Tuesday, October 06, 2009

The wild card regarding arena financing; could Build America Bonds take up the slack if tax-exempt bonds were insufficient?

There might be a way around a potential financing snag for the Atlantic Yards arena (or, perhaps, the affordable housing): new Build America Bonds authorized by federal stimulus funding.

(I have no inside information about this; a tipster suggested it was worth airing.)

On his Field of Schemes blog yesterday, Neil deMause wondered about limits on tax-exempt financing for the arena:
There's one other wild card here, which is that the New York City Independent Budget Office has projected that even under the expiring IRS rules, the arena project wouldn't generate enough property tax value to justify $700 million in tax-free bonds. (If you really want to know what property tax valuations have to do with tax-free bonds, start here.) It'll be interesting to see if Ratner has to take out bond insurance for the possibility of the IRS rejecting some of his tax-exempt bonds as well — and if at some point he needs to find another Russian billionaire to pay for it.

Another option?

Build America Bonds aren't tax-exempt--but they are subsidized. So they can achieve the same goal for the developer: a lower interest rate than the taxable market. And, if the foregone taxes on the arena block could only support PILOTs (payments in lieu of taxes) for, say, $500 million in tax-exempt bonds, perhaps Build America Bonds could take up the slack.

The popularity of such bonds has shifted more than a quarter of state and local government debt into the taxable bond market, according to the Bond Buyer. New York City has sold $800 million in such bonds.

The official word

An April 3 fact sheet from the Treasury Department doesn't mention sports facilities but it does mention transportation infrastructure:
First, Treasury announces the implementation of the Build America Bond program under the American Recovery and Reinvestment Act of 2009 to provide much-needed funding for state and local governments at lower borrowing costs. This will enable them to pursue necessary capital projects, such as work on public buildings, courthouses, schools, roads, transportation infrastructure, government hospitals, public safety facilities and equipment, water and sewer
projects, environmental projects, energy projects, governmental housing projects and public utilities.

Traditionally, tax-exempt bonds provide a critical source of capital for state and local governments, but the recession has sharply reduced their ability to finance new projects. Supplementing this existing market, the Build America Bond program is designed to provide a federal subsidy for a larger portion of the borrowing costs of state and local governments than traditional tax-exempt bonds in order to stimulate the economy and encourage investments in capital projects in 2009 and 2010.

Build America Bonds are a new financing tool for state and local governments. The bonds, which allow a new direct federal payment subsidy, are taxable bonds issued by state and local governments that will give them access to the conventional corporate debt markets. At the election of the state and local governments, the Treasury Department will make a direct payment to the state or local governmental issuer in an amount equal to 35 percent of the interest payment on the Build America Bonds. As a result of this federal subsidy payment, state and local governments will have lower net borrowing costs and be able to reach more sources of borrowing than with more traditional tax-exempt or tax credit bonds. For example, if a state or local government were to issue Build America Bonds at a 10 percent taxable interest rate, the Treasury Department would make a payment directly to the government of 3.5 percent of that interest, and the government’s net borrowing cost would thus be only 6.5 percent on a bond that actually pays 10 percent interest.

This feature will make Build America Bonds attractive to a broader group of investors, and therefore create a larger market than typically invest in more traditional state and local tax- exempt bonds, where interest rates, due to the federal tax exemption, have historically been about 20 percent lower than taxable interest rates. They should be attractive to investors without regard to their tax status or income tax bracket (e.g., pension funds and other tax-exempt investors, investors in low tax brackets, and foreign investors).

According to the IRS:
In general, Build America Bonds (Tax Credit) may be issued to finance any governmental purpose for which tax-exempt governmental bonds (excluding private activity bonds under § 141) could be issued under § 103 (“tax-exempt governmental bonds”) and must comply with all requirements applicable to the issuance of tax-exempt governmental bonds. Accordingly, Build America Bonds (Tax Credit) may be issued to finance the same kinds of expenditures (e.g., capital expenditures and working capital expenditures) and may involve the same kinds of financings (e.g., original new money financings, current refundings, and one advance refunding) as tax-exempt governmental bonds. Similarly, Build America Bonds (Tax Credit) may not be issued for any purposes for which tax-exempt governmental bonds could not be issued under § 103 (e.g., prohibited second advance refunding issues or pension annuity issues).

1 comment:

  1. Build America Bonds have not been used for private projects to date, and the wording you cite gives an idea why: "In general, Build America Bonds (Tax Credit) may be issued to finance any governmental purpose for which tax-exempt governmental bonds (excluding private activity bonds under § 141)". It is far from certain that AY, as a private project, albeit with purported public benefit, would qualify. It might be possible for the Feds to pay the interest subsidy to the issuer the BALDC, and for the issuer to pay that subsidy to the project company. But the project company, which will be leasing the project from the issuer in return for PILOT payments, is a tax-payer and might have to pay tax on that subsidy income. Not very efficient. I'm not saying it can't be done, but it's tricky.

    Notwithstanding the pittance that FCR paid for the site, and the higher interest rates that the project might have to pay than three years ago, I don't see the project struggling to get sufficient PILOT treatment to meet debt service. As you're reported before, the fix seems pretty easy to put in.

    I'm also not convinced by the idea that bond insurers can insure against unfavorable tax rulings. Their function is essentially to protect bondholders against credit events, not developers against tax rulings. They can do a little bit of funky stuff - say ensuring that a borrower pays a lump-sum payment at the end of the life of bonds. They might event even be willing to insure a prepayment penalty, though as thinly-staffed entities they are no more enthusiastic than pension funds and life insurance companies about spending several months working on a deal that only brings in income for a couple of months.

    I have the utmost respect for deMause, but I think this falls outside the insurers' remit.