Par. 4. Sections 1.141-0 through 1.141-16 are added to read as follows:
(a) General rule. (1) Private security or payment. The private security or payment test relates to the nature of the security for, and the source of, the payment of debt service on an issue. The private payment portion of the test takes into account the payment of the debt service on the issue that is directly or indirectly to be derived from payments (whether to the issuer or any related party) in respect of property, or borrowed money, used or to be used for a private business use. The private security portion of the test takes into account the payment of the debt service of the issue that is directly or indirectly secured by any interest in (i) property used or to be used for a private business use, or (ii) payments in respect of property used or to be used for a private business use.
(2) Aggregation of private payments and security. For purposes of the private security or payment test, payments taken into account as private payments and payments or property taken into account as private security are aggregated. However, the same payments are not taken into account as both private security and private payments. For example, the 10 percent private security or payment test is met if, in the aggregate, the payments taken into account as private payments and the property or payments taken into account as private security exceed 10 percent of the debt service on the bonds, provided no payment is taken into account under both portions of the test.
(b) Measurement of private payments and security--(1) Scope. This paragraph (b) contains rules that apply to both private security and private payment.
(2) General rule. The security for, and payment of debt service on an issue is determined from the terms of the bond documents and on the basis of any underlying arrangement. An underlying arrangement may result from separate agreements between the parties or may be determined on the basis of all the facts and circumstances surrounding the issuance of the bonds. If the payment of debt service on an issue is secured by both a pledge of the full faith and credit of a State or local governmental unit and any interest in property used or to be used in a private business use, the issue satisfies the private security or payment test. For special rules for output facilities, see Sec. 1.141- 7.
(3) Present value measurement--(i) Use of present value. In determining whether an issue meets the private security or payment test, the present value of the payments or property taken into account is compared to the present value of the debt service to be paid over the term of the issue.
(ii) Debt service--(A) Debt service paid from proceeds. Debt service does not include any amount paid or to be paid from sale proceeds or investment proceeds. For example, debt service does not include payments of capitalized interest funded with bond proceeds.
(B) Adjustments to debt service. Debt service is adjusted to take into account payments and receipts that adjust the yield on an issue for purposes of section 148(f). For example, debt service includes fees paid for qualified guarantees under Sec. 1.148-4(f) and is adjusted to take into account payments and receipts on qualified hedges under Sec. 1.148-4(h).
(iii) Computation of present value--(A) In general. Present values are determined by using the yield on the issue as the discount rate and by discounting all amounts to the issue date. For a fixed yield issue, yield is determined on the issue date and is not adjusted to take into account subsequent events.
(B) Variable yield issues. The yield on a variable yield issue is determined over the term of the issue. To determine the reasonably expected yield as of any date, the issuer may assume that the future interest rate on a variable yield bond will be the then-current interest rate on the bonds determined under the formula prescribed in the bond documents. Unless a change in interest rate results in a new issuance, changes in interest rates do not constitute deliberate actions.
(iv) Application to private security. For purposes of determining the present value of debt service that is secured by property, property is valued at fair market value as of the first date on which the property secures bonds of the issue.
(c) Private payments--(1) In general. This paragraph (c) contains rules that apply to private payments.
(2) Payments taken into account--(i) Payments for use--(A) In general. Both direct and indirect payments made by any nongovernmental person that is treated as using proceeds of the issue are taken into account as private payments to the extent allocable to the proceeds used by that person. Payments for a use of proceeds include payments (whether or not to the issuer) in respect of property financed (directly or indirectly) with those proceeds, even if not made by a private business user. Payments are not made in respect of property financed with proceeds if those payments are directly allocable to other property being directly used by the person making the payment, but only to the extent that those payments are reasonable compensation for that other use. See Example 4 and Example 5 in paragraph (g) of this section.
(B) Payments not to exceed use. Payments by a person for a use of proceeds are allocable to the payment of the debt service on the proceeds used by that person (or with respect to property used by that person) to the extent that the present value of those payments does not exceed the present value of the debt service on those proceeds. Thus, if 7 percent of the proceeds of an issue is used by a person, payments by that person are taken into account as private payments only to the extent that the present value of those payments does not exceed the present value of 7 percent of the debt service on the issue.
