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POST-ISSUANCE BOND COMPLIANCE BY Arbitrage Compliance Specialists, Inc. (“ACS”) Robert Goubert, Vice President 800-672-9993 ext. 7536

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Presentation on theme: "POST-ISSUANCE BOND COMPLIANCE BY Arbitrage Compliance Specialists, Inc. (“ACS”) Robert Goubert, Vice President 800-672-9993 ext. 7536"— Presentation transcript:

1 POST-ISSUANCE BOND COMPLIANCE BY Arbitrage Compliance Specialists, Inc. (“ACS”) Robert Goubert, Vice President ext Stephen H. Broden, Vice President ext AND Vicenti, Lloyd & Stutzman LLP Renée S. Graves, CPA, CGFM, Partner ext. 260

2 The IRS is requiring debt issuers to indicate if written post-issuance compliance policies and procedures are in place. Key characteristics suggested by the IRS: o Due diligence review at regular intervals; o Identifying the official or employee responsible for review; o Training of the responsible official/employee; o Retention of adequate records to substantiate compliance (e.g., records relating to expenditure of proceeds); o Procedures reasonably expected to timely identify noncompliance; and o Procedures ensuring that the issuer will take steps to timely correct noncompliance. 2 New Requirement

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4 Bond Compliance 4 Three golden rules when issuing a bond: 1. Issue the bond when you need the funds 2. Issue just enough bonds that you need for the project – not more 3. Complete the project with due diligence

5 Bond Compliance We just closed on a bond issue and received $6,000,000 at closing. 1. Spend the money immediately A. Refund an older bond issue (current refunding) B. Reimburse for prior expenditures C. Buy an asset – building, software, land, (loans to Government Units) D. Cost of issuance to pay: a) Financial advisor b) Bond counsel c) Underwriter d) Insurance 5

6 Bond Compliance We just closed on a bond issue and received $6,000,000 at closing. 2. Invest the money until needed for: A. Building project B. Refunding (advanced refunding) C. Interest payments on the bonds D. Reserve – set funds aside in case they are need to make a bond payment 6

7 We just issued a bond – now what? Are there tax rules that we need to follow? Arbitrage Rebate Entire Bond Yield Restriction Fund

8 Are there tax rules that we need to follow? Yes - Rules are based on three limitations Interest Earnings Balance Time Interest EarningsBalanceTime

9 We just issued a bond – now what? Are there tax rules that we need to follow? Arbitrage Rebate Entire Bond Yield Restriction Fund

10 Arbitrage Rebate Investment rate of return > borrowing rate = PROFIT 10 Interest Earnings

11 Arbitrage Rebate 11 Interest Earnings Borrowing Rate

12 Arbitrage Rebate Are all bonds subject to arbitrage rebate? EXEMPTIONS OR 12 Interest Earnings Small Issuer Exemption Entire Bond Fund Exemption Each fund related to bond meets an exemption

13 Arbitrage Rebate – Small Issuer Exemption New Money Bonds - $5,000,000 or less issued in calendar year Examples: $4,999,999 Bond issued in 2011 (No other debt in calendar year) - Exempt $4,999,999 Bond A and a $50,000 note issued in 2012 $4,999,999 + $50,000 = $5,049,999 – Subject to arbitrage rebate * Small Issuer Exception Increase for Public Schools - Public school tax-exempt debt issued from 1/1/98 – 12/31/01 ($10,000,000 limit): All tax-exempt debt issued in a calendar year cannot exceed $10,000,000. $5,000,000 may be used for any purpose. Any amount over $5,000,000 (up to $5,000,000) must be used for public school construction as part of the additional $5,000,000 limit. Public school tax-exempt debt issued from 1/1/02 – current ($15, 000,000 limit): All tax-exempt debt issued in a calendar year cannot exceed $15,000,000. $5,000,000 may be used for any purpose. Any amount over $5,000,000 (up to $10,000,000) must be used for public school construction. 13 Interest Earnings

14 Arbitrage Rebate – Small Issuer Exemption Refunding Bonds - The debt being refunded (old debt) qualified for the Small Issuer Exception The weighted average maturity of the refunding debt (new debt) does not exceed the weighted average maturity of the refunded debt (old debt) The refunding debt (new debt) does not mature more than thirty years after the issuance of the original refunded debt (old debt) Note – Historically 1/3 of refunding bonds (new debt) will fail one of the three rules listed above and become subject to the arbitrage rebate regulations. 14 Interest Earnings

