB and the outstanding obligations and commitments related to OPEB in essentially the same manner as they currently do for pensions. Annual OPEB cost for most employers will be based on actuarially determined amounts that, if paid on an ongoing basis, generally would provide sufficient resources to pay benefits as they come due. This statement's provisions may be applied prospectively and do not require governments to fund their OPEB plans. An employer may establish its OPEB liability at zero as of the beginning of the initial year of implementation; however, the unfunded actuarial liability is required to be amortized over future periods. This statement also establishes disclosure requirements for information about the plans in which an employer participates, the funding policy followed, the actuarial valuation process and assumptions, and, for certain employers, the extent to which the plan has been funded over time. This statement is effective for the City's fiscal year ending June 30, 2008.

C. Financial Statement Presentation

Government-wide Financial Statements. The government-wide financial statements (i.e. the statement of net assets and the statement of activities) display information about the primary government (the City) and its component units. These statements include the financial activities of the overall government, except for fiduciary activities. For the most part, eliminations of internal activity have been made in these statements. These statements distinguish between the governmental and business-type activities of the City. Governmental activities, which normally are supported by taxes, intergovernmental revenues and other nonexchange transactions, are reported separately from business-type activities, which rely to a significant extent on fees charged to external parties.

The statement of activities presents a comparison between direct expenses and program revenues for each business-type activity of the City and for each function of the City's governmental activities. Direct expenses are those that are specifically associated with a business-type activity or function and; therefore, are clearly identifiable to a particular activity or function. Program revenues include 1) fees, fines and charges paid by the recipients of goodsor services offered by the programs and 2) grants and contributions that are restricted to meeting the operational or capital requirements of a particular program. Revenues that are not classified as program revenues, including all taxes, are presented instead as general revenues.

Fund Financial Statements. The fund financial statements provide information about the City's funds, including fiduciary funds. Separate statements for each fund category - governmental, proprietary and fiduciary - are presented. The emphasis of fund financial statements is on major governmental and enterprise funds, each displayed in a separate column. All remaining governmental funds are separately aggregated and reported as nonmajor funds.

37 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004

Fund accounting is designed to demonstrate legal compliance and to aid financial management by segregating transactions related to certain government functions or activities. A fund is a separate accounting entity with a self-balancing set of accou nts. The City reports the following major governmental funds:

The General Fund is the City's primary operating fund. It accounts for all revenues and expenditures necessary to carry out basic governmental activities of the City that are not accounted for through other funds.

The Redevelopment Agency Fund is a capital projects fund that accounts for administrative, operating, low-to-moderate income housing program, debt and construction activities necessary to carry out responsibilities for redeveloping and upgrading blighted areas in the City.

The Housing Activities Fund is a special revenue fund that accounts for the City's affordable housing activities.

The Spec/a/ Assessment Districts Fund is a capital projects fund that accounts for the capital project and debt activities related to debt issued to finance public improvements benefiting properties against which special assessments are levied.

The Civic Center Fund is a capital projects fund that accounts for the construction of a new civic center facility.

The City reports the following major enterprise funds:

The Norman Y. Mineta San Jose International Airport Fund accounts for the activities of the City owned commercial service airport.

The Wa stewater Treatment System Fund accounts for the financing, construction, and operation of the sewer system, the Water Pollution Control Plant (the Plant), and the regional water reclamation program.

The Municipal Water System Fund accounts for the operations of the five water system operating districts: North San Jose, Evergreen, Coyote, Edenvale and Alviso.

The Parking System Fund accounts for the operations of the parking lot facilities, parking lots and parking meters located within the City.

The City reports the following fiduciary fund types:

The Pension Trust Funds account for the accumulated resources to be used for retirement annuity payments to all members of the Federated City Employees' Retirement System and the Police and Fire Department Retirement Plan.

The James Lick Private Purpose Trust Fund is used to account for resources legally held in trust for use towards the support of the Eastfield Home of Benevolence (orphanage). All resources of the fund, including any earnings on invested resources, are used to support the organization's activities.

The Agency Funds account for assets held by the City in a custodial capacity on behalf of other agencies.

38 (Continued) Cityof San Jose Notes to Basic Financial Statements

June 30 2004

D. Measurement Focus and Basis of Accounting

The basis of accounting determines when transactions are reported on the financial statements. The government-wide, proprietary and fiduciary funds (excluding agency funds) financial statements are reported using the economic resources measurement focus. The government-wide, proprietary fund and trust funds financial statements are reported using the accrual basis of accounting. Revenues are recordedwhen earned and expenses arerecorded at the time liabilities are incurred, regardless of when the related cash flows take place. Nonexchange transactions, in which the City gives (or receives) value without directly receiving (or giving) equal value in exchange, include property and sales taxes, grants, entitlements and donations. On an accrual basis, revenue from property taxes is recognized in the fiscal year for which the taxes are levied. Revenues from sales and use, transient occupancyand utility users taxes are recognized when the underlying transactions lake place. Revenues from grants, entitlements and donations are recognized in the fiscal year in which all eligibility requirements have been satisfied.

Governmental funds are reported using the current financial resources measurement focus. This focus is on the determination of, and changes in financial position, and generally only current assets and current liabilities are included in the balance sheet. These funds use the modified accrual basis of accounting, whereby revenues are recognized in the accounting period in which they become both measurable and available lo finance expenditures of the fiscal period. For this purpose, the City considers revenues to be available if they are collected within sixty days of the end of the current fiscal period. Expenditures are generally recorded when a liability is incurred. However, principal and interest on long-term debt and certain estimated liabilities, such as compensated absences and self-insurance claims, are recorded only when payment is due.

In governmental funds, revenues from taxes, licenses, franchise taxes, interest, certain state and federal grants and charges for services associated with the current fiscal period are all considered to be susceptible to accrual and so have been recognized as revenues in the current period. Only the portion of special assessments receivables due within the current fiscal period is considered susceptible to accrual as revenue of the current period. All other revenue items are considered to be measurable and available only when cash is received by the City.

Proprietary funds distinguish between operating revenues and expenses from nonoperating items. Operating revenues and expenses generally result from providing services and producing and delivering goods in connection with a proprietary fund's principal ongoing operations. The principal operating revenues of the City's enterprise funds are charges lo customers for sales and services. Operating expenses for enterprise funds include the cost of sales and services, administrative expenses and depreciation on capital assets. All revenues and expenses not meeting this definition are reported as nonoperating revenues and expenses.

Under the terms of grant agreements, the City funds certain programs by a combination of specific cost-reimbursement grants, categorical block grants and general revenues. Thus, when program expenses are incurred, there are both restricted and unrestricted net assets available lo financethe program. It is the City's policy lo first apply restricted cost-reimbursement grant resources to such programs, followed by restricted categorical block grants, and then by unrestricted general revenues.

All governmental and business-type activities and enterprise funds of the City follow FASB Statements and Interpretations issued on or before November 30, 1989, Accounting Principles Board or any Accounting Research Bulletins unless those pronouncements conflict with or contradictGASB pronouncements.

39 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004

E. Assets, Liabilities, and Net Assets or Equity

1. Equity in Pooled Cash and Investments Held in City Treasury Most cash balances of the City's funds and some of its component units are pooled and invested by the City Treasurer unless otherwise dictated by legal or contractual requirements, income earned or losses arising from the investment of pooled cash are allocated on a monthly basis to the participating funds and component units based on their proportionate shares of the average weekly cash balance.

2. Deposits and Investments Pooled Cash and Investments held In City Treasury. Investments in securities purchased with the intent to trade for a profit are prohibited by the City's investment policy. Investments are accounted for in accordance with the provisions of GASB Statement No. 31, Accounting and Financial Reporting for Certain Investments and for External Investment Pools, which requires governmental entities to report certain investments at fair value in the statement of net assets or balance sheet and recognize the corresponding change in fair value of investments in the year in which the change occurred. The City reports its investments held in City Treasury at fair value. The fair value is based on quoted market information obtained from fiscal agents or other sources. Income from some investments is allocated directly to the General Fund rather than the fund that holds the investment on which the income was earned. The assignment of the income from these investments is supported by legal or contractual provisions approved by the City Council. The total investment income from these fu nds that was allocated to the General Fund was $4, 103,000 for the year ended June 30, 2004.

Retirement Systems. Investments of the Pension Trust Funds are reported at fair value and include securities lending transactions. Securities traded on a national or international exchange are valued at the last reported sales price on the last business day of the fiscal year at current exchange rates, if applicable. Investments that do not have an established market are reported at estimated fair value. The fair value of real estate investments is based on independent appraisals. Purchases and sales of securities are reflected on the trade date. Investment income is recognized as earned. Rental income is recognized as earned, net of expenses.

Investments in forward currency contracts are recorded commitments to purchase or sell stated amounts of foreign currency. The Retirement Systems utilized these contracts to control exposure and facilitate the settlement of international security purchase and sale transactions. At June 30, 2004, the Retirement Systems' net position in these contracts is recorded at fair value as short-term foreign currency investments. The fair value of forward currency contracts is determined by quoted currency pricesfrom national exchanges. The Retirement Systems' investment in forward currency contracts bear credit risk in that parties to the contracts may fail to perform according to the terms of the contract. As of June 30, 2004, total commitments in forward currency contracts to purchase and sell foreign currencies were $144,842,000 and $144,842,000, respectively, with market values of $144,712,000 and $145,250,000, respectively. The Retirement Systems' commitments relating to forward currency contracts will be settled on a net basis.

The municipal code permits the Retirement Systems to use investments of the plans to enter into securities lending transactions with their principal custodian banks (Custodians). These are loans of securities to broker-dealers and other entities for collateral, with a simultaneous agreement to return collateral for the same securities in the future. The custodial agreements with the Retirement Systems' Custodians authorize such custodians to loan securities in the Retirement Systems' investment portfolio under such terms and conditions as the Custodians deem advisable and to permit the loaned securities to be transferred into the name of the borrowers. The Retirement

40 (Continued) Cityof San Jose

Notes to Basic Financial Statements

June 30, 2004

Systems receive a fee from the borrower for the use of the loaned securities. If the loaned securities are not returned by the borrower, the Custodians are responsible for replacement of the loaned securities with other securities of the same issuer, class and denomination, or if such securities are not available on the open market, the Custodians are required to credit the Retirement Systems' accounts with the market value of such unreturned loaned securities. All securities loan agreements can be terminated on demand within a period specified in each agreement by either the Retirement Systems or borrowers.

Other Investments. Non-pooled investments are generally carried at fair value. However, investments in guaranteed investment contracts are carried at cost and special assessments bonds at amortized cost. Income from non-pooled investments is recorded based on the specific investments held by the fund. The interest income is recorded in the fund that earned the interest. 3. Cash and Cash Equivalents

Restricted and unrestricted pooled cash and investments held in the City Treasury and other unrestricted investments, invested by the City Treasurer, are considered cash equivalents for purposes of the statement of cash flows because the City's cash management pool and funds invested by the City Treasurer possess the characteristics of demand deposit accounts. Other restricted and unrestricted investments with maturities less than three months at the time of purchase are also considered cash equivalents for purposes of the statement of cash flows. 4. Inventory

Inventory of the proprietary funds is valued at the lower of cost (first-in/first-out) or market. In the governmental funds, inventory items are valued at average cost. Inventories of governmentalfunds are recorded as expenditures when consumed rather than when purchased. 5. Special items

Special items are significant transactions under management's control that are infrequent in occurrence. 6. Special Assessment Districts Special assessments are recorded as receivables when they become a lien on property. Special assessments not considered available are recorded as receivables and offset by deferred revenues in the governmentalfund financial statements. The special assessment bonds are fully secured by liens against the privately owned properties benefited by the improvements for which the bonds were issued. There is no reserve for delinquent receivables since priority liens exist against the related properties and hence the City's management believes value will ultimately be received by the City. Surplus funds remaining at the completion of a special assessment district project are disposed of in accordance with the City Council's resolutions and with the applicable assessment bond laws of the state of California. A liability is recorded for the balance remaining until a final legal determination has been made. 7. Advances and Deposits

Amounts deposited in connection with emi.nent domain proceedings and special assessment surpluses arereported as advances and deposits. In the governmental fund statements noncurrent portions of these are offset equally by either a deferred credit or a fund balance reserve account that indicates they do not constitute expendable financial resources available for appropriation.

41 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004

8. Other Assets Other assets primarily consist of real properties acquired outright and/or through foreclosure in connection with the housing rehabilitation program. These assets are recorded at the lower of cost or estimated net realizable value.

9. Bond Issuance Costs; Original Issue Discounts and Premiums and DeferredAmounts on Refundings In the government-wide financial statements and the proprietary fund financial statements, long­ term debt and other long-term obligations are reported as liabilities in the applicable governmental activities, business-type activities, or proprietary fund statement of net assets. Bond premiums and discounts, as well as issuance costs, are deferred and amortized over the life ofthe bonds. Bonds payable are reported net of the applicable bond premium or discount. Bond issuance costs are deferred and are amortized over the term of the related debt. Gains or losses occurring from advance refundings, completed subsequent to June 30, 1993, are deferred and amortized into expense for both business-type activities and proprietary funds. For governmental activities, they are deferred and amortized into expense if they occurred subsequent to June 30, 2001. In the fundfinancial statements, governmental fund types recognize bond premiums and discounts, as well as bond issuance costs, during the current period. Issuance costs, whether or not withheld from the actual debt proceeds received, are reported as debt serviceexpenditures.

10. Capital Assets Capital assets, which include land, buildings, improvements, vehicles and equipment, infrastructure and all other tangible and intangible assets that are used in operations and that have initial useful lives extending beyond a single reporting period. Capital assets are reported in the applicable governmental or business-type activity columns in the government-wide financial statements. Capital assets are defined as assets with an initial individual cost of more than $5,000 for general capital assets and $100,000 for major infrastructure assets, and an estimated useful life in excess of one year. Such assets are recorded at historical cost or estimated historical cost if purchased or constructed. Donated capital assets are recorded at estimated fair market value at the time received. Capital outlay is recorded as expenditures of the governmental funds and as assets in the government-wide financial statements to the extent the City's capitalization threshold is met. Interest incurred during the construction phase of capital assets of business-type activities is reflected in the capitalized value of the asset constructed, net of interest earned on the invested proceeds over the same period. Amortization of assets acquired under capital leases is based on the shorter of the lease term or the estimated useful life of the asset and is included in depreciation and amortization. Buildings and improvements, infrastructure, and vehicles and equipment are depreciated using the straight-line method over the following estimated useful lives:

Buildings 5 • 40 years Improvements, other than buildings 10 • 50 years Infrastructure 25 - 50 years Vehicles and equipment 2 -40 years intangible assets 40 years

Capital assets, which are used for general governmental purposes and are not available for expenditure, are accounted for and reported in the government-wide financial statements. Capital assets that meet the definition of the major infrastructure networks or extend the life of existing infrastructure networks are capitalized as infrastructure. infrastructure networks include road,

42 (Continued) City of San Jose

Notes lo Basic Financial Statements

June 30 2004

bridges, drainage systems, and lighting systems.

11. Compensated Absences -Accrued Va cation, Sick Leave, and Compensatory Tim e

Vested vacation, sick leave, compensatory time, and related benefits are accrued as appropriate. For governmental funds, compensated absence obligations are recorded in the appropriate governmental funds when due. The portion not currently due is recorded in the government-wide financial statements. For enterprise funds, compensated absences are expensed when earned by employees. At year-end, accrued but unpaid compensated absence obligations are recorded as current and non-current liabilities in the appropriate enterprise funds.

Vacation pay may be accumulated up to a total of 160 hours and carried forward for one year in mostcircumstances. Sick pay vests when a full-time employee reaches 15 years of service (20 years for police officers and firefighters) based on the following percentages, up to a maximum of 1,200 accumulated hours:

Hours Accumulated Amount Vested

1 to 399 50% 400 to 799 60% BOO to 1,200 75%

The amount vested for police officers who have accumulated over 1,200 hours of sick leave and firefighters who have accumulated over 1,680 hours of sick leave is 100%, provided that the employee is a serviceretiree (nondisability) or died while on active service.

Management employees who have 15 years of service become vested for 75% of an additional 192 hours of sick leave above the 1,200 hour maximum, provided these hours were earned in the last 2 years of service.

Payments for vacation and compensatory time to regularly scheduled part-time employees who retire after 15 years of service are prorated accordingly.

12. lnterfund Tra nsactions

lnterfund transactions are reflected as loans, services provided, reimbursements or transfers. Loans and balances related to unsettled service transactions are reported as receivables and payables as appropriate, are subject to elimination upon consolidation of similar fund types, and are referred to as either "due to/from other funds" (i.e., the current portion of interfund loans and unsettled service transactions) or "advances to/from other funds" (I.e., the noncurrent portion of interfund loans). Any residual balances outstanding between the governmental activities and the business-type activities are reported in the government-wide financial statements as "internal balances". Advances between funds, as reported in the fund financial statements, are offset by a fund balance reserve account in applicable governmental funds to indicate that they are not available for appropriation and are not available financialresourc es.

Services provided, deemed to be at market or near market rates, are treated as revenues and expenditures/expenses. Reimbursements are when one fund incurs a cost, charges the appropriate benefiting fund and reduces its related cost as a reimbursement. All other interfund transactions are treated as transfers. Transfers between governmental or proprietary funds are netted as part of the reconciliation to the government-wide presentation.

13. Self-Insurance

43 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30, 2004

The City is self-insured for workers' compensation, general liability, auto liability, and certain other risks. The City's workers' compensation activities are funded and accounted for separately in the fund financial statements based upon the activities of each fund. The current portion of claims liability are accounted for in the General Fund and the enterprise funds on the basis of settlements reached or judgments entered within the current fiscal year. In the government-wide financial statements and the enterprise fund financial statements, the estimated liability for all self-insurance liability claims is recorded as a liability.

14. Net Assets/Fund Equity

The government-wide and proprietary fund financial statements utilize a net assets presentation. Net assets are categorized as invested in capital assets (net of related debt), restricted, and unrestricted.

• Invested In Capital Assets, Net of Related Debt - This category groups all capital assets, including infrastructure, into one component of net assets. Accumulated depreciation and the outstanding balances of debt that are attributable to the acquisition, construction, or improvement of these assets reduce the balance in this category.

