To: Members & Subscribers From: National Office Date: April 2, 1997 Subject: REVISED IRS GUIDELINES APPLICABLE TO BOND-FINANCED FACILITIES Reference: MU 97-8 Enclosed please find an analysis of recent changes to the private activity bond regulations that was prepared by AMSA legal counsel Squire, Sanders & Dempsey. On January 10, 1997 the Internal Revenue Service (IRS) finalized the regulations which greatly expand a municipalities options to enter into public/private partnerships for the operation and maintenance of public utilities, including publicly owned treatment works (POTWs) which carry outstanding tax exempt bonds. The new regulations (1) expand the maximum permissible term for management contracts (up to 20 years) and, (2) expand the number of projects able to access the "change in use" rules in the event of an asset sale (provided certain requirements are met). These changes will simplify the structuring process for many public/private partnerships and will make tax exempt financing available to a greater number of projects.
Under the old IRS rules, management contracts for public facilities were limited to a maximum term of 5 years to ensure the tax-exempt status of debt issued by a municipality. Longer term contracts would result in a change of use for the facility from public to private activity and the change in use would result in a reclassification of any existing debt from tax exempt to taxable status. The short contract term was very unattractive to private investors because it offered no assurance that an investor could recover the up front costs of a public/private partnership (concessions fees, improvements, start-up costs, etc.). The new rules extend contract terms by linking the terms of the contract to the operator's compensations. Generally, the more that an operators's compensation is based on a fixed fee, the longer the permissible term of the contract.
In the event of an asset sale, the new rules provide opportunities to retain the tax exempt status of outstanding bonds if (1) the outstanding bonds are redeemed within 90 days following the sale of the facility or a defeasance escrow is established if the bonds cannot be redeemed within that time frame; (2) the consideration for the sale of the facility is exclusively cash, the issuer may expend the sale proceeds for a governmental purpose (any purpose -- for example, money generated from the sale of a POTW could be used to fix roads) within two years of the sale; or (3) after the sale, the facility is used for a purposes which would permit the bonds to be considered qualified 501(c)3 bonds or exempt facility private activity bonds if the requirements applicable to the new bond classification, such as a volume cap and public approval, are satisifed.
ATTACHMENT
Please contact AMSA's National Office at 202/833-2672, for a copy of Attachment 1, Revised IRS Guidelines Applicable to Management Contracts Involving Use of Bond-Financed Facilities.
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