15 Arbitrage Rebate – Small Issuer Exemption Small Issuer Exception = FAIL (bond is subject to arbitrage rebate) But wait………………. ! There are also individual exemptions on a fund by fund basis 15 Interest Earnings

16 What is Arbitrage Rebate? Are all bonds subject to arbitrage rebate? EXEMPTIONS OR Small Issuer Exemption Project Cost of Issuance Escrow Refunding Debt Service 16 Interest Earnings Fund Exemption Each fund related to bond is exempt

17 Arbitrage Rebate – Fund Exemptions There are also individual exemptions on a fund by fund basis for certain funds: Project Funds Costs of Issuance Funds Escrow Refunding Funds Debt Service Funds 17 Interest Earnings Balance Time

18 Fund Exemption – 6 Month Spending Exception Expend within 6 months: Project Funds Costs of Issuance Funds Escrow Refunding Funds 18 Interest Earnings Balance Time

19 Fund Exemption – 18 Month Spending Exception Expend within 18 months Project Funds Cost of Issuance Funds Spending Timetable 15% within 6 months 60% within 12 months 100% within 18 months 19 Balance Time

20 Fund Exemption – 24 Month Spending Exception 20 Balance Time Expend within 24 months Project Funds Spending Timetable 10% within 6 months 45% within 12 months 75% within 18 months 100% within 24 months

21 Arbitrage Rebate – Fund Exemptions There are also individual exemptions on a fund by fund basis for certain funds: 1. Project Funds 2. Costs of Issuance Funds 3. Escrow Refunding Funds 4. Debt Service Funds 21 Interest Earnings Balance Time

22 Fund Exemption – Debt Service Exemption – if the debt service fund is depleted each year, except for a reasonable carryover amount defined as an amount up to the greater of: the earnings on the fund for the immediate preceding year; or 1/12 of the principal and interest payments on the issue for the immediate preceding year Example: Debt service payments = $1,200,000 for the year $1,200,000/12 = $100,000 Debt Service balance < $100,000 = Exemption 22 Balance Time

23 Summary of Exemptions FundsFund Exemption 1.Project6-Month, 18-Month, 24-Month 2.Cost of Issuance6-Month, 18-Month 3.Escrow Refunding6-Month 4.Debt ServiceInterest earnings or 1/12 test 23 Entire IssuanceSmall Issuer Exemption Bond StructurePass all testing criteria (Project + Refunding Criteria) Interest EarningsBalanceTime

24 Arbitrage - Time to Review Exceptions Are all bonds subject to arbitrage rebate? EXEMPTIONS OR Small Issuer Exemption Fund Exemption (entire bond) 6-Month 18-Month 24-Month Debt Service Test 24 Interest Earnings Balance Time

25 Arbitrage - Filing Period IRS filing dates for arbitrage rebate payments Every 5 years Maturity date of the issue 25 Interest Earnings Balance Time

26 We just issued a bond – now what? Are there tax rules that we need to follow? Arbitrage Rebate Entire Bond Yield Restriction Fund

27 Yield Restriction – Fund Restriction Yield Restriction Limitations on Funds Project Funds Costs of Issuance Funds Escrow Refunding Funds Debt Service Funds Interest Earnings Balance Time

28 Project Funds Trigger – funds remain at the end of Interest earnings on the balance is to be yield restricted to the bond yield +.125% or provide a yield reduction payment to the IRS Yield Restriction – Project Interest Earnings Balance Time 3 years

29 Cost of Issuance Trigger – funds remain at the end of Interest earnings on the balance is to be yield restricted to the bond yield +.125% or provide a yield reduction payment to the IRS Yield Restriction – Cost of Issuance Interest Earnings Balance Time 3 years

30 Refunding Escrow Trigger – for a current refunding Interest earnings on the balance after 90 days is to be yield restricted to the bond yield +.001%. Trigger – for a advanced refunding Interest earnings on the balance after 30 days is to be yield restricted to the bond yield +.001%. Yield Restriction – Refunding Escrow Interest Earnings Balance Time 90 days 30 days

31 Yield Restriction – Debt Service Balance = Payments $1,200,000 Balance = $1,200,000 Payments PERFECT MATCH! Interest Earnings Balance