• Restricted Net Assets - This category represents net assets that have external restrictions imposed by creditors, grantors, contributors or laws or regulations of other governments and restrictions imposed by law through constitutional provisions or enabling legislation.

• Unrestricted Net Assets - This category represents net assets of the City, not restricted for any project or other purpose.

In the governmental fund financial statements, reserves and designations segregate portions of fund balance that are either not available or have been earmarked for specific purposes. The various reserves and designations are established by actions of the City Council and management and can be increased, reduced or eliminated by similar actions.

As of June 30, 2004, reservations of fund balance are described below:

• En cumbrances - to reflect the outstanding contractual obligations for which goods and services have not been received.

• Noncurrent advances, loans, other assets, and cash commitments - to reflect the portion of assets which are not available spendable resources.

• Debt service - to reflect the funds held by trustees or fiscal agents for future payment of bond principal and interest. These funds are not available forgeneral operations.

Portions of ui:ireserved fund balance may be designated to indicate tentative plans for financial resource utilization in a future period. Such plans or intent are subject to change and have not been legally authorized or may not result in expenditures. Fund balance designations include:

• Contingencies - to reflect management's intent to expend certain funds for unanticipated needs.

• Future projects and redevelopment activities - to reflect management's intent to expend certain funds approved for capital projects in prior year's but not yet completed.

The unreserved governmental fund balance designations at June 30, 2004 are composed of the

44 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

following (in thousands):

Special General Redevelopment Housing Assessment CMe Nonmajor Fund Agency Activities Districts Center Funds Total

Unreserved, designated for: Future projects $ 85,146 29,466 26,821 276,723 418,156 ConllngencleS 66,611 68,611 Redevelopment activities 144,107 144, 107 Undeslgnated (1,245) ------1 245 -- '-- ---''"',,:,ez.) Tolalunreserved fund balances fund balances $ 153,757 144,107 (1,245) 466 26,821 276,723 629,629 _...... ,== 29..

15. Property Taxes

Property taxes are collected on behalf of and remitted to the City by Santa Clara County (the County). The amount of property tax levies is restricted by Article 13A of the California State Constitution (commonly referred to as Proposition 13).

The County assesses property values, levies, bills, and collects the related property taxes as follows:

Secured Unsecured Valuation/lien dates January 1 January 1 Levydates October 1 July 1 Due dates (delinquent after) 50% on November 1 (December 10) July 1 (August 31 ) 50% on February 1 (April 10)

The City has elected to participate in the "Teeter Plan" offered by the County whereby cities receive 100% of secured property and supplemental property taxes levied in exchange for foregoing any interest and penalties collected on the related delinquent taxes. Accordingly, property taxes levied for the fiscal year are recorded as revenue when received from the County. General property taxes are based either on a flat 1 % rate applied to the fiscal 1976 fullvalue of the property or on 1 % of the sales price of the property on sales transactions and construction that occur after the fiscal 1976 valuation. Assessed values on properties(exclusive of increases related to sales and construction) can rise at e maximum of 2% per year depending on increases in the consumer price index.

The City's net assessed valuation for the year ended June 30, 2004, was approximately $90,040,619,000, an increase of approximately 4% over the previous year. The tax rate was approximately $0.181 per $100 of assessed valuation, which included the 1% basic levy and additional levies for general obligation bonds Measures ·o· and •p• . 16. Wa stewater TreatmentSystem

The Wastewater Treatment System is an enterprise of the City and is comprised of the Water Pollution Control Plant (the Plant), South Bay Water Recycling, the Clean Water Financing Authority, and the San Jose Sewage Collection System.

The Plant provides wastewater treatment services to the City of San Jose and to seven other sewage collection agencies. The Clean Water Financing Authority was established to provide financing for the capital programs of the Plant and the regional water reclamation program. The

45 (Continued) Cityof San Jose

Notes to Basic Financial Statements

June 30, 2004

City's sewer service rates pay for the City's share of the Plant operations, maintenance, administration and capital costs.

in 1959, the City and the City of Santa Clara entered into an agreement to jointly own and operate the Plant. Under the agreement, the City of San Jose serves as the administering agency and is responsible for operating and maintaining the Plant. The cities own an undivided interest in the Plant and share in the capital and operating costs on a pro rata basis, determined by the ratio of each city's assessed valuation to the sum of both cities' assessed valuations. Such percentages are determined annually and applied to the capital and operating costs of the funds, determined on an accrual basis.

For the year ended June 30, 2004, the City's portion was approximately 80% and, based on operations through the year ended June 30, 2004, the City's interest in the net assets of the Plant is approximately 80%. 17. Use of Estimates

A number of estimates and assumptions relating to the reporting of revenues, expenditures/expenses, assets and liabilities, and the disclosure of contingent liabilities were used to prepare these financial statements in conformity with accounting principles generally accepted in the United States of America. Actual results could differfrom thoseestimates. II. Stewardship, Compliance, and Accountability

A. Deficit Fund Balances

The nonmajor capital project Fiber Optics Development fund and the Civic Center Improvement fund reported deficit fund balances of $2,358,000 and $1,014,000 respectively. The Fiber Optic fund deficits will be eliminated with future lease revenues. The Civic Center Improvement fund deficit will be eliminated from commercial paper proceeds in fiscal year 2005. The nonmajor Convention and Cultural Facilities fund also reported a deficit fund balance of $544,000. It is anticipated thisdeficit will be eliminated with future operatingtransfers from the General Fund.

Ill. Detailed Notes on All Funds

A. Cash and Investments

Pooled Cash and Investments held in City Treasury. The City maintains a cash and investment pool that is available for use by all funds and certain component units. Each fund's portion of this pool is displayed on the accompanying governmental fund balance sheets and proprietary fund statement of net assets as "Equity in pooled cash and investments held in City Treasury.•

The City Council adopted an investment policy on April 2, 1985, as amended on March 23, 2004, related to the City's cash and investmentpool which is subject to annual review. The policy permits investments in obligations of the U.S. government, commercial paper of domestic corporations with assets in excess of $500,000,000 and the highest ranking or with the highest letter and number rating as provided for by Standard and Poor's, Moody's Investors Service or Fitch, bankers' acceptances, negotiable certificates of deposit, insured time deposits, uninsured time deposits of City area banks rated "B" or better by Fitch, repurchase agreements, reverse repurchase agreements, money market mutual funds, the State of California Local Agency Investment Fund, and medium-term U.S. corporation notes. Guaranteed investment contracts may be used for the investment of bond proceeds in accordance with the permitted investment provisions of the specific bond indentures.

46 (Continued) Cityof San Jose

Notes to Basic Financial Statements

June 30 2004

Reverse repurchase agreements under the City's investment policy are limited to the lesser of $25,000,000 or 20% of the portfolio value and to those occasions where unanticipated short-term cash requirements can be met more advantageously by initiating a reverse repurchase agreement than by selling a security into the secondary market prior to maturity.

No more than 5% of the total portfolio can be invested in instruments of any single institution other than securities issued by the U.S. government and its affiliated agencies.

The City has the ability and generally has the intention to hold all investments until their respective maturity dates. The average maturity of the City's pooled cash and investments as of June 30, 2004, was approximately 15 months. If it becomes necessary or strategically prudent for the City to sell a security prior to maturity, the investment policy allows for occasional restructuring of the portfolio to minimizethe loss of market value and/or to maximize cash flows.

In order to protect against sudden declines in fair value, the investment policy requires that securities used as collateral for all repurchase agreements have a market value of no less than 102% of the face value of the securities. The City Treasurer monitors compliance with this policy daily.

The City's investment policy permits the Director of Finance to authorize investments that depart from the policy's numerical limitsif such an action is in the best interest of the City and is otherwise consistent with the investment policy and applicable City, State and Federal laws. Whenever a deviation from this policy is made, it must be reported to the City Manager and the City Council within one business day. No deviations from the City's policyoccurred during fiscal 2004.

Other deposits and investments outside the City Treasury are invested pursuant to governing bond covenants, San Jose Municipal Code or California Government Code provisions. The following provides a brief description of the nature of these investments.

Pension Trust Funds. The Retirement Systems' funds are invested pursuant to policy guidelines established by the Retirement Systems' Boards. The objective of the investment policy is to maximize the expected return of the funds at an agr.eed upon level of risk. The Retirement Boards have established percentage guidelines for types of investments to ensure the portfolio is diversified. As of June 30, 2004, the Retirement Systems had no investments in any one organization that represented 5% or more of plan net assets. Other Investments. Other investments consist primarily of deposits and investments with trustees related to the issuance of bonds and to certain loan programs operated by the City. These investments are made either in accordance with bond covenants and are pledged for payment of principal, interest, and specified capital improvements or in accordance with trust and grant agreements. 1. Deposits and Investments Total City deposits and investments, at fair value, are as follows (in thousands of dollars):

47 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

Flc:tud1ry Funds Gcvemmental Business-type Private-Purpose Pension Carrying Activtttes Activities Trust Trust Agency Value EquityIn pooled cashand investments $ 670,214 367,435 " 4.442 1,042,104 Othercash and Investments 99,055 32 99,087

Restricted lnveslmenls: Equity in pooled cashand investmenls 74,509 262,639 337,148 Othercash and inveslmen!S 367,324 115,371 492.695 Investment in retirement plans �737,399 3737,398

Total deposilSand investments $ 1211 102 745,445 45 3?37!399 4,442 5,698433

Deposits 37,924 Investments 5.660,509 Tolal deposits and investments S 5698,433

The City entered into several repurchase agreements during the year ended June 30, 2004. However, at year-end, there were no outstanding, unfulfilled agreements. 2. Deposits As of June 30, 2004 the carrying amount of the City's deposits was $37,924,000, and the bank balance was $62,648,000. The difference between the carrying amount and bank balance relates to outstanding checks and wire transfers issued against the general operating account. Of the bank balance, $484,000 was covered by federal depository insurance and $62,1 64,000 was uninsured. The uninsured deposits of $62, 164,000 are held by financial institutions which are legally required by the California Government Code lo collaleralize the City's deposits by pledging government securities or first trust deed mortgage notes. The market value of the pledged governmentsecurities and first trust deed mortgage notes must be at least 110% and 150% of the City's deposits, respectively. The collateral is held by the pledging financial institution's trust department and is considered held in the City's name. 3. Investments The City's investments that are represented by specific identifiable investment securities are categorized by level of custodial credit risk (the risk that a counterparty to an investment transaction will not fulfill its obligation). Category 1, the lowest risk, includes investments that are insured or registered or for which securities are held by the City or its agent in the City's name. Category 2 includes investments that are uninsured and unregistered with securities held by a counterparty's trust department or agent in the City's name. Category 3, the highest risk, includes investments that are uninsured and unregistered with securities held by the counterparty, or by its trust department or agent, but not in the City's name. At June 30, 2004, the City did not hold any category 3 investments.

48 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004 The City's investments by category as of June 30, 2004, are as follows (in thousands of dollars):

Category Non Carrying Type of lnvesbnent 2 Categorized Value Pooled investments in !heCity Treasury; U.S. Treasury bills $ 290 290 U.S. Treasury notes and bonds 79,852 79,852 U.S. Government securities 846,000 846,000 Bankers' acceptances 8,922 8,922 Commercial paper 95,662 95,662 Moneymarket mutual fund& 5,104 5,104 Local agercyinvestment fund 362.341 362,341 Totalpooled investments in theCfty Tre asury 1,030,726 367,445 1,398,171 Retirement Systems: U.S. Treasurynotes andbonds: Not on&ea.1rities loan 95,348 95,348 Loaned securitiesfor cashnon collateral 12,162 12, 162 U.S. Government seculitles 371 ,194 371,194 Foreign governmentbonds 166,703 166,703 Domesticoo,porale bonds: Noton securitiesloan 248,597 248,597 Loaned securities fornon cash collateral 4,411 4,411 Foreign corporate bonds 57,702 57,702 Domestic equitysecurities 1,243,040 1,243,040 Foreign equity securities: Nol onsecurities loan 617,075 617,075 Loaned securitiesfor non cash collateral 2,024 2,024 stateand localobligations 1,711 1,711 lmestments hekSby broker-dealerunder securities loans for: U.S. Treasury notes andbonds 80.036 80,036 U.S. Governmentsecurities 18,568 18,568 Foreigngovernment bonds 2.535 2,535 Domestica,rporate bonds 107,008 107,008 Dofnestfcequity securities 75,364 75,364 Foreign corporate bond$ 1,010 1,010 foreignequity securities 35,310 35,310 Sholl-termforeign arnn:yinvestmenls {536) (536) Ccilectlve short·tenn Investment fund 101,017 101,017 Realestate 165,307 185,307 Investments Inlending agents' short·term Investmentpool 331,815 331,815 Total Investmentsin reUrementplans 2,819,967 9H,432 3,737,399 Otherfunds: U.S. TreaSUl)'bills 3,545 3,545 U.S. Treasurynotes and bonds 18,553 18,553 U.S. Government securities 35,714 35,714 Moneymarket mutuw funds 184,746 184,746 Guaranteed Investment contracts 43,373 43,373 Investmentin refundingand speclal assessment bonds 3.252 3,252 Localagency investmentfund 235,756 235,756 Total otherfunds 57,812 467,127 524,939 Total investments $ 3,850,893 57,812 1,752,004 5,660,509

49 {Continued) Cityof San Jose

Notes to Basic Financial Statements

June 30, 2004

Included in "Restricted assets: Other investments• in the governmental funds are $2,815,000 of the City's 1994 Consolidated Refunding Bond Series 24M with interest rates ranging from 5.59% to 6.0% and maturing in September 20 07 and $437,000 of the City's Seismic Resistance Improvement Series 24K Special Assessment Bonds with interest rates of 8.50% and maturing in September 2013. · The carrying amount of these two investments was $3,252,000, including unamortized discount of $1 25,000, as of June 30, 2004.

The Local Investment Advisory Board (Board) has oversight responsibility for the State of California's Local Agency Investment Fund (LAIF). The Board consists of five members as designated by state statute. The value of the pool shares in LAIF that may be withdrawn is determined on an amortized cost basis, which is different from the fair value of the City's position in the pool.

As of June 30, 2004, the City's investment in LAIF is $598,097,000. The total amount recorded by all public agencies in LAIF at that date is $57,601,000,000. Of that amount, 98% is invested in non­ derivative financial products and 2% in structured notes and asset backed securities.

In return for loaned securities, the Retirement Systems receives collateral in the form of cash or securities at 102% to 107% of the principal plus accrued interest fo r reinvestment. Securities lent at year-end for cash collateral are presented as noncategorized in the preceding categorization of the Retirement Systems' investments; securities lent for noncash collateral are categorized according to the category of related collateral.

Securities lending collateral represents investments in an investment pool purchased with cash collateral, as well as securities collateral that the Retirement Systems may pledge or sell without a borrower default, are not reported as assets and liabilities in the fiduciary statement of net assets. The Retirement Systems do not match the maturities of cash collateral with the securities on loan.

As of June 30, 2 004, the underlying securities loaned out for the Retirement Systems as a whole amounted to approximately $338,428,000. The cash collateral and the noncash collateral as a whole totaled approximately $331,815,000 and $19,134,000, respectively. The Retirement Systems have no exposure to credit risk related to the securities lending transactions as of June 30, 2004.

The collective short-term investment fund is used for overnight investment of all excess cash in the Retirement Systems' funds. It is invested by the Retirement System custodians, and held in the Retirement System custodians' names. This fund consists of:

• Short-term fixed obligations of the U.S. government or any federal agency, or of other issuers that are fully guaranteed by the U.S. government or a federal agency as to repayment of principal and the payment of interest;

• Repurchase agreements with major banks and U.S. government securities dealers that are collateralized by obligations of the U.S. government or a federal agency, or obligations fully guaranteed by the U.S. government or a federal agency; and

• Fully insured bank deposits.

50 (Continued) City of San Jose Noles to Basic Financial Statements

June 30, 2004

B. Receivables, N.et of Allowances

Receivables at year-end of the City's major individual funds and nonmajor funds in the aggregate, including the applicable allowances for uncollectible accounts are as follows (in thousands of dollars):

Speclal t... , Raettlvabkl1- General Red1tvelopment Housing Assessment Nonmajor Gowrnment1I Governmental Act!Vlties: '""' AQenc;y Actlvltltl Districts Funds "'""'"'

T- s 33,739 2 7,515 41,256 AccruedInterest 1,927 293 1,185 180 3,139 6,724 "''"' 785 172 8,15 9,772 Spectalas,eumenta '"' 85,263 85,467 00.. 22,573 1,212 15< 61 8,875 32,875 L811:allowance i:lr 1.mcollaclibles {8.232) • 3 (609) (8,852} Total receivables, net • 50,792 1.701 2,111 85,503 27,135 167.242

NonnanY. Mlnebl SanJott Watew1ler MunlcJpal Total lntemattonal Tniatmenl .,...., Parking Bu$1nns-,,Typt eumn.. TpActMtln:: AJ,port System S}'!!!m Sptem AcllYllln

$ 6..078 2,983 2,520 531 14,110 - 1,108 1,2117 .. 98 ,.... """*-- 2,178 ,...... allowanceunoollecllblel for Leu: (449) (327) f12) /8) (1961 Total teceivables, net s 10913 6,1141 2,594 621 20,789

c. Loans Receivable The composition of the City's loans receivable as of June 30, 2004 is as follows (in thousands of dollars):

Total General RedrtValopment Housing Nonmajor Governmental TYp!of Loan Fund Agency Activities Funds ActMtles

20%Housing Program Developer, rehabilitation,

second mortgage and relocatlon loans s 4,548 402,726 407;1.74

Loans funded by federal grants 3,227 'fl,266 30,493 Economic development, real estate developer

and otherloans 2,650 31,501 74 13,531 47,758

less: allowance (3,446) (222,988) (3,174) (229,608) Total loans, net $. ===·=·•so .... 35,830 207,078 10,357 255,915 California Community Redevelopment Law requires that at least 20% of the incremental tax revenues generated from redevelopment project areas be used to increase, improve, and preserve the affordable housing stock for families and individuals with very low, low, and moderate incomes. In response to this requirement, the City established its 20% Housing Program to offer financial assistance to qualified developers, families, and individuals by providing loans at "below marker rates.

