Municipal Bond Modernization

Small Issuer Exception

Brief Description:
House Committee on Ways & Means members Terry Sewell (D-AL) and Tom Reed (R-NY) introduced H.R. 3967, the Municipal Bond Market Support Act of 2019, a bill that offers a proven incentive for local banks to purchase the tax-exempt debt of small local governments and borrowers such as small colleges, health care facilities and other charities. Governments issuing $10 million or less in bonds (a limit that has not changed since 1986) per calendar year can have those bonds designated (or qualified 501(c)(3) bonds) as bank-qualified, which allows them to bypass the traditional underwriting system and sell their tax-exempt bonds directly to local banks at a cost savings for taxpayers.

In the late 2000s, the limit was temporarily increased, which created a market for thousands of small borrowings that stimulated the economy as well as cash strapped small governments and nonprofits.

Modernize bond provisions: Increase the maximum allowed bond issuance of “bank eligible" bonds to $30 million

Proposed Legislative Change:

  • Increase the maximum allowed bond issuance of “bank eligible" bonds to $30 million from the current level of $10 million. Set in 1986, the limit should be increased and then tied to inflation in future years.
  • Permanently modify the small issuer exception to tax-exempt interest expense allocation rules for financial institutions (Section 265(b)(3)). The provision should be modified to apply to governmental issuers and the borrowing organizations separately regardless of the issuer and permit the 501(c)(3) organization to provide the designation.

Direct Subsidy Bonds

Brief Description:
Direct subsidy bonds, like Build America Bonds (BABs), are debt securities (e.g. municipal bonds) issued by a state, municipality, or county to finance capital expenditures. In general, there are two distinct types of BABs: tax credit BABs and direct payment BABs.

Tax credit BABs offered bondholders and lenders a 35% federal subsidy of the interest paid through refundable tax credits, reducing the bondholder’s tax liability.

The direct payment BABs offered a similar subsidy that was paid to the bond issuer. The U.S. Treasury made a direct payment to BAB issuers in the form of a 35% subsidy of the interest they owed to investors. As a result of sequestration, issuers saw a reduction in their subsidy payments.

Modernize bond provisions: Protect Build America Bond payments to issuers in case of sequestration (Section 6431(b)).

Proposed Legislative Change:
Protection of Build America Bond payments to issuers in case of sequestration (Section 6431(b)).

  • Credit payments to issuers of Build America Bonds were not intended to be subject to budget sequestration. This would conform treatment of these payments to treatment of other tax credit payments.
  • 10-year budget effect ~$1.7 billion.5

Private Use Limitations

Brief Description:
The core private use restriction applicable to a governmental bond issue is found in Section 141(b) of the Code and provides that no more than ten percent of the proceeds of such issue can satisfy the private business tests. The only use that is not private business use is use by (i) a state or local government, (ii) an individual not in trade or business, or (iii) the general public. The rule is complicated by a number of supplemental restrictions.

Modernize bond provisions: Repeal complex supplemental restrictions for private use of government bond issue.

Proposed Legislative Change:

  • Repeal the five percent unrelated or disproportionate test (Section 141(b)(3) of the Code).
  • Repeal the $15 million per project limit on private business use on certain output facilities (Section 141(b)(4)).
  • Repeal the volume cap requirement for governmental bond issues with a nonqualified private business amount in excess of $15 million (Section 141(b)(5)). (10-year revenue effect of preceding three items $75 million.6)
  • Repeal the limit on the use of bond proceeds to acquire non-governmental property (Section 141(d)). The 10-year revenue effect of this change is unknown.

Partnership Financings

Brief Description:
The Administration has proposed various new programs that would provide incentives for public-private partnerships to help fund public sector infrastructure needs. While it is unclear if Congress will address these proposals, governments should be aware of potential financial tools that are or may be available and evaluate them to determine if they may be appropriate for their government.