32 Yield Restriction – Debt Service What happens if the balance > payments? Interest Earnings Balance

33 Yield Restriction – Debt Service Balance > Payments $1,800,000 Balance - $1,200,000 Payments = $600,000 Reserve Excess debt service funds are treated as a reserve fund. Interest earnings are to be yield restricted to the bond yield +.001% or provide a yield reduction payment to the IRS Interest Earnings Balance

34 Excess Debt Service Funds Very High Reserve Balance Excess Debt Service Funds Reserve Perfect Match Yield Restriction – Debt Service Balance = Debt Service Payments $1,200,000 - $1,200,000 = $0 Perfect Match Interest EarningsBalance Balance > Debt Service Payments $1,400,000 - $1,200,000 = $200,000 Reserve Balance > Debt Service Payments $1,800,000 - $1,200,000 = $600,000 Reserve

35 Summary of Yield Restriction FundsTriggerYield Restriction Rate ProjectBalance – after 3 yearsBond Yield +.125% Cost of IssuanceBalance – after 3 yearsBond Yield +.125% Current refunding is defined as a refund that takes place within 90 days allowed to invest without regard to yield restrictionBond Yield +.001% Advanced refunding is defined as a refunding that takes place after 90 days allowed to invest without regard to yield restrictionBond Yield +.001% Debt ServiceVery High Reserve BalanceBond Yield +.001% 35 Interest EarningsBalanceTime 90 days 30 days

36 Yield Restriction IRS Filing Dates for Yield Restriction Every 5 years Maturity date of the issue 36 Interest Earnings Balance Time

37 Record Retention 37 Section 6001 provides record retention requirements for federal tax purposes. It is important that sufficient records are retained to demonstrate the bonds maintain their tax-advantaged status. *Retention period is the life of the bond plus three years. **Extended for refunding circumstances as the new retention period for refunded bonds is the life of the refunding bond plus three years. (Information provided on flash drive)

38 Private Business Use 38 Private Business Use relates to Section 141 if the Internal Revenue Code of 1986, as amended and Treasury Regulations §1.141 (the “Tax Code”). Leading Question: What is Private Business Use anyways? General Questions: Is the facility used in a manner that will benefit a for-profit entity or individual (private business use test)?  Specific examples of possible private business use according the Tax Code. Is the facility owned or leased to a for-profit entity or individual (security or payment tests)? Are proceeds used to make or finance loans (financing test)?

39 Private Business Use 39 Private Business Use relates to Section 141 if the Internal Revenue Code of 1986, as amended and Treasury Regulations § Leading Question: What is Private Business Use anyways? Private Business Use relates to the identification of proceeds or bond financed property that are to be used for any private business use. The general rule (private business use test) is that if 10% or more of the proceeds of the issue/or bond financed property are used for private business use than the issue is not a private activity bond (in other words it is taxable).

40 Private Business Use 40 General Question: Is the facility used in a manner that will benefit a for-profit entity or individual? Ways to validate proper use: Identify clearly what building or project site is involved in each financing. Establish a uniform and rational system, for example:  Calculate the total square footage of useable space of the facility.  Calculate the square footage of the area used for private use purposes.  Determine if the private use area has general access from all of the common areas of the facility or if there is a limited area of general access devoted to the entrance to the private use area. The other areas of general access may then be added to the other public purpose use areas.  Divide the private use area by the total area of the facility. This is the percentage of private use and must not exceed the private use allocation based upon the proceeds percentage. If 100% of the building is used by a qualified 501(c)(3) corporation or a governmental entity compliance is achieved.

41 Private Business Use 41 General Question: Is the facility used in a manner that will benefit a for-profit entity or individual? Measuring for the private business use test is based upon the average percentage of use during the measurement period: The measurement period of property financed by an issue begins on the later of:  the issue date of that issue, OR  the date the property is placed in service. The measurement period ends on the earlier of:  the last date of the reasonably expected economic life of the property, OR  the latest maturity date of any bond of the issue financing the property (determined without regard to any optional redemption dates).

42 Private Business Use 42 Specific examples of possible private business use according the Tax Code include: Sale of facilities Leases Special legal entitlements such as naming rights Management contracts Research agreements See handout for specifics.

43 Private Business Use 43 General Question: Is the facility owned or leased to a for-profit entity or individual? Ways to validate proper use: If less than 10%, of the proceeds/property are directly or indirectly secured by an interest in:  property used or to be used for a private business use, or  payments in respect of such property, or.  to be derived from payments (whether or not to the issuer) in respect of property, or borrowed money, used or to be used for a private business use. General measurement of private payment and security test: The present value of the payments or property is compared to the present value of debt service to be paid over the term of the issue.