51 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

Typical loans and related terms are summarized as follows:

Loan Type Interest Rate Due New construction 0-4% up to 55 years Multi-unit rental rehabilitation 3% 5 or more years Take-out (first time homeowners) 4% 7 to 40 years Home improvement 3-6% 1 to 30 years

Loans are secured by first, second, or third deeds of trust except for take-out loans, which are all secured by second deeds of trust. Interest and principal are typically due in installments, except for take-out loans, which do not require payments until their due date.

The City has also invested in multi-family rental housing projects serving low to moderate income individuals through subordinate loans with terms of up to 40 years. Generally, these loans are to be repaid through fixed payments or net cash flow from project operations, and the term and potential risk of each loan is different. Because of the net cash flow feature of these second mortgages, earnings and repayments are not as definite as with other loans receivable. There is greater risk of variability in the timing of payments and, potentially, a lower probability of eventual repayment on these second mortgage loans than on other loans.

The City maintains a valuation allowance against loans receivable comprised of an allowance for risk and an allowance for present value discount. The allowancefor risk is maintained to provide for losses that can be reasonably anticipated. The allowance is based upon continuing consideration of changes in the character of the portfolio, evaluation of current economic conditions, and such other factors that, in the City's judgment, deserve recognition in estimating potential loan losses. The allowance for risk takes into consideration maturity dates, interest rates, and other relevant factors.

In accordance with City policy, loans are funded at below market rates of interest with amortizing and deferred repayment terms. This policy exists to enhance the well being of the recipients or beneficiaries of the financial assistance who, as described above, are very low, low, or moderate income individuals or families, or developers of housing for such individuals or families.

Accordingly, for financial statement purposes, the City has established an allowance account against the loans receivable balance containing a present value discount. The present value discount gives recognition to the economic cost of providing loans at interest rates below market, and represents an estimate of the present value of projected net cash flows to the City from the loan portfolio. The present value discount attributable to the loans will be recognized as interest income only as such loans are repaid in full because of the deferred nature of the loan portfolio and the high level of uncertainty relating to the likelihood that cash flows will occur as projected. The difference between the individual outstanding loan balances and the calculated net present value of the loans results in the allowance for present value discount. Losses are recognized through charges to the allowance and any subsequent recoveries are added to the allowance.

The City's management believes the combined amount of the aforementioned risk and present value discount allowances is adequate to reflect the net realizable value of the Community Development Block Grant (CDBG) loans. Home Investment Partnership Program (HOME) loans, and 20% Housing Program loans receivable as of June 30, 2004.

In the normal course of operations for housing programs. the City has outstanding commitmentsto extend credit, which have been encumbered as of June 30, 2004. These commitments involve elements of credit and interest rate risk similar to those described above for outstanding loans

52 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004 receivable. As of June 30, 2004, amounts committed to extend credit under normal lending agreements totaled approximately $7,413,000.

D. Capital Assets

1. Summary Schedule The following is a summary of capital assets activity for the fiscal year ended June 30, 2004 (in thousands):

53 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

Balance Balance June30, 2003 Addttlons Deletions Transfers June 30, 2004

Governmental actMtles: Capital assets. notbeing depreciated: (9,430) . larnl $ 4SO,n9 29,692 26,731 474,260 , Construction in progress 356.265 237,122 2,339 (99 633} 491,415 Total capltaJ assets, not being depreciated 636,994 266,814 29,070 (109,063) 965,675 capital assets, being depreciated; Buildings 526,465 2,163 45,673 574,321 38,m lfllKOvements, otherthan bul!dlngs 34,407 4,365 11,021,591 Infrastructure 10,991,415 27,202 2,974 Vehldes and equipment 86,993 4,556 3,500 87,969 Property- under capital teases 13,379 13,379 Totalca pitalassets, being depreciated 11,652,659 33,941 3,580 53,012 11,736,032 Less accurru!ated depreciation for: Buildings 151,017 15,983 167,000 tfl'l)l"O'vements. otherthan buildings 5,495 1,759 7.254 4, 1ZJ,873 lnt'mstructure 3,827,289 296,584 Vehidesand eqUlp�nl 65,030 9,861 3.455 71,436 Propertyunder capita! teases 10,749 311 11,060 Total aco.. urulated depreciation 4,059,580 324.498 3,455 4,380,623 Total capital assets,being depreciated, net 7,593,079 (290,557) 125 53,012 7,355,409 Gover,mental aettviUescaplla l assets. net $ 8,430,073 (23,743) 29,195 {56,051) 8,321,084

Buslnes&..type Actlvttlu: Capital assets. not being depreciated: Larnl $ 117,211 4 9,430 126.,645 ConstructionIn progress 86,448 84,023 (44,146) 126.325 Totalca pitalassets, not beingdepreciated 203,659 84,027 (34,716) 252,970 Cepltal assets. being depredaled: Buildings 558,840 1,881 56,993 817,714 lfTVOvements. otherlhan buUdlngs 655,384 30.229 33,653 719,266 Vehldesand eqt.ipment 31,041 1,226 87 121 32,301 15,188 15,188 -·-Property under capita! leases 13,406 13,406 Totalca pital assets, being depreciated 1,273.859 33,336 87 90,767 1,397,875 Lessaccumulated depreciation for: Buildings 235,490 18,838 254,328 �n-enls, otherthan buildings 251,781 17,733 269,514 Vehiclesand equipment 23,146 1,732 83 24,795 Intangible assets 5,961 324 6,285 Propertyunder capital teases 7,878 455 8,333 Total accumJlateddepreciation 524,256 39,082 83 563,255 Totalcapjtal asse1s.being depreciated, net 749,603 (5,746) 4 90,767 834,620 Business-type activitiescapital assets, net $ 953,262 78,281 4 56,051 1,087.590

54 (Continued) City of San Jose

Noles to Basic Financial Statements

June 30, 2004

2. Depreciation

Depreciation expense was charged to functions/programs of lhe City as follows (in thousands):

Governmental activities: General government $ 6,464 Public safety 1,931 Capital maintenance 298,164 Community services 17,923 Sanitation 16 Total depreciation expense 3 governmental activities $ ===2=4=,4=98=

Business-type activities: Norman Y. Mlneta San Jose International Airport $ 17,066 Wastewater Treatment System 17,674 Municipal Water System 2,100 Parking System 2,242 Total depreciation expense business-type activities $ ==39,082� = ;,.;;;;;

3. Intangible Assets

Intangible assets consist primarily of the Airport's acquisition of certain habitational rights and navigation/relocation easements made in accordance wilh its land acquisition program under lhe California Noise Reduction Act. All costs associated wilh such acquisitions have been capitalized as intangible assets. Amortization of such intangible assets is calculated using the straight-line method over a 40 year estimated useful life.

4. Capitalized Interest

Interest costs that related to the acquisition of buildings and improvements and equipment acquired wilh tax-exempt debt are capitalized for business-type activities. The amount of interest to be capitalized Is calculated by off-setting interest expenseincurred from the date of the borrowing until completion of the project, with interest earned on invested debt proceeds over the same period. Capitalized interest cost is prorated to completed projects based on the completion date of each project. For the year ended June 30, 2004, lhe total amount of interest capitalized in the Airport Enterprise Fund, net of allowable interest earned of temporary investment proceeds, was $6,684,000.

5. Construction Commitments

Commitments outstanding as of June 30, 2004, related to governmental and business-type activities construction in progress totaled approximately $203,157,000 and $125,655,000, respectively.

55 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30, 2004

E. Leases

1. GovernmentalActivities

General Fund. In October 1991 . the City entered into a 15-year agreement with the San Jose Arena Management Corporation (the Manager), an unrelated entity, regarding the management, operations, and maintenance of the San Jose Arena, and use of the San Jose Arena by the San Jose Sharks, a franchise of the National Hockey League. The Manager is required to pay the City an annual payment of $500,000 in each of the first 6 years of the agreement. The annual payment increases by $100,000 each year in years 7 through 10 and totals $1,000,000 annually in years 11 through 15. Additionally, the City will receive a portion of luxury box suite revenue beginning· in year 4 and may receive a portion of hockey ticket sales revenues in years 11 through 15. Fiscal year 2004 was year 11 of the lease for which the City received approximately $4, 149,000.

Lease Commitments. The City has commitments under various operating lease agreements for business equipment, office facilities and land necessary for City operations which expire at various dates through 2019. Various governmental funds include expenditures related to such lease agreements. The lease agreements are cancelable by the City at any time. Annual rent in fiscal 2004 for such operating leases for the General Fund and the Redevelopment Agency Fund was approximately $6,000,000 and $4,119,000, respectively. In addition, the City is party to a master equipment capital program and is authorized up to $15,000,000 for various equipment and properties, the terms ofwhich extend through the year 2005. The assets and related obligations for capital lease agreements are recorded in the government-widefinancial statements.

The following is a schedule, by year, of future minimum rental payments required under several noncancelable operating and capital leases as of June 30, 2004 (in thousands): General Fund Redevelopment Agency Minimum Payment Income Net Fiscal Year Operating Capital Operating from Minimum Ending June 30, Leases Leases Leases Subleases Payments 2005 $ 5,075 17 3,554 (301) 3,253 2006 2,778 1,699 (98) 1,601 2007 1,301 782 782 2008 1,134 605 605 2009 1,124 556 556 2010-2014 2,987 2,987 2015-2019 3,463 3,463 Futureminimum payments $ 11,412 17 13,646 {399) 13,247

56 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004

2. Business-Typ e Activities

Lease Commitments. The Airport is served by 15 major commercial airlines under terms and conditions that provide the airlines with the right lo use the Airport's facilities, equipment, improvements and services, and to occupy certain premises and facilities. Of these airlines, 9 operate under long-term lease agreements, while the 6 remaining airlines operate on a month-lo­ monlh basis. Such long-term lease agreements incorporate a "residual cost methodology," as called for under the Master Lease Agreements, whereby landing fees and terminal rents are set such that, over lime, the Airport's total revenues equal total expenses, including debt service requirements and certain budgeted capital items, as well as estimated maintenance and operation expenses, but excluding depreciation.

As provided in the Master Lease Agreements, actual year-end surplus, as defined, can be used to lower or stabilize airline rates in future fiscal years. For the year ended June 30, 2004, the Airport's actual revenues exceeded its expenses and reserve requirements by approximately $26,264,000. The surplus for 2004 will be credited to the airlines as a reduction of future rates and charges.

The Airport also enters into leases with concessionaires, airline carriers, and other business entities for building space and/or the privilege of operating a concession al the Airport. The terms of these operating leases range from 1 month lo 34 years. The leases with concessionaires are generally based on the greater of a percentage of their sales or a minimum annual guaranteed amount.

The future minimum rentals to be received from the aforementioned operating leases as of June 30, 2004, are as follows (in thousands):

Fiscal Year Ending June 301 2005 $ 23,150 2006 14,416 2007 13,957 2008 8,386 2009 4,716 2010-2014 15,274 2015-2019 10,111 2020-2024 7,717 2025-2028 7,448 2030-2034 5,335 2035-2038 3,824 Future minimum lease rentals $ ===11=4=,3=34=

These future minimum rentals are based upon annual rates and charges agreed to by the airlines and other tenants. In addition to the future minimum rentals disclosed above, the Airport expects to receive approximately $12,536,000 from month-to-month rentals in fiscal 2005.

57 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

In June 1998, the Airport entered into an operating lease agreement for the rental of office space. The lease, which commenced on December 1, 1998, is for a period of seven years, with an option to extend for one additional period of three yeai:s. In November 2000, the operating lease agreement was amended to include additional office space. The amendment to the lease commenced on November 15, 2000, with the same terms as the original lease. In June 2003, the operating agreement was again amended to extend the term through December 2009. The amended agreement also decreased the rate for the current space and increased the leased space effective December 1, 2003. In July 2003, the Airport entered into a sublease agreement for the rental of additional office space. The lease commenced on August 1, 2003, and will expire on January 31, 2009. Rental expenses for the office space was $2,771,000 for the fiscal year ended June 30, 2004.

The future minimum lease payments anticipated under the existing lease commitments as of June 30, 2004, are as follows (in thousands): Operating Fiscal Year Ending June 30, Leases 2005 $ 3,084 2006 3,090 2007 2,901 2008 2,745 2009 3,024 2010 1,548 Total minimum lease payments $ 16,392

58 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004

F. Long-Term Debt and other Obligations

1. SummarySchedule of Long-Term Debt

The following is a summary of long-term debt of the City as of June 30, 2004 (in thousands):

Principal Balance, lnu• ....., Range of Payments June 30, Purpose Amount lffueDate Maturity Interest Rates (mllllon•! 2004 Governmentalktlvlfin: City Of 5anJose: GeMr.111OWQation BCWlds; senes200 t (libraries and Parks} Community Facilities s 71,000 08/01J2001 09/01/2031 4.25-6.125% 2.37 $ .,.. 5eries 2002(Lib�, Palks, Public Safety) Community Facilities 118,090 3.00-5.00% .. 07/18/2002 09f0112032 3.87 112.220 178,400 City of San JoseFinancing Authority: Lease RevenueBonds: Series 19938(Community Facilities) Community Facmues 18,045 03/01/1993 11/1ffJ2018 5.40-6.00% 0.81-1.11 11,513 Series 1997A(Golf Coura:e Project) Community Facilities 8,876 07/01/1997 08/1"""27 5.30-5.60% 0.13--0.46 6,395 Seflea 19978(Fire, Chlldeare, library Land) Community Facilities Sl,805 07/01/1997 08/01/2012 4.35-4.875% 0.36·1.07 5,395 Series2DOOB (Tuers-Capttd/Camden} GOifCoorae!Refuncling 22,635 08/08/2000 08115/20� 4.70-5.50% 0.14-1.67 22,245 Sertes2000C (Taxable) (Ice Centre) Refunding 22,200 1211312000 12/01/2021 Variable 0.75·2.05 22,200 Serles (Taxable)20010 (Hayes Mansion) Conference Center 24,000 02114/2001 07/01/2024 Variable 0.10-2 20 24,000 Serles (Taxable)2001C {Hayes Mansion) Conference Center 18,500 02/1412001 07/01/2024 variable 0.10-1.70 18,500 Serles20010 (Haje9 Mansion) ConfereoceCenter 10,800 02/1412001 07/01/2026 Variable 1.80-4 60 10,800 Serles (Communieallon2001E Center) Refunding 18.810 03/01/2001 05/01/2010 4.00-5.00% 1.78-4.04 13,720 Serles20028 (CivicCenter Projecl) CivicCenter 292,425 11/1412002 08/01/2037 3.00-5.25% 0.14-33.45 292,425 Series2002C (Ch ,1cCenlerPro,ect) CMccentar 60,000 11114/2002 06/01/2039 Va- 17.10-21.79 60,000 Series 20020 (CMc CenterPrqect) CMc Center 60,000 11/14/2002 01!1(1112039 Venable 17.10·21.78 80,000 Series2003A {Cenlfal Servlce Yard) Refunding 22,025 09118/2003 10/1512023 3.00-4.70% 0.75-1.61 22,825 06lll3l2004 Series2004A (Taxable) (tea Centre) IceCentre 9,225 12/0112024 Variable 2.05-2.55 9� 579043 Reassessment Revenue Bonds &ries 1994A ComoNdated Refun

59 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004

Principal Balance, lasut Final Range of Payments June 30, Purpose Amoont lssua Data Maturity lntarnt Rates {minions! 2004 Governmental Activities 1conumsad): RedeveopmentAgency: TaitAlloca!ion Bonds: Serles 1993(Me,ged Area Refunding) AdvanceRefundlngs $ 692,075 12/1511993 0210112024 4.75-(1.110% 5.84-42.41 s 323,175 Series1997 (MergedArea) 106,000 03J2711997 OB/01/2028 5.375-5.625% 0.16-8.49 85,780 Series(Merged 1998 Area) RedevelopmentPrqects 175,000 03/19/1998 08/0112029 5.00-525% 1.23-31,35 169,545 Series 1999 (Merged Area) RedevelOpment"-- Projects 240,000 01/06/1999 Ol!/0112031 4.75-5.00% 3.87-23.60 225,985 Series 2002 {MergedArea) Redevelopment Projects 350,000 01/'Z4J2002 '""'"""" 3.00·5.00% 7.14-29.89 309.225 Series 2003(Merged Area) Redevelqlment Projects 135.000 1212212003 06/0112033 3.00-5.00% 0.73-34.10 129,010 Series2004A (Merged Area) Refunding 281.985 05/27�004 0Ml112019 2.00-5.25% 0.54-31.90 281 985 1,524 705 Revenue Bonds (Subordinate� Series1996A (Merged Area) ReclewlopmentProjects 29.500 06/27/1996 07/0112026 Variable 0.70-2.00 29,500 Serles 1900B(Merged Area) Reclew!opment Projects 29,500 06(27/1996 07/0112026 Variable 0.70-2.00 29,500 Serles 2003A (Taxable) (Merged Area) Redevelopment Projects 45,000 08,71!2003 0&'01ntl28 va.,,.. 45.00 45,000 Serie!i20038 (Me!ged Area) RedewlOJfflentProjecls 15,000 0&'2712003 08/011.2032 Variable 1�00 1�000 119,000 City of $anJose FinancingAuthority Revenue Bonds(Sut>ordmate) ; Series2001,'\ (4th & SM Fernando) Parking Facility 48,675 04/10/2001 09,01/2026 3.S0.5.25"4 1.23-3.21 ·�370 Series2001 F (CcOvenlionCenter) """""""' 186.150 07/01/2001 01"01/2022 4.00-5.00"4 4.54-14.73 181390 227700