(C) Payments for operating expenses. Payments by a person for a use of proceeds do not include the portion of any payment that is properly allocable to the payment of ordinary and necessary expenses (as defined under section 162) directly attributable to the operation and maintenance of the financed property used by that person. For this purpose, general overhead and administrative expenses are not directly attributable to those operations and maintenance. For example, if an issuer receives $5,000 rent during the year for use of space in a financed facility and pays $500 during the year for ordinary and necessary expenses properly allocable to the operation and maintenance of that space, $500 of the $5,000 received would not be considered a payment for the use of the proceeds allocable to that space (regardless of the manner in which that $500 is actually used).
(ii) Refinanced debt service. (A) Payments of debt service on an issue to be made from proceeds of a refunding issue are taken into account as private payments in the same proportion that--
(1) the present value of the payments taken into account as private payments for the refunding issue, bears to
(2) the present value of the debt service to be paid on the refunding issue.
(B) For example, if all the debt service on a note is paid with proceeds of a refunding issue, the note meets the private security or payment test if (and to the same extent that) the refunding issue meets the private security or payment test. This paragraph (c)(2)(ii) does not apply to deliberate actions that occur more than 3 years after the retirement of the prior issue that are not reasonably expected on the issue date of the refunding issue. For purposes of this paragraph (c)(2)(ii), whether an issue is a refunding issue is determined without regard to Sec. 1.150-1(d)(2)(i) (relating to certain payments of interest).
(iii) Use. For purposes of determining the amount of private payments, all related uses of proceeds of an issue by one person are treated as one use. For example, proceeds used to make a grant and a loan to the same person to be used to construct a facility are aggregated in determining the portion of the loan repayments taken into account as private payments.
(3) Allocation of payments--(i) Allocations among issues. If a payment is made for a facility financed with two or more issues, that payment must be allocated among those issues according to the relative amounts of proceeds of each of those issues that are allocated to that property.
(ii) Repayments of equity. A payment from a private business user of property may be allocated first to repay the issuer for any equity investment of the issuer in that property (that is, amounts invested by the issuer that do not, directly or indirectly, involve an expenditure of amounts borrowed).
(d) Private security--(1) In general. This paragraph (d) contains rules that relate to private security.
(2) Security taken into account. The property that is the security for, or the source of, the payment of debt service on a bond need not be property financed with proceeds. For example, unimproved land or investment securities used, directly or indirectly, in a private business use that secures a bond provides private security.
(3) Pledge of unexpended proceeds. Proceeds qualifying for an initial temporary period under Sec. 1.148-2(e) (2) or (3) or on deposit in a reasonably required reserve or replacement fund (as defined in Sec. 1.148-2(f)(2)(i)) are not taken into account under this paragraph (d) before the date on which those amounts are either expended or loaned by the issuer to an unrelated party.
(4) Secured by any interest in property or payments. Property used or to be used for a private business use and payments in respect of that property are treated as private security if any interest in that property or payments secures the payment of debt service on the bonds. For this purpose, the phrase any interest in is to be interpreted broadly and includes, for example, any right, claim, title, or legal share in property or payments. However, in order for an interest in property or payments to be taken into account as private security, that interest must secure the payment of debt service on the bonds.
(5) Payments in respect of property. The payments taken into account as private security are payments in respect of property used or to be used for a private business use. Thus, to be taken into account as private security, payments need not be made by the private business user. Therefore, payments made by members of the general public for use of a facility used for a private business use may be taken into account as private security (for example, payments by persons using a facility that is the subject of a management contract that results in private business use). Except as otherwise provided in this paragraph (d)(5) and paragraph (d)(6) of this section, the rules in paragraph (c) of this section apply to determine the amount of payments treated as payments in respect of property used or to be used for a private business use.
(6) Allocation of security among issues. If any property or payments are taken into account as private security for two or more issues that are equally and ratably secured (parity bonds), the property or payments securing those issues must be allocated among those issues on a reasonable basis that takes into account the relative amounts of debt service on each of the issues. For this purpose, any of the ratable allocation methods specified in Sec. 1.148-6(e)(6) (relating to allocations of commingled reserve or sinking funds for arbitrage purposes) are treated as reasonable. For bonds other than parity bonds, property or payments that are taken into account as private security (but not as private payments) are fully allocated to each issue secured by the property or payments.
(e) Generally applicable taxes--(1) General rule. For purposes of the private security or payment test, generally applicable taxes are not taken into account (that is, are not payments from a nongovernmental person and are not payments in respect of property used for a private business use).
(2) Definition of generally applicable taxes. A generally applicable tax is an enforced contribution exacted pursuant to legislative authority in the exercise of the taxing power that is imposed and collected for the purpose of raising revenue to be used for governmental purposes. A generally applicable tax must have a uniform tax rate that is applied to all persons of the same classification in the appropriate jurisdiction, and a generally applicable manner of determination and collection.