44 Private Business Use 44 Are proceeds used to make or finance loans? Ways to validate proper use: If less than 5% or $5 million of the proceeds are directly or indirectly used to make/finance loans to non governmental persons. General measurement of private loan financing test: The actual amount loaned is not discounted to reflect present value but instead relies testing based on the “face amount.”

45 Private Business Use 45 The Tax Code identifies a private activity bond as a bond which meets the following criteria: the private business use test, and the private security or payment test, or the private loan financing test. Both the reasonable expectations of the issuer on the issuance date and subsequent deliberate actions of the issuer are considered when determining if the private activity bond tests are met. There are three basic remedial action options as generally described below: Redemption or defeasance of nonqualified bonds within 90 days Alternative use of disposition proceeds Alternative use of facility

46 Continuing Disclosure 46 The Official Statement will state the following regarding Continuing Disclosure: The District will enter into a “Continuing Disclosure Undertaking” In the last 5 years, the District has complied in all material respects with its previous undertakings under the Rule to provide annual reports and notices of Listed Events Important Acronyms: SECSecurities and Exchange Commission MSRBMunicipal Securities Rulemaking Board EMMAElectronic Municipal Market Access

47 Continuing Disclosure 47 SEC 15c2-12(b) Requirements: 15c2-12(b)(5)(i) An underwriter shall not purchase or sell municipal securities unless they have reasonably determined that the issuer (District) has undertaken to provide the following to the MSRB: A.Annual Financial Information or operating data presented in the final official statement B.If not submitted as part of the Annual Financial Information, audited financial statements C.Notice of any of the following events in a timely manner, not to exceed 10 business days: 1.Principal and interest payment delinquencies 2.Material non-payment related defaults 3.Unscheduled draws on debt service reserves for financial difficulties

48 Continuing Disclosure 48 C.Notice of any of the following events in a timely manner, not to exceed 10 business days: (continued) 4.Unscheduled draws on credit enhancements for financial difficulties 5.Substitution of credit or liquidity providers, or their failure to perform 6.Adverse tax opinions affecting the tax status of the security 7.Material modifications to rights of security holders 8.Material bond calls or tender offers 9.Defeasances 10.Release, substitution or sale of property securing repayment of the securities 11.Rating changes 12.Bankruptcy, insolvency, receivership or similar event 13.Consummation of a merger, consolidation or acquisition 14.Appointment of a successor, additional trustee or change of a trustee

49 Continuing Disclosure 49 Form of Continuing Disclosure Undertaking Usually an appendix to the Official Statement that is signed by District Administration Describes the content for the Annual Financial Information Financial information in the Annual Report may be unaudited Audited financial information must be provided to the MSRB as soon as practical after it has been made available to the District Include Operating Data in the Annual Financial Information to the extent it's not included in audited financial statements: 1.Outstanding debt and lease obligations 2.General fund budget and actual results 3.Enrollment, or equivalent information, as is reasonably available 4.Assessed valuations 5.Largest local secured taxpayers

50 Continuing Disclosure 50 Form of Continuing Disclosure Undertaking District agrees to provide to MSRB Notice of Listed Events (Material Events) with respect to the Bonds no later than 10 business days after the occurrence Provided in electronic format Accompanied by identifying information as prescribed by the MSRB

51 Continuing Disclosure 51 If the District includes any information in addition to what is specifically required: There is no obligation to update the information or include it in any future disclosure The sole remedy for failure to comply with the Continuing Disclosure Undertaking: Is an action to compel performance Don't risk management's credibility by not complying! The Continuing Disclosure Undertaking terminates: When the District is no longer obligated with respect to the Bonds

52 Post Issuance Policy and Procedure Manual 52 = (Information provided on flash drive)

53 53 Arbitrage and Yield RestrictionAppointed Party Retention of Adequate RecordsAppointed Party Borrower Spending's Report – Construction Progress Appointed Party Qualified Use of Proceeds, Financed Property and Private Activity Appointed Party Issuance Price and Volume Cap AllocationAppointed Party Fair Market Value of InvestmentsAppointed Party Continuing DisclosureAppointed Party Compliance TrainingCompliance Officer Delegation of Compliance Matters

54 This presentation provides brief and general information. IRS rules are complex and detailed, so it is important to review the specific guidance provided by the arbitrage rebate and related requirements of IRC Section 148.


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