HUDSection Note 108 Redevelopment PmjeCIS s�oo 02/11/1997 OB/0112016 Variable v...... 4125 Housilil Sec-Aside Ta,r.Allocallon Bonds: Series19930 (MelgedAnia) Affordable Housing 10,525 12/01/1993 08m1l2024 5.75% 0.88-2.36 10,525 Serles 1997E (MergedArea) Affoo:lable HoUSlng 17,045 0612311997 06/01/2027 5.75-5.85% 0.34-3.67 17,045 Saies 20DOF(Merged Area) Affordable Housing 44.205 12/131'2000 Oll/U1/2030 7.70-7.80% 1.11-4.24 44,205 Serles20020 (Merged Area) Affordable Housing 35,000 05J29/2002 OMl112029 Variable 1.00-3.40 35,000 Series2002H {Merged Area) Affordable Housing 35,000 ll5l29l2002 Oll/U1/2029 va""° 1.0D-3.40 3�000 Series2DD3J (MB"gedArea) Afford. Houslng.lRefundlng 55,265 07110/2003 0&,)1/2024 2.�5.25,... 2.02-3.51 5�265 Series2003K (Mgoged Area) Affoni Housing/Refunding 13,735 07/10/2003 Oll/U1/2029 2.004.40'!'0 0.23"1.07 1�735 210775 Total GowmmenlaJAetMUes BondS, • Certificates Partlclpati

Business-typeActMflff: Nonnan Y. Mlneta SanJose lntemallonal Alrpotr Rewnue Bonds: Series 1994 """"dog • 19,345 01125/1994 03/01/2007 5.875% 176-1.83 • 5,380 Serles1008A Refundng 14,015 01127/1998 03/01/2018 4.2o-t 75% 0.57-1.09 11,140 Sel\es2001A RunwayConstruction 158.456 08/1412001 03/01/2031 3.05-S.26% 3.11·10.06 155,435 ...... 2002A Refundng 53.600 01/0912003 03101/2018 4.0o.5.375% 4.46-9.29 53,600 Serles 2002B Refunding 37,945 01f0912003 OMl112012 3.00-5.00% 2.38--6.55 38,945 Series 2004A{AMT) Aliport Faciitles 70,000 06/24/2004 06/0112034 Vartable 7.58-18.05 70,000 Series 20048 (AMT) Airport Facilities 70,000 0612412004 06/0112034 Vartable 7.SS..16.05 70,000 Serles2004C (AMT) AirportFacilities 75,730 06/24/2004 03/01/2026 4.825-5.25% 1.00..10.59 75,730 Series 20040 AirportFaciilies 34,270 06/24/2004 03,1)1/2028 5.00% 9.96-12.58 34&!0 512 500

Clean WaterFinancing AuthOrity: RevenueBonds: Series 1996A Waslewaler FaeHilies 68,820 11130/1995 11/1512020 4.70.5.375% 1.79-8.38 67,120 Series19958 Wastewater F�llllies 26,700 11130/1995 1111512011 Variable 3.9Q..5.00 26,700 Series 1995C 1a230 11101/1995 11/t512004 4.70% 1.113 1,925 ...... 95745

Sta1eof CalifomlaRevolving � Fund loan Wastewale(Facilities 73,566 Various Various Va000$ 3.44 56,099 Total Bo&lnes84YPSActivities � Bands and Loan Payable $ 664,344

60 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

2. Debt Compliance

There are a number of limitations and restrictions contained in the various bond indentures. The City believes ii is in compliancewith all significant limitations and restrictions.

3. Legal Debt Limit and Margin

The City's legal debt limit and debt margin (as defined by Section 1216 of the City Charter) as of June 30, 2004, are approximately $13,862,178,000 and $13,683,698,000, respectively. In accordance with the California Community Redevelopment Law, the Redevelopment Agency establishes its own legal debt limit, based primarily on the aggregate of all future projected tax increment revenues from existing redevelopment areas. The amount of the Redevelopment Agency's legal debt limit as of June 30, 2004, is approximately $7,600,000,000.

4. Arbitrage

The Tax Reform Actof 1986 instituted certain arbitrage restrictions with respect to the issuance of tax exempt bonds after August 31, 1986. Arbitrage regulations deal with the Investment of all tax exempt bond proceeds at an interest yield greater than the interest yield paid to bondholders. Generally, all interest paid lo bondholders can be retroactively rendered taxable if applicable rebates are not reported and paid to the Internal Revenue Service (IRS) atleast every five years. During the current year, the City performed calculations of excess investment earnings on various bonds and financings. Liabilities were calculated for the issues listed above. However, the five­ year reporting period has not yet occurred and therefore the amount calculated has been recorded as a liability to the IRS. The rebate amount is recorded as a liability in the Governmental Activities column of the government-wide statements in the amount of $143,000. 5. Special Assessment Bonds with Limited City Commitment

All obligations of the City under the Special Assessment Bonds are not considered general obligations of the City, but are considered limited obligations, payable solely from the assessments and from the funds pledged therefore under the Paying Agent Agreement. Neither the faith and credit nor the taxing power of the City, or any political subdivision thereof, is pledged to the payment of the bonds. Notwithstanding any other provision of the Paying Agent Agreement, the City is not obligated to advance available surplus funds from the City Treasury to cure any deficiency in the Redemption Fund; provided, however, the City is not prevented, in its sole discretion, from so advancing funds. As of June 30, 2004, the City has recorded approximately $85,552,000 of deferred revenue and related special assessments receivables in the Special Assessments Fund. These balances consist primarily of property tax assessments to be collected in the future by the County for the City for debt service.

As of June 30, 2004, there are assessment surpluses of approximately $2,294,000 that have been declared by the City Council. These are included in advances and deposits on the accompanying statement of net assets and governmental funds balance sheet. Such surpluses will be used to correct construction deficiencies or be returned to the assessment district property owners.

61 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30, 2004

6. Co!Jduit Debt The City has outstanding approximately $527,429,000 of tax exempt multifamily housing revenue bonds due through March 2039. Multifamily housing revenue bonds were issued to provide funds for secured loans to builders of multifamily housing projects. The purpose of the program is to provide needed rental housing for low to moderate-income households. To comply with Internal Revenue Service requirements, the owner is required to set aside 20% of all units built for low­ income households. The bonds are payable solely from payments made on the related secured loans.

In October 1993, the Agency served as the conduit issuer of $1 1 ,700,000 Multifamily Housing Revenue Refunding Bonds in connection with the refunding of the 1983 Floating Rate Monthly Demand Multi-Family Housing Revenue Bonds that were used to finance the acquisition and construction of a multifamily rental housing project known as the Colonade Apartments. The Agency has no obligation forthese bonds, as they are payable solely from revenues and property pledged to the extent provided in the indenture. As of June 30, 2004, there have been no principal retirements. In August 1997, the Redevelopment Agency served as the conduit issuer of $10,595,000 in Multifamily Housing Revenue Bonds in order to provide funds for a mortgage loan to finance a multifamily rental housing project in the Japantown Redevelopment Project Area. The Redevelopment Agency has no obligation for these bonds as they are secured primarily by fully modified pass-through mortgage-backed securities guaranteed as to timely payment of principal and interest by the Government National Mortgage Association. The bonds were issued for the purpose of expanding the community's supply of low to moderate-income housing, and to construct a community center and retail space. The loan is secured on a nonrecourse basis, and is insured by the Federal Housing Authority pursuant to and in accordance with the provisions of Section 221(d)(4) of the National Housing Act and applicable regulations thereunder. At June 30, 2004, the outstanding balance was $10,237,000.

In April 1998, the Redevelopment Agency served as the conduit issuer of $38,000,000 in Multifamily Housing Revenue Bonds in order to provide funds for a mortgage loan to finance the acquisition and construction of a multifamily residential project in the Century Center Redevelopment Project Area. The Redevelopment Agency has no obligation for these bonds as they will be payable solely from and secured, to the extent and as provided in the indenture, by a pledge of certain revenues and other amounts to be received by the Redevelopment Agency under the Loan Agreement. The borrower, a developer, has arranged for an initial irrevocable direct pay letter of credit to be issued in favor of the trustee. As of June 30, 2004, there has been no principal retirement. In the opinion of the City's officials, these bonds are not payable from any revenues or assets of the City. Neither the faith and credit nor the taxing power of the City, the state, or any political subdivision thereof are pledged for thepayment of the principal or interest on the bonds.

62 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30, 2004

7. Summaryof Changes in Long-term Obligations The changes in long-term obligations for the year ended June 30, 2004, are as follows {in thousands):

AddlUonal Obllgatlons, Curtent Interest Maturltlu, Aecrttlon Retirements, Amounts June 30. and Net and Net June 30, Due Within 2003 Increases Decreases ..... One Year GovernmentalActivities; Long.tenn debt payable: General Obligation bonds $ 184,720 (6,240) 178,480 6,240 San Jose Financing Authority Lease and Reassessment revenue bonds 575,498 31,850 (28,071 ) 579,277 6,697 Special Assessmentbonds with limited governmental commitment 80,543 12,500 (7,901) 85,142 5,599 Addcurrent amounts reported In the SpecialAssessment fund 165 (165) RedevelopmentAgency Revenue bonds 291,985 60,000 (5,225) 346,760 7,165 HUD Section 108 notes payable 4,315 (190) 4,125 205 Tax allocation bonds 1,605,925 485,985 (356,430) t,735,480 23,845 Less deferred amounts: For refunding (3,352) (16,966) 297 (20,021) For issuance premiums 10,265 16,811 (877) 26,199 870 For issuancediscounts (3,898! j16) 117 {3,797! 116 Total oog-tenn debt payable 2,746,166 590,164 (404,685) 2.931,645 50,737 Acaeted lnlereston capital appreciation bonds 2,602 328 (230) 2,700 378 loan toHayes Mansion operator 3,200 (292) 2.908 500 Ob!lgatlonsunder capllal least 81 (64) 17 17 Arbtlrage llabiily 163 (20) 143 Acaued vacalion, sidtleave and compensatory lime 74,m 38,496 (38,027) 77,246 38,000 Accruedlandfill postdosure costs 11,625 (465) 11,160 465 Estinatedllabllily for setf-4nsurance 107,134 70,544 (19.324) 158.354 20,000 Net pension oblgetloo 3,177 254 (230) 3,201 254

Govemmtntalactivity long-,term obligations $ 2,945:725 702,986 (461 .� 3,187.374 108.351

63 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

Debt service payments are made from various sources. General Obligation bonds debt service payments are made from property taxes recorded in the Nonmajor Governmental Funds. Lease Revenue Bonds debt service payments are made from lease rental revenue from "lessee" departments in the General Fund and Nonmajor Funds. Assessment and Reassessment Bonds debt service payments are made from property tax assessments and reassessments recorded in the Special Assessments Fund. Tax Allocation Bonds and Redevelopment Agency Revenue Bonds debt service payments are made from tax increment revenue recorded in the Redevelopment Agency Fund. Other Long-Term Obligations payments are primarily made from general revenue recorded in the General Fund.

Current Addillonal Maturities, Obllgations Retirements, Amounts June 30, and Net and Net June 30, Due Within 2003 Increases Decreases 2004 One Year

Business-Type Activities: Nonnan Y. Mlneta SanJose International Airport Revenue bonds $ 266,770 250.000 (6,270) 512,500 8,615 Less deferred amounts: Forrefunding (7,331) 879 (6,452) (859) ForIssuance premllallS 6,088 (98) 5,990 153 For i&suancediscounts (1,414) (1,415) 38 (2,791) (40) Commercial papernotes 6,658 35,069 (35,941) 5,786 5,786

CleanWater Financing Authority: Revenue bonds 99,285 (3,540) 95,745 3,710 Lessdeferred amounts: For refunding (144) 105 (39) For issuancediscounts (1,546) .. (1,452) Stateof California - Revolving Ftlld Loan 59,479 (3,380) 56.099 3,476

Accruedvecation, sfd!: leave andcompensa torytime 6,015 3,888 (3.539) 6,364 6,364 Estimated liabilityfor self-lnswance 5,256 5,127 (406) 9.699 2,151

Buslneg..typelon g-termobligations $ 441,118 292,669 (52, 138) 681,649 29,356

Sources of funds to meet debt service requirements are revenues derived from user fees and charges for services recorded in their respective enterprise funds.

64 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004

8. Annual Requirements to Maturity

The annual requirements to amortize all bonds, notes, and certificates of participation outstanding as of June 30, 2004, are as follows (in thousands):

Governmental ActJvlO&s General ObllgaUon Lease Revenue Bonds Bonds !1J Fiscal Year Accreted Ending June 30, Prlnclpal Interest Principal Interest ·interest

2005 $ 6.240 8.251 6,697 378 24,951 2006 6.240 8,025 5,644 406 24,728 2007 6,240 7,800 , 6.217 433 24,524 2008 6,240 7,555 5,897 458 24,327 2009 6,240 7,296 6,235 480 24,113 2010-2014 31,190 32,400 34,402 2, 118 117,410 2015·2019 31.175 25,224 54,110 110,842 2020-2024 31,175 17,473 84,240 98,727 2025-2029 31,175 9,618 88,050 81,555 2033·2034 22,565 2,092 105,850 60,138 2035-2039 181,935 27,599 Total $ 178,480 125,734 579,277 4,273 618,914

Governmental Activities Special Assessment Bonds With Limited Government Redevelopment Fiscal Year Commitment Agency"' Ending June 30, Prtnclpal Interest PrlncJpal Interest

2005 $ 5,599 4,249 31,215 92,094 2006 3,542 4,043 40,200 94,432 2007 3,526 3,898 45,475 92,697 2008 3,685 3,746 48,095 90,496 2009 3,405 3.595 50,755 88,109 2010-2014 18,830 15,542 303,025 400,170 2015-2019 18,685 10,764 395,630 318,304 2020-2024 21,210 5,387 510,025 215, 143 2025-2029 3,220 1,704 408,120 107,067 2033-2034 3,440 476 253,825 25,682 Total $ 85,142 53,404 2,086,385 1,524,194

65 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30, 2004

Business-Type Activities <11 tem 11l Alre;2rt WastewaterTreatme nt S� Revenue Revenue Loans FIScal Year Bonds Bonds Payable EndingJune 3 0, Principal Interest Principal Interest Principal Interest

2005 $ 8,615 18,260 3,710 3,840 3,441 1,022 2006 8,975 19,760 3,890 3,660 3,504 960 2007 9,365 19,373 3,900 3,546 3,568 896 2008 9,745 19,002 4,100 3,505 3,633 831 2009 11,160 18,561 4,300 3,400 3,699 764 2010-2014 63,320 84,653 25,620 16,091 19,533 2,786 2015-2019 75,635 67,066 33,900 9,139 18,721 939 2020-2024 78,245 47,776 16,325 889 2025-2029 102.940 25,743 2033-2034 1-44,480 6,546 Tmal $ 512,500 326,740 95,745 44, 130 56,099 B.198

1 < > Projected interest .payments for the variable rate series of bonds are based on the following rates In effect on June 30, 2004. Lease Revenue Bonds: Series 2000C (1 .34%), Series 20018 (1.14%), Serles 2001C (1 .35%). Series 20010 (1.00%), Series 2002C (4.30% long rate). Serles 20020 (5.00% long rate), Series 2004A (1.30'k ). Redevelopment Agency Revenue Bonds: Serles 1996A (1.04%). Serles 19968 (1.03%), Series 2003A (1.34%). 20038 (1 .05%), HUD Section 108 Loans (1.51%). Redevelopment Agency Housing Set-Aside Tax Allocation Bonds: Serles 2002G (1 .37%), Series 2002H (1.35%). Airport Revenue Bonds: Series 2004A (1.10%). Series 20048 (1.28%). Clean Water Financing Authority Revenue Bonds: Series 19958 (1.04%). Each se�es may be set at different interest rate calculation modes, Including daily, weekly, monthly,and long rates.

For governmental and business-type activities, the specific year for payment of estimated liabilities for accrued vacation, sick leave and compensatory time, accrued landfill postclosure cost, estimated liability for self-insurance and for the net pension obligation is not practicable to determine.

9. New Debt Issuances and Unused Authorizations

Governmental Activities

Housing Set-Aside Tax Allocation Bonds. On July 10, 2003, the Redevelopment Agency issued $55,265,000 of Series 2003J {taxable) and $13,735,000 of Series 2003K housing set-aside tax allocation bonds (the "Refunding Bonds"). The bond proceeds were used to current refund the Agency's Series 1993A and Series 1993C housing set-aside tax allocation bonds and advance refund the Agency's Series 1993B housing set-aside tax allocation bonds {collectively, the "Refunded Bonds"), repay $12,635,000 of the existing $50,000,000 line of credit with Bank of New York and fund additional affordable housing projects {see note IV 02). The Series 2003J bonds bear interest at fixed rates ranging from 2.00% to 5.25%, and have a final maturity date of August 1, 2024. The Series 2003K bonds bear interest at f1X ed rates ranging from 2.00% to 4.40%, and have a final maturity date of August 1, 2029.

A refunding escrow, in the amount of $44,502,000, was funded from a combination of Refunding Bonds net proceeds and cash remaining in the debt service funds of the Refunded Bonds. The refunding escrow, deposited in an irrevocable trust with an escrow agent, provided for the principal, call premium and accrued interest through the dale of redemption for each series of Refunded Bonds. The Series 1993A and Series 1993B Bonds were redeemed on August 1, 2003, and the Series 1993C Bonds were redeemed on February 1, 2004. The Refunded Bonds have been

66 {Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004 removed from the City's basic financial statements.

Although the refunding resulted in the accounting recognition of a deferred loss of $3,032,000 for the fiscal year ending June 30, 2004, the refunding achieved economic savings in the following amounts (in thousands) over the next 1 B years.

Series 1993A Series 19938 Series 1993C Aggregate Debt Service $1,001 $1,812 $2,406 Savings (net of available funds) Net Present Value (NPV) $1 ,447 $1,079 $2,664" Debt Service Savings NPV Savings as a % of 11.03% 13.78% 13.20% Refunded Principal

City of San Jose CFO No. 10 (Hassler - Sliver Creek), Special Tax Bonds, Series 2003. On July 23, 2003, the City issued $12,500,000 of special lax bonds to finance the acquisition of certain roadway improvements necessitated by development in the Silver Creek area. The bonds are secured by special tax revenues paid by the owners of taxable parcels in Community Facilities District No. 10 ("CFD No. 10"). The CFD No. 10 bonds bear interest at fixed rates ranging from 3.30% to 5.25%, and have a final maturity date of September 1, 2023. Redevelopment Agency of the City of San Jose Merged Area Redevelopment Project Revenue Bonds (Subordinate Tax Allocation), Series 2003A (Taxable) and Series 20036. On August 27, 2003, the Redevelopment Agency issued $45,000,000 of Series 2003A (taxable) and $15,000,000 of Series 20038 revenue bonds. The bond proceeds were used to finance redevelopment activities within the Agency's Merged Area Redevelopment Project. Debt service is payable on a subordinate basis from the Agency's tax increment revenues. The Series 2003A bonds were issued as variable rate securities, bearing interest initially at a weekly rate, which on June 30, 2004, was 1.34%, and have a final maturity of August 1, 2028. The Series 20038 bonds were also issued as variable rate securities, bearing interest initially at a weekly rate, which on June 30, 2004 was 1.05%, and have a final maturity of August 1, 2032.