(3) Special charges. A payment for a special privilege granted or service rendered is not a generally applicable tax. Special assessments paid by property owners benefiting from financed improvements are not generally applicable taxes. For example, a tax that is limited to the property or persons benefitted by an improvement is not a generally applicable tax.
(4) Manner of determination and collection--(i) In general. A tax does not have a generally applicable manner of determination and collection if one or more taxpayers make any special agreements relating to payment of those taxes. A special agreement relating to the payment of a tax is taken into account whether or not it is reasonably expected to result in any payments that would not otherwise have been made. On the other hand, if an issuer uses proceeds to make a grant to a taxpayer to improve property, agreements that impose reasonable conditions on the use of the grant do not cause a tax on that property to fail to be a generally applicable tax. If an agreement by a taxpayer causes a tax to fail to have a generally applicable manner of determination and collection, the entire tax paid by that taxpayer is treated as a special charge, unless the agreement is limited to a specific portion of the tax.
(ii) Impermissible agreements. The following are examples of agreements that cause a tax to fail to have a generally applicable manner of determination and collection: an agreement to be personally liable, to provide additional credit support such as a third party guarantee, or to pay unanticipated shortfalls; an agreement regarding the minimum market value of property subject to property tax; and an agreement not to challenge or seek deferral of the tax.
(iii) Permissible agreements. The following are examples of agreements that do not cause a tax to fail to have a generally applicable manner of determination and collection: an agreement to use a grant for specified purposes (whether or not that agreement is secured); a representation regarding the expected value of the property following the improvement, an agreement to insure the property and, if damaged, to restore the property; and a right of a grantor to rescind the grant if property taxes are not paid.
(iv) Payments in lieu of taxes. A tax equivalency payment and any other payment in lieu of a tax is treated as a generally applicable tax if--
(A) The payment is measured by and equal to the amounts imposed by a regular statute for a tax of general application;
(B) The payment is imposed by a specific statute (even if another agreement, such as a lease, is used as the vehicle for collection); and
(C) The payment is designated for a public purpose rather than for a privilege, service or regulatory function, or for any other local benefit tending to increase the value of the property with respect to which the payments are made.
(f) Certain waste remediation bonds--(1) Scope. This paragraph (f) applies to bonds issued to finance hazardous waste clean-up activities on privately owned land (hazardous waste remediation bonds).
(2) Persons that are not private users. Payments from nongovernmental persons who are not (other than coincidentally) either users of the site being remediated or persons potentially responsible for disposing of hazardous waste on that site are not taken into account as private security. This paragraph (f)(2) applies to payments that secure the payment of principal of, or interest on, the bonds (directly or indirectly) under the terms of the bonds. This paragraph (f)(2) applies only if the payments are made pursuant to either (i) a generally applicable state or local taxing statute, or (ii) a state or local statute that regulates or restrains activities on an industry- wide basis of persons who are engaged in generating or handling hazardous waste, or in refining, producing, or transporting petroleum, provided that those payments do not represent, in substance, payment for the use of proceeds. For this purpose, a state or local statute that imposes payments that have substantially the same character as those described in Chapter 38 of the Code are treated as generally applicable taxes.
(3) Persons that are private users. If payments from nongovernmental persons who are either users of the site being remediated or persons potentially responsible for disposing of hazardous waste on that site do not secure the payment of principal of, or interest on, the bonds (directly or indirectly) under the terms of the bond, the payments are not taken into account as private payments. This paragraph (f)(3) applies only if at the time the bonds are issued the payments from those nongovernmental persons are not material to the security for the bonds. For this purpose, payments are not material to the security for the bonds if--
(i) The payments are not required for the payment of debt service on the bonds;
(ii) The amount and timing of the payments are not structured or designed to reflect the payment of debt service on the bonds;
(iii) The receipt or the amount of the payment is uncertain (for example, as of the issue date, no final judgment has been entered into against the nongovernmental person);
(iv) The payments from those nongovernmental persons, when and if received, are used either to redeem bonds of the issuer or to pay for costs of any hazardous waste remediation project; and
(v) If a judgment (but not a final judgment) has been entered against a nongovernmental person by the issue date, there are, as of the issue date, costs of hazardous waste remediation other than those financed with the bonds that may be financed with the payments.
