Call your member of Congress THIS MORNING. Urge them to oppose eliminating advance refunding in HR1, the tax bill.
Provide them with any data or anecdotes that describe taxpayer savings in your jurisdiction.
UPDATE: (12/15/17) The proposed tax legislation eliminates advanced refunding bonds after December 31, 2017. No transition relief. (p. 310)
What is an advance refunding?
An advance refunding occurs when issuers refinance outstanding bonds before the original bonds mature or are callable. In effect, issuers sell new bonds to "retire" or buy back out-standing bonds. Borrowers advance refund their outstanding debt to take advantage of favorable interest rate environment (similar to individuals refinancing their home mortgage) thus reducing their borrowing costs and freeing up resources for new projects. Transactions where the refunding bonds are issued within 90 days of the call date are treated as current, not advance refundings.
Since 1986, governmental bonds may be advance refunded once, although in ARRA an additional advance refunding was available but has since expired. By allowing bonds to have one advance refunding over the lifetime of the bonds (which in many cases is 30 years), would provide governments the ability to restructure debt and lower borrowing costs which ultimately would be a savings to tax and rate payers.
What is GFOA’s Best Practice on Advance Refunding?
GFOA recommends that issuers include guidelines in their debt management policies that address preservation of future refunding flexibility when issuing any debt, formal refunding objectives, and monitoring of refunding opportunities on outstanding debt.
GFOA also recommends that when evaluating a refunding transaction, issuers should analyze their refunding objectives, the efficiency of any related escrow, and the unique aspects of executing the refunding transaction.
Additionally, as is stated in other GFOA best practices, governments that don’t have dedicated debt management staff, expertise in analyzing refunding opportunities, or access to current bond market data should engage the services of a municipal advisor. Many unique refunding structures are presented to issuers, and these should be thoroughly reviewed with a municipal advisor.
Why is Congress proposing to eliminate Advance Refunding?
Congress has proposed to eliminate many current provisions that would pay for lowering tax rates to individuals and corporations. Advanced Refundings are eliminated in the proposed tax bill (H.R. 1).
H.R. 1 Section 3602
Provision: Under the provision, interest on advance refunding bonds (i.e., refunding bonds issued more than 90 days before the redemption of the refunded bonds) would be taxable. Interest on current refunding bonds would continue to be tax-exempt. The provision would be effective for advance refunding bonds issued after 2017.
- Current-law advance refunding bonds provide State and local governments with incentives to issue two sets of Federally subsidized debt to finance the same activity.
- The provision would not affect the taxation of interest on refunding bonds issued within 90 days of the redemption of the refunded bond.
How much will this save the federal government: According to JCT, the provision would increase revenues by $17.3 billion over 2018-2027
GFOA position and talking points:
- Advance refundings currently allow state and local governments to take advantage of lower interest rates by lowering interest rates on outstanding debt. This provision forces issuers to essentially accept market conditions in that 90 day current refunding window and, unlike home mortgages, takes away the ability of issuers to refinance for debt service savings when interest rates are favorable.
- Advance refundings are limited, occurring only during the first 10 years of a bond issue and then only when interest rates are lower than the interest rate on the bond; eliminating advance refundings would remove an important financial management tool that allows state and local governments to save billions on interest costs.
- By reducing their debt service expenses through advance refundings, states and localities are able to free up borrowing capacity for new investment in infrastructure and other important facilities, so eliminating advance refundings would likely result in less overall investment in infrastructure.
- Limiting governments to a single advance refunding was a compromise that recognizes how important advance refundings are for states and localities while respecting the interest of the federal government to limit the number of bonds outstanding.