City of San Jose Financing Authority Lease Revenue Bonds, Serles 2003A (Central Service Yard Refunding Project). On September 18, 2003, the City of San Jose Financing Authority issued $22,625,000 of Series 2003A lease revenue bonds. The bond proceeds were used to current refund the Authority's Series 19930 lease revenue bonds issued to acquire and construct the City's Central Service Yard. The Series 2003A bonds, which are insured by Ambac, bear interest at fixed rates ranging from 3.00% to 4. 70%, and have a final maturity date of October 15, 2023.

A refunding escrow, in the amount of $23,221,000, was funded from a combination of refunding bonds net proceeds and cash remaining in the debt service and reserve funds of the refunded bonds. The refunding escrow provided for the principal, call premium and accrued interest through the date of redemption for the refunded bonds. The refunded bonds were redeemed on October 20, 2003, and have been removed from the City's basic financial statements.

67 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30, 2004

This refunding achieved approximately $1,621 ,000 in aggregate debt service savings net of available funds, and net present value savings of $988,000, which is 4.45% of the refunded principal.

Redevelopment Agency of the City of San Jose Merged Area Redevelopment Project Tax Allocation Bonds, Series 2003. On December 22, 2003, the Redevelopment Agency issued $135,000,000 of Series 2003 tax allocation bonds. The bond proceeds were used to finance multiple redevelopment projects within the Agency's Merged Area Redevelopment Project. Debt service is payable from the Agency's tax increment revenues. The Series 2003 bonds, which are insured by Financial Guaranty Insurance Company, bear interest at fixed rates ranging from 3.00% to 5.00%, and have a final maturity date of August 1, 2033.

Redevelopment Agency of the City of San Jose Merged Area Redevelopment Project Tax Allocation Refunding Bonds, Series 2004A. On May 27, 2004, the Redevelopment Agency issued $281,985,000 of Series 2004A tax allocation bonds. The bond proceeds were used to current refund a portion of the Agency's Series 1 993 tax allocation bonds and advance refund portions of the Agency's Series 1993, Series 1 997, Series 2002, and Series 2003 tax allocation bonds (collectively, the "Partially Refunded Bonds"). Debt service is payable from the Agency's tax increment revenues. The Series 2004A bonds, the majority of which are insured by MBIA, bear interest at fixed rates ranging from 2.00% to 5.25%, and have a final maturity date of August 1, 201 9.

A refunding escrow, in the amount of $299,890,000, was funded from a combination of refunding bonds net proceeds and cash remaining in the debt service funds of the Partially Refunded Bonds. The refunding escrow, deposited in an irrevocable trust with an escrow agent, provided for the principal, call premium and accrued interest through the date of redemption for each series of Partially Refunded Bonds. The Partially Refunded Bonds have been removed from the City's basic financialstatements.

Although the refunding resulted in the accounting recognition of a deferred loss of $13,933,000 for the fiscal year ended June 30, 2004, the refunding achieved approximately $12,044,000 in aggregate debt service savings net of available funds, and net present value savings of $10,407,000, which is 3.63% of the refunded principal.

Dolce Hayes Conference Center. On October 30, 2003, the City entered into a loan agreement with Comerica Bank (Bank) in order to assume operations of the Hayes Conference Center and to pay off the loan owed by the previous operator, Hayes Renaissance, LP. (HRLP) to the Bank. The City's term loan is $2 miilion with monthly principal reduction payments in the amount of $42,000 until October 29, 2007, at which time the City shall pay in full the outstanding principal balance of the loan, together with all accrued and unpaid interest. The term loan bears variable interest rate at LIBOR plus 0.75 percent. In addition, in consideration of the execution of the Transition Agreement with HRLP, the City agreed to assume the HRLP's liability to Devcon Construction Incorporated (Devcon) in the amount of $1 .2 million with no payment of interest, no maturity date, on a subordinated basis from the Fund's net revenues, as defined.

68 (Continued) City of San Jose

Notes to Basic Financial Slatemenls

June 30, 2004

City of San Jose Financing Authority Taxable Lease Revenue Bonds, Series 2004A (Ice Centre of San Jose Expansion Project). On June 3, 2004, the City of San Jose Financing Authority issued $9,225,000 of Series 2004A taxable lease revenue bonds. The bond proceeds will be used to expand and renovate portions of the City's Logitech Ice Centre of San Jose. Debt service on the bonds will be paid from base rental payments received by the City from the Ice Centre operator, Silicon Valley Sports and Entertainment. The Series 2004A Bonds, which are insured by MBIA, were issued as auction rate securities, accruing interest at auction rates for successive 28-day auction periods, and have a final malurily dale of December 1, 2024. On June 30, 2004, the interest rate on lhe Series 2004A Bonds was 1.30%.

City of San Jose Financing Authority Tax-Exempt Lease Revenue Commercial Paper Notes Payable. On January 13, 2004, lhe City Council and the City of San Jose Financing Authority each adopted a resolution authorizing lhe issuance of City of San Jose Financing Authority tax-exempt lease revenue commercial paper notes in an amount not to exceed $98,000,000. This commercial paper program was established as a mechanism for financing public improvements of the City including lhe offsile parking garage for the new Civic Center and non-conslruclion costs for technology, furniture, equipment and relocation servicesfor the new Civic Center.

Under this program, the Authority is able to issue commercial paper notes at prevailing interest rates for periods of maturity not to exceed 270 days. The commercial paper notes are secured by a pledge of lease revenues from various City assets and additionally secured by a letter of credit provided by State Street Bank and Trust Company and the California Stale Teachers' Retirement System (CalSTRS). On June 30, 2004, $22,673,000 of Authority commercial paper notes were outstanding al an interest rates ranging from 1.02% to 1.20%. The commercial paper notes payable is recorded as part of other liabilities in the government-wide statement of net assets and the governmental fund balance sheet.

Unused General Obligation Bonds Authorization. The City has issued $187,090,000 in general obligation bonds to provide fundsfor the acquisition and construction of major capital facilities and parks. Of this amount, as of June 30, 2004, $178,480,000 is outstanding. Of the tolal authorized to issue amount of $527,820,000, there remains an unused balance of $340,730,000.

Business-Type Activities

City of San Jose Airport Revenue Bonds, Serles 2004A (AMT), Series 20048 (AMT), Series 2004C (AMT), and Series 20040 (Non-AMT). On June 24, 2004, theCity issued $70,000,000 of Series 2004A, $70,000,000 of Series 20048, $75,730,000 of Series 2004C, and $34,270,000 of Series 20040 airport revenue bonds (the "2004 Bonds"). The proceeds of the 2004 Bonds will be used to pay (and to redeem commercial paper notes issued to pay) a portion of the costs of designing and constructing certain security-related capital improvements at the Norman Y. Mineta San Jose International Airport. Debt service on the 2004 Bonds will be paid from General Airport Revenues and certain other funds. The 2004 Bonds are insured by MBIA.

69 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004

The Series 2004A Bonds were issued as auction rate securities, accruing interest at auction rates for successive 7-day auction periods, and have a final maturity of June 1 , 2034. On June 30, 2004, the interest rate on the Series 2004A Bonds was 1.1 0%. The Series 20048 Bonds were issued as auction rate securities, accruing interest at auction rates for successive 35-day auction periods, and have a final maturity of June 1, 2034. On June 30, 2004, the interest rate on the Series 20048 Bonds was 1.28%. The Series 2004C Bonds bear interest at fixed rates ranging from 4.625% to 5.25%, and have a final maturity date of March 1, 2026. The Series 20040 Bonds bear interest at a fixed rate of 5.00% and have a final maturity date of March 1 , 2028.

A note repayment fund for the Series B commercial paper notes, in the amount of $34,450,801 , was funded from a combination of Series 2004C and Series 20040 Bonds net proceeds. All of the Series B commercial paper notes were redeemed on June 29, 2004, and have been removed from the City's basic financial statements.

Airport Commercial Paper Notes Payable. On November 2, 1999, the City Council adopted a resolution authorizingthe issuance of City of San Jose, San Jose International Airport subordinated commercial paper notes in several series in an amount not to exceed $100,000,000. The commercial paper program was established to provide an interim source of financing for the initial capital projects in the Airport Master Plan until a permanent financing plan was finalized and implemented. Under this program, the Airport is able to issue commercial paper notes at prevailing interest rates for periods of maturity not to exceed 270 days. The commercial paper is secured by a subordinate pledge of the Airport's revenues and additionally secured by a letter of credit provided by JPMorgan Chase Bank.

On June 29, 2004, all $34,400,000 of outstanding Series B (subject to alternative minimum tax) commercial paper notes were refunded with a portion of the proceeds of the Series 2004C and Series 20040 Airport Revenue Bonds. On June 30, 2004, $5,786,000 of Series C (taxable) commercial paper notes were outstanding maturing within 10 to 23 days after year-end with an interest rate ranging from 1 .1 % to 1.15%. 1o. LandffllPostc/osure Costs The City has five closed landfills for which postclosure and monitoring services may be required for approximately a 30 year period which began in fiscal year 1996, coinciding with the closure of the last landfill. An estimated liability of $1 1 ,1 60,000 related to the closed landfills is recorded in the government-wide financial statements as of June 30, 2004. The City's Environmental Compliance Officer performs an annual evaluation of the aforementioned liability. Actual costs may be higher due to inflation, changes in technology, or changes in regulations. The City does not own or operate any open landfills at this time.

70 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

11. Estimated Liability for Self-Insurance

The City is exposed to various risks of losses related to torts, errors and omissions, general liability, injuries to employees, unemployment claims, and employee health and dental insurance. The City maintains an all-risk property policy where the maximum total liability in a single occurrence for all coverage combined will not exceed $1,000,000,000, with a single occurrence deductible of $100,000 for property damage and time element combined. This policy also provides coverage for loss due to flood in the amount for Zone A and V of $15,000,000. Zone B $25,000,000 and $50,000,000 in all other flood zones with flood deductibles ranging from $100,000 to $1 ,000,000 per occurrence depending on the flood zone. The City has an airport liability policy covering the Airport, which provides a limit of $200,000,000 per occurrence with an annual deductible of $100,000 per occurrence. During the past three years there have been no instances of the amount of claim settlements exceeding insurance coverage. After September 11, 2001 there was a dramatic reduction in property insurance capacity worldwide.

Claims expenditures/expenses and liabilities are reported as appropriate when it is probable that a loss has occurred and the amount of that loss can be reasonably estimated using actuarial methods or other estimating techniques. This represents the City's best estimate based upon available information. The workers' compensation estimated outstanding loss in the amount of $119,800,000 at June 30, 2004 has been discounted. at 3.5%. Changes in the reported liability since July 1, 2002, resulted from the following (in thousands):

Liability as of July 1, 2002 $ 97,000 Claims and changes in estimates during 2003 36,998 Claims payments (21,606) Liability as of June 30, 2003 112,392 Claims and changes in estimates during 2004 75,671 Claims payments (19,810)

liability as ofJune 30, 2004 $ ===16=8=, =52=3=

With respect to the general liability accrual, the City has numerous unsettled lawsuits filed or claims asserted against it as of June 30, 2004. The City Attorney and the City's Risk Manager have reviewed these claims and lawsuits in order to evaluate the likelihood of an unfavorable outcome to the City and to arrive at an estimate of the amount or range of potential loss to the City. The City has included a provision for losses in its claims llability for loss contingencies that are both probable and can be reasonably estimated.

(a) Owner Controlled Insurance Programs

On October 1, 2002 and on March 31, 2004 the City bound certain liability insurance coverage (see chart below) for major components of the "2004 Security Projects" and the "New Civic Center Project" through Owner Controlled Insurance Programs ("OCIP''). An OCIP is a single insurance program that provides commercial general liability, excess liability and workers' com pensation insurance coverage for construction job site risks of the project owner. general contractors and all subcontractors associated with construction at the designated project site.

71 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

2004 Security Projects New Civic Center Project Coverage Limits Deductible Limits Deductible

General Liability $2 million per occurrence/ $250,000 $2 million per occurrence/ None $4 million I aggregatefor per occurrence $4 million I aggregate for general liability general liability

Workers• Workers' Compensation - $250,000 Workers' Compensation - None Compensation Slatutory per occurrence Statutory

Employers' Llablllty - Employers' Liability - $2 million per accident $1 million per accident

Excess Liability $150,000,000 None $100,000,000 None

The 2004 Security Project OCIP and the new Civic Center Project terms include a 36-month construction period with ten years completed operations and a 33 month construction period with five year completed operations, respectively, for general liability. The benefits to the City for implementing OCIP programs for the Airport Master Plan projects include providing $150 million of general liability coverage along with ten-years of completed operations coverage and for the New Civic Center Project include $100 million of general liability coverage along with five-years of completed operations coverage.

12. Net Pension Obligation

The City determined the net pension obligation at transition (July 1, 1997) amounted to $2,300,000 for the Federated Employees' Retirement System (the System) in accordance with GASB Statement No. 27. Accounting for Pensions by State and Local Governmental Employers. The methods and assumptions that apply for the calculation of the net pension obligation are those that are used for amortizing actuarial experience gains and lossesin determining the City's contribution rates. The System's amortization factors incorporate the use of an investment return rate of 8% and an inflation rate of 5%, with an amortization period of 24 years as a level percentage of projected payroll on an open basis, resulting in an amortization factor of 13.8 for fiscal 2004 (see note IV}

G. lnterfund Transactions

The composition of interfund balances as of June 30, 2004, with explanations of significant transactions, is as follows (in thousands}:

72 (Continued} City of San Jose

Notes to Basic Financial Statements

June 30 2004

1. Due fro m/Due to other funds

Due From/Due to other funds Receivable Fund Pa�ble Fund Amount

General Fund Redevelopment Agency $ 652 (1) Nonmajor Governmental Funds 1,712 (2) Nonmajor Govemment Funds Nonmajor Governmental Funds 20,202 (3) Civic Center Fund 3,548 (4) Redevelopment Agency 9,379 (5) Redevelopment Agency General Fund 660 (6) Nonmajor Governmental Funds 3,668 (7) Civic Center Fund 4 WastewaterTreatment System Nonmajor Governmental Funds 6,450 (8)

$ 46,275 ( 1) Reflectsamount due for CodeEnforcement expenditures. (2) Accrual ofgas tax transfer from the Gas Tax Funds and Construction & Conveyance tax transfers. (3) Short-term borrowingfor working capital. (4) Short-term borrowingfor working capital. (5) Reflects amountdue for park development fees. (6) Accrual of Interest receivable of pooled cash funds. (7) Accrualof reimbursement of new civic center parking land acqulslUon. (8) Short-term loan lo lhe Branch Libraries Bond ProjectFund.

2. Advances to/Advances from other funds

Advance to/Advancefrom other funds

Receivable Fund Pa�bla Fund Amount

General Fund Nonmajor Governmental Funds $ 3,734 (1)

RedevelopmentAgency Housing Actlvilles 16,780 (2)

Waslewater TreatmentSystem Nonmajor Governmental Funds 4,527 (3) MunicipalWater System 5 815 (4)

$ 30,858

(1) Loan to support City owned golf course operations until they are sew supporting. (2) Reflect. line of credit loan and a discounted loan forthe YMCA VIiia Nueva Housing project. (3) Long-term loans for the Fiber Conduit project and a loan for sewer extension project. (4) Loan for the North Coyote Valley Water Project.

73 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30, 2004

3. · Transfers in/Transfers out

Transfers are indicative of funding for capital projects, lease payments or debt service and subsidies of various City operations. · The following schedule summarizes the City's transfer activity with explanations of significant transactio.ns:

Between Governmentaland Business-type Activities:

Transfers from Transfers-tc> Amount

Nonmajor Governmental Funds Parking System 20 Parking System Redevelopment Agency 20 Nonmajor Governmental Funds 727 Municipal Water System General Fund 2,533 (1) Wastewater Treatment System General Fund 4,008 (2)

$ 7,308 (1) Municipal Water System payments for in-lieu taxes and rate of returnon capital. (2) Wastewater Treatment System payments for in-lieu taxes.

74 (Continued) City of San Jose Notes lo Basic Financial Statements

June 30 2004

Between Funds within the Governmental Activities: !A>

Transfers from Transfers to Amount General Fund Redevelopment Agency 760 Nonmajor Governmental Funds 6,884 (1) RedevelopmentAgency General Fund 316

Housing ActivitiesFund 69,728 (2) Special Assessment District Fund 28

Nonmajor Governmental Funds 22,754 (3) Housing Actl�ties Fund RedevelopmentAgency 11,468 (4) Nonmajor Governmental Funds Redevelopment Agency 3,627 (5) General Fund 26,164 (6) Housing Activities Fund 1,075 (7) Special Assessment District Fund 12 Nonmajor Governmental Funds 16,304 (8)

Civic Center Fund 20,305 (9)

Civic Center Fund Nonmajor Governmental Funds 415

$ 179,840 (1) Various transfers for grants and debt service payments. (2) Transfers for Housing 20% Increment tax,bond proceeds and for Multiple sourcehousing projects. (3) Transfers fordebt service,various capital projects and payment of parkland development fee s. (4) Transfer from the Housing Activities fordebt service. (5) Transferto agency forvarious capital projects. (6) Transfer from various nomajor governmental funds to support various activitieswithin general fund programs .. (7) Transfer toMulti-Source Housing Fund for Land Acquisition. (8) Transfersfor debt service and also funding for convention and culturalfacllllJes operations. (9) Tran sfe r of commercialpaper proceeds. (A) These transferswere eliminated In the consolidation, by column for the governmental and business-type activities.