(g) Examples. The following examples illustrate the application of this section:
Example 1. Aggregation of payments. State B issues bonds with proceeds of $10 million. B uses $9.7 million of the proceeds to construct a 10-story office building. B uses the remaining $300,000 of proceeds to make a loan to Corporation Y to finance unrelated privately owned facilities. In addition, X leases 1 floor of the building for a significant period that is less than the term of the bonds. As a percentage of the present value of the debt service on the bonds, the present value of Y's loan repayments is 3 percent and the present value of X's lease payments is 8 percent. The bonds satisfy the private security or payment test because the private payments taken into account are more than 10 percent of the present value of the debt service on the bonds.
Example 2. Indirect private payments. J, a political subdivision of a state, will issue several series of bonds from time to time and will use the proceeds to rehabilitate urban areas. More than 10 percent of the proceeds of each issue will be used for the rehabilitation and construction of buildings that will be leased or sold to nongovernmental persons for use in their trades or business. Nongovernmental persons will make payments for these sales and leases that have an aggregate present value that is more than the present value of debt service on 10 percent of each issue. There is no limitation either on the number of issues or the aggregate amount of bonds that may be outstanding. No group of bondholders has any legal claim prior to any other bondholders or creditors with respect to specific revenues of J, and there is no arrangement whereby revenues from a particular project are paid into a trust or constructive trust, or sinking fund, or are otherwise segregated or restricted for the benefit of any group of bondholders. There is, however, an unconditional obligation by J to pay the principal of and interest on each issue. The bonds meet the private security or payment test because all of the private payments are counted.
Example 3. Allocations of payments. City Z purchases property for $1,250,000 using $1,000,000 of proceeds of its tax increment bonds and $250,000 of other revenues that are in its redevelopment fund. The bonds are secured only by the incremental property taxes on the property attributable to the increase in value of the property from the planned redevelopment of the property. Z will reimburse the redevelopment fund from amounts paid from the resale of the property. After clearing the property, Z sells it to Developer M for $250,000, an amount not in excess of the fair market value of the land, which Z uses to reimburse the redevelopment fund. Although M uses the property financed with the proceeds of the bonds, it also directly uses property that was not financed with those proceeds. The payments by M are properly allocable to the property financed with the amounts in Z's redevelopment fund. Accordingly, the issue does not meet the private security or payment test because of M's $250,000 payment. See paragraph (c)(3)(ii) of this section.
Example 4. Payments in respect of bond financed property. In order to further public safety, City Y issues $5,000,000 of its tax assessment bonds the proceeds of which are used to move existing electric utility lines underground. Although the utility lines are owned by a nongovernmental utility company, that company is under no obligation to move the lines. The debt service on the bonds will be paid using assessments levied by City Y on the customers of the utility. Although the utility lines are privately owned and the utility customers make payments to the utility company for the use of those lines, the assessments are payments in respect of the cost of relocating the utility line. Thus, the assessment payments are not made in respect of property used for a private business use. Any direct or indirect payments to Y by the utility are, however, taken into account as private payments.
Example 5. Management contract. City P issues general obligation bonds to finance the renovation of a hospital that it owns. The hospital is operated for P by D, a nongovernmental person, under a management contract that results in private business use under Sec. 1.141-3. P will use the revenues from the hospital (after the required payments to D) to pay the debt service on the bonds. The bonds satisfy the private security or payment test because the revenues from the hospital are payments in respect of property used for a private business use.
Example 6. Lease financing. (i) County W issues certificates of participation in a lease of a building that W owns and covenants to appropriate annual payments for the lease. A portion of each payment is specified as interest. More than 10 percent of the building is used for private business use. None of the proceeds of the obligations are used with respect to the building. W uses more than 10 percent of the proceeds of the obligations to construct a stadium that is to be used for a private business use. If W defaults under the lease, the trustee for the holders of the certificates of participation has a limited right of repossession under which the trustee may not foreclose but may lease the property to a new tenant at fair market value. The obligations are secured by an interest in property used for a private business use and, therefore, the obligations satisfy the private security for payment test.
(ii) The facts are the same as in part (i) of this Example 6 except that, under the terms of the lease, in the event of a default by W, the trustee's only rights are to sue W for any failure to make payments pursuant to the lease. Thus, the trustee has no rights to the building and no limited right of repossession. The right to receive lease payments is not an interest in the leased property and, therefore, this right does not provide private security.
