Basic Rule: A bond is not eligible for tax-exemption of its interest if such bond is federally guaranteed (Section 149(b) of the Code). There must generally be a transfer of the risk to the federal government in order to find a federal guarantee issue.
A bond is federally guaranteed if:
- the payment of principal or interest with respect to the bond is guaranteed (in whole or in part) by the United States (or any agency or instrumentality thereof); or
- 5% or more of the proceeds of the bond is used to (a) make loans the payment of principal or interest with respect to which are to be guaranteed (in whole or in part) by the United States (agency/instrumentality) or (b) make investments (directly or indirectly) in federally insured deposit accounts; or
- the payment of principal or interest on such bonds is otherwise indirectly guaranteed (in whole or in part) by the United States (agency/instrumentality).
- Certain insurance programs are excepted and not federal guarantees (guarantees by FHA, VA, FNMA, FHLMC, GNMA, SLMA, Bonneville);
- Debt service investments are excepted and not federal guarantees if (a) proceeds of the issue are invested for an initial temporary period until the proceeds are needed for the purpose for which such bonds were issued, (b) investments of a bona fide debt service fund, (c) investments of a reserve which meet the requirements of Section 148(d), (d) investments in obligations issued by the U.S. Treasury, or (e) other investments permitted under the regulations.
- Exceptions for certain housing programs (PAB for qualified residential rental project or a housig program obligation under Section 11(b) of the US Housing Act of 1937, qualified mortgage bond, qualified veterans’ mortgage bond)
- Exception for loans to, or guarantees by, financial institutions.
- Section 149(b) does not apply to tax credit bonds, per IRS TEB. Unlike for build America bonds, there is no tie-in regarding the tax credit bonds and the Section 103 prohibitions.
- Question: Tax-exempt bonds to be issued to purchase building; building will be leased to the federal government for one year; federal government lease payments will offset lease payments to be made to pay interest and principal. Are the bonds “federally guaranteed”?
- Answer: Some bond counsel believe that a lease of space to the federal government will not constitute a federal guaranty. But note private business use and private payment matter.
- Question: Federal government makes a grant to a fund that also includes moneys from many other sources. The fund becomes pledged to pay debt service on a bond issue. Is the bond issue federally guaranteed? Notiz 201203211
- Answer: [To come!]
- Question: Does receipt of TIFIA moneys constitute a prohibited federal guaranty?
- Answer: Yes, and one should structure around the issue by requiring strict allocation of TIFIA moneys to the project and away from payment of debt service. See, for example, the following discussions: U.S. DOT Publication
- Question: Are build America bond subsidy payments “federal guarantees”?
- Answer: No. In determining if an obligation would be tax-exempt under section 103, the credit (or the payment discussed below for direct-pay Build America Bonds) is not treated as a federal guarantee. See JCX-36-12.
Administrative and Legislative References:
- PLR 9623032: Smithsonian and Federal Appropriations: Under Federal Law A, appropriated funds cannot be used for any purpose other than that for which the appropriation was made. Federal Law B specifies that no federally appropriated funds may be used to pay any expense of the planning, design, or construction of the Project, including the debt service on the Bonds. Therefore, although G can and does receive federal appropriations, G is prohibited by federal law from using appropriated funds to pay for costs of the Project, including principal and interest payments on the Bonds. A comprehensive fiscal control system has been implemented by G to ensure that appropriated funds are used only as specified by the federal government. Based on these facts and circumstances, we do not believe that a federal guarantee arises from G’s receipt of federal appropriations. Accordingly, we conclude that G’s receipt of federal appropriations to partially fund its operations will not cause the Bonds to be federally guaranteed bonds within the meaning of §149(b) .
- FSA 200023018: Rural Development Takeout: Issue: Whether funds received from an agency of the United States to finance a public project that are, in turn, pledged to pay debt service on municipal obligations create an indirect federal guarantee. From the information provided, it does not appear that the debt service on the obligations is guaranteed, either directly or indirectly, by the federal government. As the actual receipt of funds from the agency is conditional, there is no transfer of risk to the federal government in the event of default on the obligations. “The mere fact that federal funds are available to pay debt service on the Notes, however, does not necessarily result in an indirect guarantee. The more important question is whether the substance of the transaction results in a transfer of risk to the federal government in the event of a default on the Notes.” (Keyword: USDA)
- PLR 8537037: Federal Grants to Repay Obligations: The GANs will be general obligations of Authority and will also be secured by a pledge of the anticipated grant. A portion of the grant will be used to fully redeem the GANs. Section 103(h)(1) of the Code provides that an obligation is not treated as an obligation described in section 103(a) if it is federally guaranteed. Based on the facts as submitted, we have concluded that the GANs will not be considered federally guaranteed for purposes of section 103(h). Relevant facts were that the GANs would not be outstanding longer than six months after the date on which the Authority expects to receive the grant and for no longer than 30 months after they are issued.
- FSA 200030003: Golf Course: Adverse determination. Whether the credit enhancement for the bonds, which is secured by lease payments received from a United States agency, creates an indirect federal guarantee of the bonds.