The remaining interfund transactions resulted from the time lag between dates that lnterfund goods and services are provided or reimbursable expenditures occur, transactions are recorded, and payment between fundsare made.

In the fund financial statements, total transfer in the amount of $187, 128,000 are greater than total transfer out of $179,860,000 because of the treatment of transfer of capital asset to the Parking System fund. During the year the 4th and San Fernando parking garage capital assets, related to governmental funds, with a book value of $56,050,000 was transferred to the Parking System fund. No amountswere reported in the governmental funds as the amount did not involve the transfer of financial resources. However, the Parking System fund did report a capital contribution in for the capital resources received.

75 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

IV. Other Information

A. Employee Defined Benefit Retirement Systems

1. Systems Description

The City sponsors and administers two single employer defined benefit retirement systems, the Federated City Employees' Retirement System (the "System") and the Police and Fire Department Retirement Plan (the "Plan" and collectively, "the Retirement Systems"), which together cover all full-time and certain part-time employees of the City. Each of them provides postemployment health subsidy benefits in addition to regular retirement benefits. The Retirement Systems are accounted for as separate Pension Trust Funds. The estimated payrolls for employees covered under the System and the Plan for the year ended June 30, 2004, were approximately $288, 136,000 and $203,953,000, respectively. The City's total payroll for the year ended June 30, 2004, was approximately $533,572,000. The separately issued annual reports of the Retirement Systems and the City's municipal code provide more detailed information about the Retirement Systems. Those reports may be obtained by writing to the City of San Jose Office of Retirement Services, 1737 North First Street, Suite 580, San Jose, California 951 12.

The Retirement Systems provide general retirement benefits under Defined Benefit Pension Plans, including pension, death, disability, as well as postemployment medical and dental benefits under the Postemployment Healthcare Plans. Benefits are based on average final compensation, years of service, and limited required cost-of-living increases.

The current membership in the Retirement Systems as of June 30, 2004, is as follows:

Police and Fire Federated

Defined BenefitPension Plans, excluding Postemployment Healthcare Plans: Retireesand beneficiaries currently receivingbenefits 1,363 2,332 Terminated vested members not yet receiving benefits 67 443 Activemembers 2,052 4,307

Tolal 3,482 7,082

PostemploymentHealthcare Plans: Retireesand beneficiaries cunrentiyreceiving benefits 1,238 1,711 Tenninated vested members not yet receiving benefits 5 62 Active members 2,052 4,307

Total 3,295 6,080

76 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

The Retirement Systems are not subject to the provisions of the Employee Retirement Income Security Act of 1974. It is the City's policy to obtain actuarial valuations for the Retirement Systems every two years. 2. Funding Polley

Contributions to the Defined Benefit Pension Plan for each Retirement System for both the City and the participating employees are based upon an actuarially determined percentage of each employee's base salary sufficient to provide adequate assets to pay benefits when due. Contributions to the Postemployment Healthcare Plan for both the City and the participating employees are based upon an actuarially determined percentage of employees base salary sufficient to provide adequate assets to pay benefits when due, over the next 10 years for the Plan, and over the next 15 years for the System. The significant assumptions used to compute the actuarially determined contribution requirements are the same as those used to compute the actuarial accrued liability shown in the Schedule of Funding Progress for the Defined Benefit Pension Plan.

Contribution rates for the City and the participating employees for fiscal 2004 were established In accordance with actuarially determined requirements computed through actuarial valuations dated June 30, 2001. The contribution rates and the amounts contributed to the Plan and the System for the fiscal year ended June 30, 2004, are as follows (in thousands):

Pollca and Fire Federated City Partlde;ants Total City Participants Total Actuafial Rate: Defined Benefit Plan: 6123/03• 6/30/04 12.01% 8.44% 13.82% 4.04% Post Employment HealthcarePlan: 6/23/03 • 6130/04 2.21% 1.81% 1.38% 1.04% Annual PensionContribution (In thouaanda): Oellned BenefitPlan s 24,412 17.233 41,645 39,634 12.394 51.928 Post Employment HealthcarePlan 4491 �696 8187 3948 3 191 7139 $ 28,903 20,928 49,832 43,482 15,585 59.087

The Retirement Systems completed new actuarial valuations dated June 30, 2003 and the rates were adopted effective July 4, 2004. The new rates increased the Plan's contribution from the City from 14.22% to 25.04% and for the employees the rate Increases from 10.25% to 11.16%. Funding status of the Plan was reduced from 114.8% to 100.2%. The new rates increased the System's contributions from the City from 15.20% to 17.12% and forthe employees the rate increases from 5.08% to 6.06%. Funding status of the System was reduced from 99% to 98%.

77 (Continued) City of San Jose

Notes to Basic Finan�ial Statements

June 30 2004

3. Annual Pension Cost and Net Pension Obligation

The City's annual pension cost and net pension obligation to the Plan and the System as of and for the year ended June 30, 2004, were as follows (dollar amounts expressed in thousands):

Police and Fire Federated

Annual required contribution $ 28,903 43,482 Interest on net pension obligation 254 Adjustmentto annual required contribution (230) Annual pension cost 28,903 43,506 Contributions made (28,903) (43,482) Increasein net pension obligation 24 Net pensionobligation - beginning of year 3,177 Net pension obligation- end ofyear $ 3,201

The following is three year trend information for the City's single-employer pension plans (in thousands):

Flseal Annual Percent Net year Pension APC Pension ended Cosl !APC! Contributed Obligation Policeand FireRetirement Plan 6/30/02 $ 28,115 100o/o $ 6/30/03 27,762 100% 6/30/04 28,903 100%

Federaled Retirement System 6/30/02 $ 45,138 100% $ 3,148 6130/03 42,305 100% 3,177 6/30/04 43,508 100% 3,201

The June 30, 2001 actuarial study reported unfunded healthcare benefits liabilities for the Plan and the System are as follows (in thousands of dollars):

Police and Fire Federated

Healthcarebenefits liability $ 86,880 139,936 Less: Actuarial value of assetsfor healthcare benefits 57,283 67,495 Unfunded healthcare benefits liability $ 29,597 72,441

78 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30 2004

4. ActuarialAssumptions and Methods

The more significant actuarial assumptions and methods used in the calculations of employer contributions to the Retirement Systems for the fiscal year ended June 30, 2004 are as follows:

Police and Fire Federated Department City Employees' Method/Assumption Retirement Plan Retirement System

Actuarial cost method Entry age normal cost Entry age normal cost method method Amortization method for actuarial Level percentage of Level percentage of accrued liabilities payroll payroll Remaining amortization period, 18 years 19 years closed Actuarial asset valuation method 5 year smoothed market 5 year smoothed market Investment rate of return 8% per annum 8.25% per annum Postretirement mortality The 1994 Male Group The 1983 Group Annuity Annuity Mortality Table, Mortality Table for males, with a three year set with a one year set back, back, is used for male is used for male members. members. The 1994 Female Group The 1983 Group Annuity Annuity Mortality Table, Mortality Table for with a one year set females, with a one year forward, is used for set forward, is used for female members. female members. Active service, withdrawal, death, Based upon the June 30, Tables based on current disability servicereti rement 2001 Experience Analysis experience Salary increases 10.3% for employees for In general, merit and the first five years of longevity increases plus · service;graded increases assumed general wage thereafter ranging from increase of 4.50% per 10.1% at age 25 to 4.6% year. at ages 60 and over. Of the total salary increases 4.5% is inflation Cost-of-living adjustments 4.5% a year 3.0% a year

Health and dental cost inflation 5.75% to 8.00% 7.5% rates

79 (Continued) City of San Jose Notes to Basic Financial Statements

June 30, 2004

B. Defined Contribution Retirement Plan In January 1995, the Redevelopment Agency adopted a single employer defined contribution retirement plan, the Redevelopment Agency of the City of San Jose Retirement Plan {the Retirement Plan), which provides pension benefits for its non-civil service employees. For eligible employees who contribute 3.5% of their annual base salary, the Redevelopment Agency contributes approximately 9.0%. The Redevelopment Agency's contributions are based on a formula taking into account employee annual base salary and length of service. The Redevelopment Agency's contributions for each employee (and interest allocated to the employee's account} are fully vested after three years of continuous service from the original date of employment. The Redevelopment Agency's contributions and interest forfeited by employees who leave employment before vesting occurs may be used to reduce the Redevelopment Agency's contribution requirement or to offset plan operating expenses. The Redevelopment Agency contracts with an advisor to manage the pension plan with all assets of the plan being held in trust by a third party custodian in the name of each of the Plan's participants. Each of the Plan's participants directs the investments of their separate account. The Redevelopment Agency Board of Directors may authorize changes to the plan. The Redevelopment Agency's total payroll in fiscal year 2004 for all non-civil service employees was approximately $8,668,000. Both the Redevelopment Agency and the participating employees made contributions to the Retirement Plan amounting to approximately $772,000 and $288,000, respectively. C. Special item In January 2004, the City entered into a management agreement with Dolce International to manage the operations of the City owned Hayes Conference Center. The financial activity of this operation has been incorporated with the nonmajor special revenue Community Facilities Revenue fund. As of June 30, 2004, the financial impact of this transaction for. this transition year resulted in a loss of $7,862,000. This loss includes loan write offs to the previous operator in the amount of $6,381,000. D. Commitments and Contingencies 1. Norman Y. Mineta San JoseInternational Airport Purchase Commitments. As of June 30, 2004, the Airport was obligated for purchase commitments of approximately $61,460,000, primarily for the noise attenuation, design and construction of the North Concourse building, runway extension and rental car garage projects. Additionally, the Airport has projected that it will expend or encumber approximately $1,872,632,000 on proposed capital projects during the next five fiscal years. It is anticipated that funding for such capital projects will be provided primarily by proceeds from passenger facility charges {PFC), federal grant monies, bond proceedsand other Airport revenues. Fuel Storage Facility. During fiscal 1987, a fuel leak was discovered In the Airport's fuel storage facility. The Airport and the fuel supplier agreed to share the costs of a study to develop an acceptable cleanup program. The cleanup program submitted to the Santa Clara Valley Water District, the responsible regulatory authority, was approved, and the cleanup work commenced during fiscal 1990. The agreement between the Airport and the fuel supplier provides for a sharing of cleanup costs between the Airport and the fuel supplier. The fuel supplier also receives a 10% management fee for overseeing the cleanup operation. As of June 30, 2004, the Airport accrued

80 (Continued} City of San Jose Notes to Basic Financial Statements

June 30, 2004

$330,000 of the estimated remaining costs of its portion of the initial phase of the cleanup program. Due to minimal fuel activities, the Airport temporarily closed its portion of the facility on December 22, 1998, and ceased operation at that time. As of June 30, 2004 the timing of the complete closure of the facility, which is dependent upon the construction of the new fuel farm facility, and the full costs of remediation have not yet been determined. Based on presently available information, the Airport's management does not anticipate that the full costs of remediation of the fuel storage facility will have a significant impact on the Airport's financial position or results of operations.

Acoustical Treatment Program. The Airport has an Acoustical Treatment Program (ACT) to comply with the requirements of Title 21 of the California Noise Standard. The program provides acoustical treatment to residences in the noise impact areas surrounding the Airport, at no cost to the property owners. The program is primarily funded by grants from the Federal Aviation Administration (FAA) and by PFC revenues. The Airport expended approximately $13,464,000 on noise attenuation projects during the year ended June 30, 2004 and expects to spend approximately $24,305,000 during fiscal year2005.

Master Plan. In June 1997, the San Jose City Council approved a Master Plan for the Airport, which will serve as a long-range guide for its future development. In December 1999, the FAA issued a Record of Decision certifying the Environmental Impact Statement and approving the Airport Layout Plan, thus completing the final step in the 11-year process of updating the Airport Master Plan. The Airport Master Plan includes plans for expanded airfield, terminal, cargo, road, and parking facilities intended to accommodate expected growth in passenger and cargo traffic at the Airport through 2010.

On December 14, 1999, the Airport Traffic Relief Act (ATRA) Ordinance was approved by the City Council, which links specific traffic improvement projects on and off the Airport to the Airport Master Plan development program. The ATRA Ordinance also provides that, to the extent permitted by law, Airport fu nds, rather than the City's General Fund, are to be used to pay for the required transportation projects and that all other Airport projects are not conditioned upon the development of these transportation projects.

To accommodate the security requirements imposed after the terrorist attacks on September 11, 2001, theCity Council on November 26, 2002, adopted a resolution placing an amendment to the ATRA Ordinanceon the ballot for voter approval. At a March 4, 2003 special election, San Jose voters passed the Airport Security and Traffic Relief Act (ASTRA), an amendment to the ATRA Ordinance. ASTRA allows the Airport to expand terminal facilities as needed to accommodate baggage and passenger screening equipment and personnel, thus avoiding substantial expenditures for interim facilities !hat would have to be dismantled once permanent terminal facilities are completed. ASTRA also allows the Airport to begin construction of the full Airport terminal facility once the City Council formally identifies !he fundingsource for the people mover connection and determines that the other required traffic relief projects are within three years of completion.

On November 13, 2001, the City Council approved a new centralized terminal concept, which called for adjustments to square footage limitations on terminal space and rental car ready-return spaces. Continued study was also approved for an Airport people mover transit connection to Valley Transportation Authoritylight rail.

81 (Continued) City of San Jose

Notes to Basic Financial Statements

June 30, 2004

2. Redevelopment Agency

Line of Credit. In March 2003, the Agency entered into a line of credit agreement with a bank for an amount not to exceed $50,000,000, to provide interim funding for various housing projects. The line of credit is secured by the 20% tax increment housing funds,which bears interest at an annual rate of LIBOR plus 0.75%, and is available until April 1, 2005. The entire principal amount then outstanding shall be repaid in quarterly installments over five years and shall bear interest at annual rates ranging from LIBOR plus 1.35% to LIBOR plus 3.35%. As of June 30, 2004, the outstanding balance is $16,200,000.

TaxSharing Agreement with the County of Santa Clara. On May 22, 2001, the County of Santa Clara, City of San Jose and the Agency amended and restated the 1993 Tax Revenue Sharing Agreement (the new agreement). The new agreement requires the Agency to share, in addition to the 1993 revenue sharing amounts, a portion of its tax increment revenue with the County. The money will be used by the County to undertake redevelopment projects in or of benefit to the merged area, and requires the Agency to transfer funds to the County to pay for each such projects (Delegated Payments). Until June 30, 2004, the Delegated Payment is equal to the County's pass­ through payment. After January 1, 2004, the 20% of the proceeds of any debt secured by the Agency's tax revenues (excluding refunding bonds) must be paid to the County as a Delegated Payment.

For the fiscal year 2003-04, the pass-through payment totaled $14.4 million and the Delegated Payment totaled $15.5 million.

3. San Jose - Santa Clara Wa ter Pollution ControlPlant The City's 2004-2008 Five-Year Capital Improvement Program includes the South Bay Water Reclamation (SBWR) project, a regional water reclamation program to recycle highly treated wastewater for Irrigation and industrial uses in the cities of San Jose, Santa Clara, and Milpitas, California. This program is part of an action plan, developed by the City and other agencies tributary to the Plant and adopted by the Regional Water Quality Control Board (RWQCB), to control the amount of effluent discharged by the Plant into San Francisco Bay. Failure to maintain effluentflows below the allowed maximum level could result in regulatory action by the RWQCB.

The SBWR distribution system includes approximately 60 miles of pipe, a four million-gallon reservoir, a transmission pump station, and two booster pump stations. These facilities were constructed between 1996 and 1998 at a capital cost of approximately $141,000,000 funded by the tributary agencies, grants, and bond proceeds.

Recycled water is sold on a wholesale basis to four water retailers: City of Santa Clara, City of San Jose Municipal Water System, City of Milpitas Water Company and the San Jose Water Company. The wholesale cost of recycled water is indexed to the wholesale cost of untreated potable water, currently $260 per acre-foot. In addition, the City provides a discount to landscape irrigation customers of $80 per acre-foot, and industrial and agricultural customers of $240 per acre-foot. Also, the Santa Clara Valley Water District provides a rebate of $115 per acre-foot to the City in recognition of the avoided cost of purchasing additional potable water supplies.

82 (Continued) City of San Jose Notes to Basic Financial Statements

June 30 2004

Proceeds from the 1995 Series A and B Sewer Revenue Bonds and other funds were used to pay for the City's share of Phase I costs. The City of Santa Clara's share of Phase I costs was approximately $20,067,000. Sources of funding included credit for the City of Santa Clara's existing nonpotable water reclamation distribution system, in-kind services, additional construction, and City of Santa Clarasewer utility cash reserves. Othersources of funding for Phase I included U.S. Bureau of Reclamation grants, $6,449,000 transferred in fiscal year 1995 from the Authority to the City's Wastewater Treatment Plant Capital Fund, and cash contributions from the other participating agencies. In June 1997, the RWQCB and the City approved the Proposed Revision to the South Bay Action Plan, which describes the projects necessary ta reduce average dry weather effluentflow from the Plant ta below 120 million gallons per day (mgd) and protect salt marsh habitat for endangered species in the South Bay as required by RWQCB Order 94-1 17. These projects include expanding the Phase I nonpotable reuse system by extending additional piping, placing greater emphasis on water conservation programs, reducing infiltration inflow, augmenting stream flow, and creating wetlands. The estimated cost for implementing these projects is $127,500,000, of which $74,500,000 has been expended or encumbered. These estimated cost are to be funded by the City and other tributary agencies through a combination of State Revolving Fund Loans, Sewage TreatmentPlant Connection Fees, federal grants, and cash contributions. 4. FederalFin ancial Assistance Programs The City participates in a number of federally assisted grant programs, primarily with the Department of Housing and Urban Development, the Department of Transportation, Department of Interior, the Department of Labor, and the Department of Justice. These programs are subject to program compliance audits by the grantors or their representatives. Although the City's grant programs have been audited in accordance with the provisions of the Single Audit ActAmendments of 1996 for the year ended June 30, 2004, these programs are still subject to financial and compliance audits by federal auditors, and to resolution of identified findings and questioned costs. The amount, if any, of expenditures which may be disallowed by the granting agencies cannot be determined at this time. D. Subsequent Event General Obligation Bonds, Series 2004 (Libraries, Parks and Public Safety Projects). The City issued $1 1 8,700,000 of Series 2004 general obligation bonds on July 14, 2004. The proceeds will be used to fund $58,300,000 of library projects, $46,000,000 of neighborhood parks and recreation projects, and $14,400,000 of public safety projects. Debt service on the Series 2004 bonds is payable from ad valorem taxes levied upon all property subject to taxation by the City. The Series 2004 bonds bear interest at fixed rates ranging from 4.00% to 5.00%, and have a final maturity date of September 1, 2034.