Example 7. Limitation of payments to use not determined annually. City Q issues bonds with a term of 15 years and uses the proceeds to construct an office building. The debt service on the bonds is level throughout the 15-year term. O enters into a 5-year lease of 11 percent of the building with Corporation R under which R will make lease payments equal to 20 percent of the annual debt service on the bonds for each year of the lease. The present value of R's lease payments is equal to 12 percent of the present value of the debt service over the entire 15-year term of the bonds. If, however, the lease payments taken into account as private payments were limited to 11 percent of debt service paid in each year of the lease, the present value of these payments would be only 8 percent of the debt service on the bonds over the entire term of the bonds. The bonds satisfy the private security or payment test, because R's lease payments are taken into account as private payments in an amount not to exceed 11 percent of the debt service on the bonds over the term of the bonds (rather than 11 percent per year).
Example 8. Parity bonds. University L, a political subdivision, issued three separate series of revenue bonds during 1989, 1991, and 1993 under the same bond resolution. L used the proceeds to construct facilities exclusively for its own use. Bonds issued under the resolution are equally and ratably secured and payable solely from the income derived by L from rates, fees, and charges imposed by L for the use of the facilities. The bonds issued in 1989, 1991, and 1993 are not private activity bonds. In 1995, L issues another series of bonds under the resolution to finance additional facilities. L enters into 10-year leases for 20 percent of the new facilities with nongovernmental persons who will use the facilities in their trades or businesses. The present value of the lease payments from the nongovernmental users will equal 15 percent of the present value of the debt service on the 1995 bonds. L will commingle all of the revenues from all its bond-financed facilities in its revenue fund. The portion of the lease payments from nongovernmental lessees of the new facilities allocable to the 1995 bonds under Sec. 1.148-6(e)(6) is less than 10 percent of the present value of the debt service on the 1995 bonds. The 1995 bonds will meet the private security or payment test because the private lease payments for the new facility are properly allocated to those bonds (that is, because none of the proceeds of the prior issues were used for the new facilities).
Example 9. Variable yield issues. (i) City M issues general obligation bonds with proceeds of $10 million to finance a 5-story office building. The bonds bear interest at a variable rate that is recomputed monthly according to an index that reflects current market yields. They yield that the interest index would produce on the issue date is 6 percent. M leases one floor of the office building to Corporation T, a nongovernmental person, for the term of the bonds. Using the 6 percent yield as the discount rate, M reasonably expects on the issue date that the present value of lease payments to be made by T will be 8 percent of the present value of the total debt service on the bonds. After the issue date of the bonds, interest rates decline significantly, so that the yield on the bonds over their entire term is 4 percent. Using this actual 4 percent yield as the discount rate, the present value of lease payments made by T is 12 percent of the present value of the actual total debt service on the bonds. The bonds are not private activity bonds because M reasonably expected on the issue date that the bonds would not meet the private security or payment test and because M did not take any subsequent deliberate action to meet the private security or payment test.
(ii) The facts are the same as part (i) of this Example 9, except that 5 years after the issue date M leases a second floor to Corporation S, a nongovernmental person, under a long-term lease. On the date this lease is entered into M reasonably expects that the yield on the bonds over their entire term will be 5.5 percent, based on actual interest rates to date and the then-current rate on the variable yield bonds. Using this 5.5 percent yield as the discount rate, as a percentage of the present value of the debt service on the bonds, the present value of lease payments made by T is 9 percent and the present value of the lease payments made by S is 2 percent. The bonds are private activity bonds because M has taken a subsequent deliberate action that causes the bonds to meet the private security or payment test.
Example 10. Stadium ticket tax. (i) Authority issues its bonds to finance the construction of a stadium. Under a long-term lease, Corporation X, a professional sports team, will use more than 10 percent of the stadium. Corporation X will not, however, make any payments for this private business use. The security for the bonds will be a ticket tax imposed on each person purchasing a ticket for an event at the stadium. The portion of the ticket tax attributable to tickets purchased by persons attending X's events will, on a present value basis, exceed 10 percent of the present value of Authority's bonds. The bonds satisfy the private security or payment test. The ticket tax is not a tax of general application and, to the extent that the tax receipts relate to X's events, the taxes constitute payments in respect of property used for a private business use.
(ii) The facts are the same as in part (i) of this Example 10, except that the ticket tax is imposed by Authority on tickets purchased for events at a number of large entertainment facilities within the jurisdiction of Authority (for example, other stadiums, arenas, concert halls, etc.), some of which were not financed with tax-exempt bonds. The ticket tax is a tax of general application and therefore the revenue from this tax are not payments in respect of property used for a private business use. Therefore, the bonds do not satisfy the private security or payment test.