83 (Continued) Required Supplementary Information

84 Cityof San Jose General Fund Schedule of Revenues, Expenditures and Changes In Fund Balance-Budgetand Actual For the Year Ended June 30, 2004 ($000'$) (Unaudlted... ee accompanying Independent auditor's report)

ActualAmounts BudgetaryBasis Actual Variance with Amounts Budgetary Actual BudgetedAmounts Final Budget Budgetary to GAAP Amounts Original Final Over (Under) Basia Differences GAAP Ba.sis REVENUES Taxes: Property $ 93,451 97,457 (875) 96,582 96,562 Sales 128,818 128,818 1,880 130,698 130,698 Utility 66,979 64,979 3,476 68,455 56,455 Stateof Califomta in..iieu 53,575 43,049 (1,594) 41,455 41,455 Franchise 32,406 32,406 {694) 31,712 31,712 Other 6,718 6,118 (406) 5,712 5,712 Licenses. permits and fines 79,618 80,532 3,099 83,631 83,631 lntergovemmental 5,794 14,872 (4,767) 10,105 10,105 Charges forcurrent services 24,955 26,953 457 27,410 27,410 Interest and otherrevenues 30,043 37,767 (6,214) 31,553 (4,613) 26,940 (1) Total revenues 522,357 532,951 (5,636) 527 313 (4,613) 522 700 EXPENDITURES Current: General government 87,384 94,157 (21,560) 72,597 (4,650) 67,747 (2), (3) Public safety 314,987 327,810 (7,131) 320,679 (3,477) 317,202 (2) Capital maintenance 56,461 68,681 (14,334) 44,347 (3,964) 40,383 (2) Community services 140,302 143,237 (8,796) 134,441 (6,987) 127,454 (2) Sanitation 2.988 2,284 (277) 2,007 (345) 1,662 (2) Capital outlay 12,800 10,977 (99) 10,878 (2,990) 7,888 (2), (3) Debt service: Principal 53 53 53 53 Interest 2 2 2 2

Total expenditures 014,955 e311201 (52,197} 586 004 (22,613) 582 391 Excess (deficiency) of revenues over expenditures (92.598) (104,250) 46 559 (57,691) 18000 (39 691) OTHER FINANCING SOURCES (USES) Transfers in 26,303 28,650 4,371 33,021 33,021 Transfers out (6,326) (7,860) 216 (7,644) (7,644)

Total olher financingsources (uses) 21 977 20 790 4567 26 377 25377

Net change in fund balances (70,621) (83,460) 51,146 {32,314) 18,000 (14,314}

Fund balances- beginning 159,573 159,573 159,573 38,080 197,653 Beginning encumbrance 26195 Fund balances - ending $ 88,952 76,113 51 146 153,454 58 080 183,339

Explanationof differences: (1} Gain or loss in fair value of investments are not formally budgeted transactions. (2} Encumbrances of funds forwhich formal budget are prepared. (3} Expenditures and repayments that increase and decrease certain loan receivables forwhich formal budgetsare prepared.

See accompanying notes tothe required supplementaryinformation.

85 City of San Jose Housing Activities Schedule of Revenues, Expenditures and Changes in Fund Balance-Budget and Actual For the Year Ended June 30, 2004 ($000's) (Unaudited-seeaccompanying independent auditor's report)

Actual Amounts BudgetaryBasis Actual Variance with Amounts Budgetary Actual Bud9eted Amounts Final Budget Budgetary taGAAP Amounts or191nal Final Over (Under! Basis Differences GAAP Basls REVENUES Intergovernmental $ 8,820 9,958 (7,074) 2,884 (748) 2,136 (1, 3) Charges forcurrent services 25 25 148 171 171 Interest and other revenues 15.981 17,181 10,116 27,297 (22,554) 4,743 (1, 3) Total revenues 24 826 27 164 3188 30 352 1231302} 7050

EXPENDITURES Current Community services 188,715 182,462 (78,248) 104,216 (29,749) 74,467 (2, 3)

Totat expenditures 188 715 1821462 ,181246} 104 216 �9z749l 74467 Excess (deficiency)of revenues over expenditures (163,889! !155,298) 81 434 ,731864} 6,447 ,a7,41!} OTHER FINANCING SOURCES (USES) Capital lease financing proceeds Transfers in 160,517 162,800 (91,997) 70,603 70,803 Transfers out (12,441) {13,626) 2.158 (11,468) (11,468)

Total other financingsources (uses) 148 076 149 174 (89,839! 59,335 59 335

Net change In fund balances (15,813) (6,124) (8,405) (14,529) 6,447 (8,082)

Fund balance- beginning 9,218 9,218 9,218 224,397 233,615 Add beginning encumbrance balance 20410 15,099 230,844 225,533 Fund balances - ending $ i6,595) 3,094 ,a,405�

Explanation of differences: (1) Gain or loss in fairvalue of investments are not formally budgeted transactions. (2) Encumbrancesof funds for.which formal budget are prepared. (3) Expenditures and repayments that increase and decrease certain loan receivables forwhich formal budgets are prepared.

See accompanying notes to the required supplementary information.

86 City of San Jose Required SupplementaryInformation

Schedule of Funding Progress (Dollars in Thousands)

(Unaudited-See accompanying independent auditor's report)

Police and Fire Department Retirement Plan (OVerfunded) Actuarial AALasa Actuarial Actuarial Accrued Unfunded Percentage Valuation Value of Liability (Overfunded) Funded Covered of Covered Date !•l Assets (AAL) AAL Ratio Payroll Payroll

6/30/99 (b) $ 1,440,117 $ 1,276,364 $ (163,753) 113% $ 144,125 (114)% 6/30/01 1,713,812 1,492,732 (221,080) 115% 171,779 (129)% 6/30/03 1,826,287 1,823,200 (3,087) 100% 202,222 2%

Federated CityEmployee's Retirement System Unfunded Actuarial AAL as a Actuarial Actuarial Accrued Percentage Valuation Value of Liability Unfunded Funded Covered of Covered Date (a) Assets (AAL) AAL Ratio Payroll Payroll

6130/99 $ 804,860 $ 862,226 $ 57,366 93% $ 176,284 29% 6/30/01 1,060,144 1,072,333 12,189 99% 252,696 5% 6/30/03 1,280,719 1,311,691 30,972 98% 292,961 11%

{a) The actuarial valuations have been performed biennially (through June 30, 2003). {b) After reflection ofbenefit improvements effeclive February 4, 2000.

87 City of San Jose Notes to Required Supplementary Information June 30, 2004

I. Budgetary Information

The adopted budget represents the financial and organizational plan by which the policies and programs approved by the City Council will be implemented. It includes: (1) the programs, projects, services and activities to be provided during the fiscal year; (2) estimated revenues available to finance the operating plan; and (3) the estimated spending requirements of the operating plan. The City Charter requires that the City establish a budgetary system for general operations and prohibits expending funds for which there is no legal appropriation.

Annual budgets are prepared for the general fund and all special revenue funds except for the following:

• Developers' Fees • William F. Prusch, Jr. • Special Assessment Special Services Capital project budgets are based on a project time frame rather than a fiscal year time frame and therefore are not included. Debt Service Funds appropriations were implicitly adopted by the Council when the formal bond resolutions were approved.

II. Budgetary Results Reconciled to GAAP

The budgetary process is based upon accounting for certain transactions on a basis other than the accounting principles generally accepted in the United States (GAAP) basis. The results of operations are presented in the accompanying budget and actual comparison schedule in accordance with the budgetary process (budgetary basis) to provide a meaningful comparison with the budget. The major differences between the budgetary basis actual and GAAP basis are as follows:

• Year-end encumbrances are recognized as the equivalent of expenditures in the budgetary basis financial statements, while encumbered amounts are not recognized as expenditures on the GAAP basis until the equipment, supplies, or services are received.

• Certain loan transactions are recognized as expenditures for the budgetary basis but not for the GAAP basis. When these loans are made, they are recorded as receivables for the GAAP basis and as expenditures for the budgetary basis. When loan repayments are received, they are recorded as reductions to receivables for the GAAP basis, but are recognized as revenues for the budgetary basis. • Net decreases were made to certain GAAP basis loans receivable to reflect carrying amounts al a discounted present value and allowances for bad debts. The discount is treated as an expenditure for the GAAP basis and is not included in the budgetary basis financial statements. In addition, the allowance for bad debts is not included in the budgetary basis financial statements, but is an expenditure for the GAAP basis.

• Certain accounts such as the change in fair value ofinvestments included in the City's GAAP basis amounts, for which no formal budgets are prepared, are excluded from the budgetary basis financial statements.

88 (Continued) City of San Jose Notes to Required Supplementary Information June 30, 2004

Ill. Budget Revisions

On November 9, 2004, the City Council approved certain fiscal 2004 budget rev1s1ons that increased appropriations for various expenditure categories. The budget amounts presented in the accompanying combined statement of revenues, expenditures, and changes in fund balances - budget and actual (budgetary basis) reflect such budget revisions.

89 (Concluded) CITY OF A SANJOSE CAPITI\L OP SILICON VALLEY APPENDIX C

FORM OFOPINION OF BOND COUNSEL

June_, 2005

City Council City of San Jose 801 North FirstStreet San Jose, California 951 10

OPINION: $46,300,000 City of San Jose General Obligation Bonds, Series 2005 Libraries and Public Safety Projects)

Membersof the City Council:

We have acted as bond counsel in connection with the issuance by the City of San Jose (the "City'} of its $46,300,000 aggregate principal amount of City of San Jose General Obligation Bonds, Series 2005 (Libraries and Public Safety Projects}, dated June 23, 2005 (the "Bonds'}. The Bonds have been issued by the City pursuant to the Constitution and laws of the State of California, including Chapter 14.28 of the San Jose Municipal Code, a resolution adopted by the City Council of the City on June 7, 2005, (the "Resolution"} and a Fiscal Agent Agreement dated as of June 1, 2005 (the "Fiscal Agent Agreement") between the City and Wells Fargo Bank, National Association, as fiscal agent. We have examined the law and such certified proceedings and other papers as we deem necessary to render this opinion.

As to questions of fact material to our opinion, we have relied upon representations of the City contained in the Fiscal Agent Agreement and in the certified proceedings, and certifications of public officials and others furnished to us, without undertaking to verify the same by independent investigation. Based upon the foregoing, we are of the opinion, under existing law, as follows:

1. The City is duly organized and validly existing as a charter city under the Constitution and laws of the State of California, with the power to adopt the Resolution, to execute and deliver the Fiscal Agent Agreement and to perform the agreements on its part contained therein, and to issue the Bonds.

2. The Bonds are valid and binding obligations of the City, payable from ad valorem taxes as provided in the Fiscal Agent Agreement. The City has the power, and is obligated, and in the Fiscal Agent Agreement has covenanted, to levy ad valorem taxes upon all property within

C-1 City of San Jose June , 2005 Page 2

the City which is subject to taxation by the City, without limitation of rate or amount, for the payment of the Bonds and the interest thereon.

3. The interest on the Bonds is excluded from gross income for federal income tax purposes and is not an item of tax preference for purposes of the federal alternative minimum tax imposed on individuals and corporations; it should be noted, however, that, for the purpose of computing the alternative minimum tax imposed on corporations (as defined for federal income tax purposes), such interest is taken into account in determining certain income and earnings. The opinions set forth in the preceding sentences are subject to the condition that the City comply with all requirements of the Code that must be satisfied subsequent to the issuance of the Bonds in order that interest thereon be, or continue to be, excluded from gross income for federal income tax purposes and that the Bonds be, or continue to be, qualified tax-exempt obligations. The City has covenanted to comply with each such requirement. Failure to comply with certain of such requirements may cause the inclusion of interest on the Bonds in gross income forfe deral income tax purposes to be retroactive to the date of issuance of the Bonds. We express no opinion regarding other federal tax consequences arising with respect to the Bonds.

4. The interest on the Bonds is exempt from personal income taxation imposed by the State of California.

The rights of the owners of the Bonds and the enforceability of the Bonds may be subject to bankruptcy, insolvency, reorganization, moratorium and other similar laws affecting creditors' rights heretofore or hereafter enacted and may also be subject to the exercise of judicial discretion in appropriate cases.

Respectfully submitted,

A Professional Law Corporation

C-2 APPENDIX D

CONTINUING DISCLOSURE CERTIFICATE

This Continuing Disclosure Certificate (the "Disclosure Certificate") is executed and delivered by the City of San Jose (the "City") in connection with the issuance by the City of its $46,300,000 General Obligation Bonds, Series 2005 (Libraries and Public Safety Projects) (the "Bonds"). The Bonds are being issued pursuant to a resolution adopted by the City Council of the City on June 7, 2005 and a Fiscal Agent Agreement (the "Fiscal Agent Agreement"), dated as of June 1, 2005, by and between the City and Wells Fargo Bank, National Association, as fiscal agent (the "Fiscal Agent"). Pursuant to Section 5.06 of the Fiscal Agent Agreement, the City covenants and agrees as follows:

Section 1. Purpose of the Disclosure Certificate. This Disclosure Certificate is being executed and delivered by the City for the benefit of the Owners and Beneficial Owners of the Bonds and in order to assist the Participating Underwriters in complying with Securities and Exchange Commission Rule 15c2-12(b)(5).

Section 2. Definitions. In addition to the definitions set forth in the Fiscal Agent Agreement, which apply to any capitalized term used in this Disclosure Certificate unless otherwise defined in this Section, the following capitalized terms shall have the following meanings:

"Annual Report" shall mean any Annual Report provided by the City pursuant to, and as described in, Sections 3 and 4 of this Disclosure Certificate.

"Beneficial Owner" shall mean any person which (a) has the power, directly or indirectly, to vote or consent with respect to, or to dispose of ownership of, any Bonds (including persons holding Bonds through nominees, depositories or other intermediaries), or (b) is treated as the owner of any Bonds for federal income tax purposes.

"CPO" means the Internet-based filing system currently located at www.DisclosureUSA.org, or such other similar filing system approved by the Securities and Exchange Commission.

"Disclosure Representative· shall mean the Deputy Director of Finance, Debt and Risk Management or his or her designee.

"Dissemination Agent" shall mean an entity selected and retained by the City, or any successor thereto selected by the City. The initial Dissemination Agent shall be Wells Fargo Bank, National Association.

"Listed Events" shall mean any of the events listed in Section 5(a) of this Disclosure Certificate and any other event legally required to be reported pursuant to the Rule.

"National Repository" shall mean any Nationally Recognized Municipal Securities Information Repository as may be designated from time to time pursuant to the Rule. Information on the National Repositories as of a particular date is available on the Internet at www.sec.gov/info/municipal/nrmsir.htm. "Participating Underwriters" shall mean any of the original underwriters of the Bonds required to comply with the Rule in connection with offering of theBonds.

"Repository" shall mean each National Repository and each State Repository.

"Rule" shall mean Rule 15c2-1 2(b)(5) adopted by the Securities and Exchange Commission under the Securities Exchange Act of19 34, as the same may be amended from time to time.

"State" shall mean the State of California.

"State Repository" shall mean any public or private repository or entity designated by the State as a state repository for the purpose of the Rule and recognized as such by the Securities and Exchange Commission. As of the date of this Disclosure Certificate. there is no State Repository.

Section 3. Provision of Annual Reports.

(a) The City shall provide to each Repository, or shall cause the Dissemination Agent to provide to each Repository ( or, in lieu of providing to each Repository. provide to the CPO), not later than 9 months after the end of the City's fiscal year, commencing with the fiscal year ending June 30, 2005 (which would correspond to an initial distribution date of not later than April 1, 2006), an Annual Report which is consistent with the requirements of Section 4 of this Disclosure Certificate. The first annual report may be in the form of the Official Statement, together with the audited financial statements of the City for the Fiscal Year ended June 30, 2005. The Annual Report may be submitted as a single document or as separate documents comprising a package, and may include by reference other information as provided in Section 4 of this Disclosure Certificate. Not later than fifteen (15) Business Days prior to said date. the City shall provide the Annual Report to the Dissemination Agent. The City shall provide a written certification with each Annual Report furnished to the Dissemination Agent to the effect that such Annual Report constitutes the Annual Report required to be furnished by the City hereunder. The Dissemination Agent may conclusively rely upon such certification of the City.

(b) If by fifteen (15) Business Days prior to the date specified in subsection (a) for providing the Annual Report to the Repositories, the Dissemination Agent has not received a copy of the Annual Report, the Dissemination Agent shall contact the City to determine if the City is in compliance with subsection (a).

(c) If the Dissemination Agent is unable to verify that an Annual Report has been provided to the Repositories by the date required in subsection (a). the Dissemination Agent shall provide to (i) each National Repository or the Municipal Securities Rulemaking Board and (ii) each appropriate State Repository (with a copy to the Trustee) a notice, in substantially the form attached as Exhibit A. In lieu of filing the notice with each Repository, the City or the Dissemination Agent may filesuch notice with the CPO ..

(d) With respect to each Annual Report, the Dissemination Agent shall:

(i) determine each year prior to the date for providing the Annual Report the name and address of each National Repository and the State Repository, if any; and

D-2 (ii) (if the Dissemination Agent is other than the City), to the extent appropriate information is available to it, file a report with the City certifying that the Annual Report has been provided pursuant to this Disclosure Certificate, stating the date it was provided and listing all the Repositories to which it was provided.

Section 4. Content of Annual Reports. The City's Annual Report shall contain or include by reference the following:

(a) Audited financial statements of the City prepared in accordance with generally accepted accounting principles as promulgated to apply to governmental entities from time to time by the Governmental Accounting Standards Board. If the City's audited financial statements are not available by the time the Annual Report is required to be filed pursuant to Section 3(a), the Annual Report shall contain unaudited financial statements in a format similar to that used for the City's audited financial statements, and the audited financial statements shall be filed in the same manner as the Annual Reportwhen they become available.

(b) The budget transmittal letter of the City for the current fiscal year, together with summary information relating to the City's operating budget for the current fiscal year, historical and trend information relating to the City's operating budgets, and budget policies and practices relating to the City's operating budgets, but only to the. extent such material is prepared by the City in connection with the current fiscal year's operating budget;

(c) Changes, if any, in the operation of the County of Santa Clara's Teeter Plan affecting the City;

(d) Assessed value of taxable property within the jurisdiction of the City for the current fiscal year;

(e) Property tax collection delinquencies for the prior fiscal year for the City if the City is no longer a participant in the County of Santa Clara's Teeter Plan;

(f) Amount of all general obligation debt of the City outstanding, and total scheduled debt service on such general obligation debt as of the preceding June 30; and

(g) Top ten real property tax assessees of the City for the current fiscal year, and taxable value and percentage of total assessed value.

Any or all of the items listed above may be included by specific reference to other documents, including official statements of debt issues with respect to which the City is an "obligated person" (as defined by the Rule), which have been filed with each of the Repositories or the Securities and Exchange Commission. If the document included by reference is a final official statement, it must be available from the Municipal Securities Rulemaking Board. The City shall clearly identifyeach such other document so included by reference.

Section 5. Reporting of Significant Events.

(a) Pursuant to the provisions of this Section 5, the City shall give, or cause to be given, notice of the occurrence of any of the following events with respect to the Bonds, if material:

D-3 1. principal and interest payment delinquencies;

2. non-payment related defaults;

3. modifications to rights of Bondowners;

4. optional, contingent or unscheduled Bond calls;

5. defeasances;

6. rating changes;

7. adverse tax opinions or events affecting the tax-exempt status of the Bonds;

8. unscheduled draws on the debt service reserves, if any, reflecting financial difficulties;

9. unscheduled draws on credit enhancements reflecting financial difficulties; 1 o. substitution of credit or liquidity providers, or their failure to perform; and

11. release, substitution, or sale propertysecuring repayment of the Bonds.

(b) The Dissemination Agent shall, after obtaining actual knowledge of the occurrence of any of the Listed Events, without any determination as to materiality, contact the Disclosure Representative, inform such person of the event, and request that the City promptly notify the Dissemination Agent in writing whether or not to report the event pursuant to subsection (f) . For purposes of this Disclosure Certificate, "actual knowledge" of the occurrence of such Listed Events shall mean knowledge by an officer of the Dissemination Agent with regular responsibility for administration of matters related to the Bonds.

(c) Whenever the City obtains knowledge of the occurrence of a Listed Event, whether because of a notice from the Dissemination Agent pursuant to subsection (b) or otherwise, the City shall as soon as possible determine if such event would constitute material information for Owners of Bonds, provided, that any event under subsection (a)(6) will always · be defined to be material.

(d) If the City has determined that knowledge of the occurrence of a Listed Event would be material under applicable federal securities laws, the City shall promptly notify the Dissemination Agent in writing. Such notice shall instruct the Dissemination Agent to report the occurrence pursuant to subsection (f). In lieu of filing the notice of Listed Event with each Repository in accordance with the preceding sentence, the Dissemination Agent may file such notice of a Listed Event with the CPO.

(e) If in response to a request under subsection (b), the City determines that the Listed Event would not be material under applicable federal securities laws, the City shall so notify the Dissemination Agent in writing and instruct the Dissemination Agent not to report the occurrence pursuant to subsection (f).

D-4 (f) If the Dissemination Agent has been instructed by the City to report the occurrence of a Listed Event, the Dissemination Agent shall file a notice of such occurrence with the Repository. Notwithstanding the foregoing:

(i) notice of the occurrence of a Listed Event described in subsections (a)(1), (4) or (5) shall be given by the Dissemination Agent unless the City gives the Dissemination Agentaffirmative instructions not to disclose such occurrence; and

(ii) notice of Listed Events described in subsections (a)(4) and (5) shall not be given under this subsection any earlier than the notice (if any) of the underlying event is given to the Owners of affected Bonds pursuant to the Fiscal Agent Agreement.

Section 6. Termination of Reporting Obligation. The City's and the Dissemination Agent's obligations under this Disclosure Certificate shall terminate upon the legal defeasance, prior redemption or payment in full of all of the Bonds. If such termination occurs prior to the final maturity of the Bonds, the City shall give notice of such termination in the same manner as for a Listed Event under Section 5(f) hereof.

Section 7. Dissemination Agent. The City may, from time to time, appoint or engage a Dissemination Agent to assist it in carrying out its obligations under this Disclosure Certificate, and may discharge any such Dissemination Agent, with or without appointing a successor Dissemination Agent. The Dissemination Agent may resign at any time by providing at least 60 days' notice in writing to the City and the Fiscal Agent.

Section 8. Amendment: Waiver. Notwithstanding any other provision of this Disclosure Certificate, the City and the Dissemination Agent may amend this Disclosure Certificate (and the Dissemination Agent and Fiscal Agent shall agree to any amendment so requested by the City, provided no amendment increasing or affecting the obligations or duties of the Dissemination Agent or the Fiscal Agent shall be made without the consent of either such party) and any provision of this Disclosure Certificate may be waived if such amendment or waiver is supported by an opinion of counsel expert in federal securities laws acceptable to the City and the Dissemination Agent to the effect that such amendment or waiver would not. in and of itself, cause the undertakings herein to violate the Rule if such amendment or waiver had been effective on the date hereof but taking into account any subsequent change in or official interpretation of the Rule.

Section 9. Additional Information. Nothing in this Disclosure Certificate shall be deemed to prevent the City from disseminating any other information, using the means of dissemination set forth in this Disclosure Certificate or any other means of communication, or including any other information in any Annual Report or notice of occurrence of a Listed Event, in addition to that which is required by this Disclosure Certificate. If the City chooses to include any information in any Annual Report or notice of occurrence of a Listed Event, in addition to that which is specifically required by this Disclosure Certificate, the City shall have no obligation under this Certificate to update such information or include it in any future Annual Report or notice of occurrence of a Listed Event.

Section 10. Default. In the event of a failure of the City to comply with any provision of this Disclosure Certificate, any Owner or Beneficial Owner of the Bonds may take such actions, as may be necessary and appropriate. including seeking mandate or specific performance by court order, to cause the City to comply with its obligations under this Disclosure Certificate. A default under this Disclosure Certificate shall not be deemed an Event of Default under the

D-5 Fiscal Agent Agreement, and the sole remedy under this Disclosure Certificate in the event of any failure of the City or the Fiscal Agent to comply with this Disclosure Certificate shall be an action to compel performance. The City hereby represents and warrants that it is currently not in default under any other continuing disclosure arrangement entered into in connection with the Rule.

Section 11. Duties, Immunities and Liabilities of Dissemination Agent. The Dissemination Agent shall have only such duties as are specifically set forth in this Disclosure Certificate, and the City agrees to indemnify and save the Dissemination Agent, its officers, directors, employees and agents, harmless against any loss, expense and liabilities which they may incur arising out of or in the exercise or performance of their respective powers and duties hereunder, including the costs and expenses (including attorneys' fees) of defending against any claim of liability, but excluding liabilities due to the Dissemination Agent's negligence or willful misconduct. The Dissemination Agent shall be entitled to the same immunities to which the Fiscal Agent is entitled under the Fiscal Agent Agreement. The Dissemination Agent shall be paid compensation by the City for its services provided hereunder in accordance with its schedule of fees as amended from time to time, and all expenses, legal fees and advances made or incurred by the Dissemination Agent in the performance of its duties hereunder. The Dissemination Agent shall have no duty or obligation to review any information provided to it hereunder and shall not be deemed to be acting in any fiduciary capacity for the City, the Bondowners, or any other party. The obligations of the City under this Section shall survive resignation or removal of the Dissemination Agent or the Fiscal Agent and payment of the Bonds.

Section 12. Notices. Any notices or communications to or among any of the parties to this Disclosure Certificate may be given as follows:

To the City: Debt & Risk Management Finance City of San Jose 200 East Santa Clara Street San Jose, California 95113-1905

To the Dissemination Agent/Fiscal Agent: Wells Fargo Bank, National Association 707 Wilshire Boulevard, 17th Floor Los Angeles, California 90017 Attention: Corporate Trust Department

Any person may, by written notice to the other persons listed above, designate a different address to which subsequent notices or communications should be sent.

D-6 Section 13. Beneficiaries. This Disclosure Certificate shall inure solely to the benefit of the City, the Dissemination Agent, the Fiscal Agent, the Participating Underwriters and Owners and Beneficial Owners from time to time of the Bonds, and shall create no rights in any other person or entity.

Dated: June 23, 2005

CITY OF SAN JOSE

By______Title:. ______

APPROVED AS TO FORM: Richard Doyle, City Attorney

Senior Deputy City Attorney

Accepted and Acknowledged: Wells Fargo Bank, National Association, as Fiscal Agent and Dissemination Agent

By:______

D-7 EXHIBIT A NOTICE OF FAILURE TO FILE ANNUAL REPORT

Name of Issuer: City of San Jose

Name of Bond Issue: $46,300,000 General Obligation Bonds, Series 2005 (Libraries and Public Safety Projects)

Date of Issuance: June 23, 2005

NOTICE IS HEREBY GIVEN to [(i) each National Repository or the Municipal Securities Rulemaking Board and (ii) each appropriate State Repository] [the CPO and the Municipal Securities Rulemaking Board] that the City of San Jose (the "City") has not provided, an Annual Report with respect to the above-named Bonds as required by that certain Fiscal Agent Agreement, dated June 1, 2005, by and between the City and Wells Fargo Bank, National Association, as fiscal agent The City anticipates that the Annual Report will be filed by

Dated: ------

WELLS FARGO BANK, NATIONAL ASSOCIATION

By: ______Its: ------cc: City of San Jose

D-8 APPENDIX E THE BOOK-ENTRY SYSTEM

The information in this section concerning OTC and DTC's book-entry system has been obtained from sources that the City believes to be reliable, but the City takes no responsibility for theaccuracy thereof.

General. Neither the City nor the Fiscal Agent can and do not give any assurances that OTC, OTC Participants or Indirect Participants will distribute to the Beneficial Owners (a) payments of interest, principal or premium, if any, with respect to the Bonds, (b) certificates representing ownership interest in or other confirmation or ownership interest in the Bonds, or (c) redemption or other notices sent to OTC or Cede & Co., its nominee, as the registered owner of the Bonds, or that they will so do on a timely basis or that OTC, OTC Participants or OTC Indirect Participants will act in the manner described in this Official Statement. The current "Rules" applicable to OTC are on file with the Securities and Exchange Commission and the current "Procedures" of OTC to be followed in dealing with OTC Participants are on file with OTC.

Neither the City nor the Fiscal Agent can or give any assurances that OTC, the Participants or others will distribute payments of the principal of, or interest or premium, if any, on the Bonds paid to OTC or its nominee as the registered owner, or will distribute any redemption notices or other notices, to the Beneficial Owners, or that they will do so on a timely basis or will serve and act in the manner described in this Official Statement. Neither the City nor the Fiscal Agent is responsible or liable for the failure of OTC or any Participant to make any payment or give any notice to a Beneficial Owner with respect to the Bonds or an error or delay relating thereto.

DTC. OTC will act as securities depository for the Bonds. The Bonds will be issued as fully-registered securities registered in the name of Cede & Co. (DTC's partnership nominee) or such other name as may be requested by an authorized representative of OTC. One fully-registered security certificate will be issued for each maturity of the Bonds, each in the aggregate principal amount of such maturity, and will be deposited with OTC.

OTC, the world's largest depository, is a limited-purpose trust company organized under the New York Banking Law, a "banking organization" within the meaning of the New York Banking Law, a member of the Federal Reserve System, a "clearing corporation" within the meaning of the New York Uniform Commercial Code, and a "clearing agency" registered pursuant to the provisions of Section 17A of the Securities Exchange Act of 1934. OTC holds and provides asset servicing for over 2 million issues of U.S. and non-U.S. equity issues, corporate and municipal debt issues, and money market instruments from over 85 countries that DTC's participants ("Direct Participants") deposit with DTC. OTC also facilitates the post-trade settlement among Direct Participants of sales and other securities transactions in deposited securities, through electronic computerized book-entry transfers and pledges between Direct Participants' accounts. This eliminates the need for physical movement of securities certificates. Direct Participants include both U.S. and non-U.S. securities brokers and dealers, banks, trust companies, clearing corporations, and certain other organizations. OTC is a wholly-owned subsidiary of The Depository Trust & Clearing Corporation ("DTCC"). DTCC, in turn, is owned by a number of Direct Participants of OTC and Members of the National Securities Clearing Corporation, Government Securities Clearing Corporation, MBS Clearing Corporation, and Emerging Markets Clearing

E-1 Corporation, (respectively, "NSCC", "GSCC", "MBSCC", and "EMCC", also subsidiaries of DTCC), as well as by the New York Stock Exchange, Inc., the American Stock Exchange LLC, and the National Association of Securities Dealers, Inc. Access to the OTC system is also available to others such as both U.S. and non-U.S. securities brokers and dealers, banks, trust companies, and clearing corporations that clear through or maintain a custodial relationship with a Direct Participant, either directly or indirectly ("Indirect Participants"). OTC has Standard & Poor's highest rating: AAA. The OTC Rules applicable to its Participants are on file with the Securities and Exchange Commission. More information about OTC can be found at www.dtcc.com.

Book-Entry Only System. Purchases of the Bonds under the OTC system must be made by or through Direct Participants, which will receive a credit for the Bonds on DTC's records. The ownership interest of each actual purchaser of each Security ("Beneficial Owner'') is in turn to be recorded on the Direct and Indirect Participants' records. Beneficial Owners will not receive written confirmation from OTC of their purchase. Beneficial Owners are, however, expected to receive written confirmations providing details of the transaction, as well as periodic statements of their holdings, from the Direct or Indirect Participant through which the Beneficial Owner entered into the transaction. Transfers of ownership interests in the Bonds are to be accomplished by entries made on the books of Direct and Indirect Participants acting on behalf of Beneficial Owners. Beneficial Owners will not receive certificates representing their ownership interests in the Bonds, except in the event that use of the book-entry system for the Bonds is discontinued.

To facilitate subsequent transfers, all Bonds deposited by Direct Participants with OTC are registered in the name of DTC's partnership nominee, Cede & Co., or such other name as may be requested by an authorized representative of OTC. The deposit of the Bonds with OTC and their registration in the name of Cede & Co. or such other OTC nominee do not effect any change in beneficial ownership. OTC has no knowledge of the actual Beneficial Owners of the Bonds; DTC's records reflect only the identity of the Direct Participants to whose accounts such Bonds are credited, which may or may not be the Beneficial Owners. The Direct and Indirect Participants will remain responsible for keeping account of their holdings on behalf of their customers.

Conveyance of notices and other communications by OTC to Direct Participants, by Direct Participants to Indirect Participants, and by Direct Participants and Indirect Participants to Beneficial Owners will be governed by arrangements among them, subjectto any statutory or regulatory requirements as may be in effect from time to time. Beneficial Owners of the Bonds may wish to take certain steps to augment the transmission to them of notices of significant events with respect to the Bonds, such as redemptions, tenders, defaults, and proposed amendments to the Security documents. For example, Beneficial Owners of the Bonds may wish to ascertain that the nominee holding the Bonds for their benefit has agreed to obtain and transmit notices to Beneficial Owners. In the alternative, Beneficial Owners may wish to provide their names and addresses to the registrar and request that copies of notices be provided directly to them.

Redemption notices will be sent to OTC. If less than all of the Bonds within an issue are being redeemed, DTC's practice is to determine by lot the amount of the interest of each Direct Participant in such issue to be redeemed.

Neither OTC nor Cede & Co. (nor any other OTC nominee) will consent or vote with respect to the Bonds unless authorized by a Direct Participant in accordance with DTC's

E-2 Procedures. Under its usual procedures, OTC mails an Omnibus Proxy to the issuer as soon as possible after the record date. The Omnibus Proxy assigns Cede & Co.'s consenting or voting rights to those Direct Participants to whose accounts the Bonds are credited on the record date (identified in a listing attached to the Omnibus Proxy).

Payments of principal of, premium, if any, and interest evidenced by the Bonds will be made to Cede & Co., or such other nominee as may be requested by an authorized representative of OTC. DTC's practice is to credit Direct Participants' accounts upon DTC's receipt of funds and corresponding detail information from the City or the Fiscal Agent, on payable date in accordance with their respective holdings shown on DTC's records. Payments by Participants to Beneficial Owners will be governed by standing instructions and customary practices, as is the case with securities held for the accounts of customers in bearer form or registered in "street name," and will be the responsibility of such Participant and not of OTC (nor its nominee), the Fiscal Agent, or the City, subject to any statutory or regulatory requirements as may be in effect from time to time. Payment of principal of, premium, if any, and interest evidenced by the Bonds to Cede & Co. (or such other nominee as may be requested by an authorized representative of OTC) is the responsibility of the City or the Fiscal Agent, disbursement of such payments to Direct Participants will be the responsibility of OTC, and disbursement of such payments to the Beneficial Owners will be the responsibility of Direct and Indirect Participants.

Discontinuance of Book-Entry Only System. OTC may discontinue providing its services as depository with respect to the Bonds at any time by giving reasonable notice to the City or the Fiscal Agent. Under such circumstances, in the event that a successor depository is not obtained, Security certificates are required to be printed and delivered.

The City may decide to discontinue use of the system of book-entry transfers through OTC (or a successor securities depository). In that event, Bond certificates will be printed and delivered.

In the event that the book-entry system is discontinued as described above, the requirements of the Indenture will apply. The foregoing information concerning OTC concerning and DTC's book-entry system has been provided by OTC, and neither the City or the Fiscal Agent take any responsibility for the accuracy thereof.

E-3 CITY OF A SANJOSE CAPITAL OF SIL!CDN VALLEY APPENDIX F

FORM OF MUNICIPAL BOND INSURANCE POLICY

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CITY OF SANJOSE CAPITAL OF SILICON VA LLEY