Final Private Activity Bond Public Approval Regulations: Three Key Takeaways

January 3, 2019

An issue of private activity bonds will not qualify for tax-exempt status unless the bond issue has satisfied the “public approval” requirement of Section 147(f) of the Internal Revenue Code of 1986, as amended. The bond issue must have been approved by (i) the issuing state or local governmental unit or the governmental unit on behalf of which the bonds are being issued (“issuer approval”) and (ii) the governmental unit having jurisdiction over the area in which any facility to be financed by the bond issue will be located (“host approval”). Issuer approval and host approval are effected by approval by (i) the applicable elected representative of the pertinent governmental unit after a public hearing following reasonable public notice or (ii) a voter referendum of the governmental unit.*

Congress imposed the public approval requirement on certain types of private activity bonds in 1982 and then extended the requirement to all private activity bonds in 1986. The Treasury Department and the IRS (collectively, the “Treasury”) published temporary regulations on the public approval requirement in mid-1983, which have been in effect ever since. In 2008, the Treasury began an initiative to update the 1983 Temporary Regulations, which was completed by the publication of final regulations on December 31, 2018.

This client alert focuses on three key differences between the 1983 Temporary Regulations and the Final Regulations:

  1.  The Authorization of Website Notice Publication
  2.  Project-by-Project Maximum Principal Amounts
  3.  Substantial and Insubstantial Deviations and Remedial Action.

Authorization of Website Notice Publication. Code Section 147(f) provides that approval by the applicable elected representative of a governmental unit must be preceded by a public hearing following reasonable public notice. Public finance professionals have long lamented the lag between the ever-increasing ease of providing and obtaining information over the internet and the evolution of the law as exemplified by the 1983 Temporary Regulations, which permit notice only by newspaper, radio or television.

The Final Regulations address this issue by allowing the posting of the notices of public hearing on the public website of the approving governmental unit (for issuer approval and host approval) or the on-behalf-of issuer (for issuer approval). The notice must be published in an area of the website used to inform the residents of the governmental unit about events affecting the residents. In response to comments presented that more people regularly use the internet than use a particular newspaper, radio station or television station, the Treasury dropped its earlier proposal to require an alternative public notice method for residents without internet access.

In many states the provision of public notices via website publication may not be authorized. In such cases the Final Regulations still permit the notices to be provided by newspaper publication or by radio or television broadcasts.

Project-by-Project Maximum Principal Amounts. The 1983 Temporary Regulations require certain basic information (collectively, the “public approval information”) to be contained in both the public notice and the public approval:

  1. a general, functional description of the type and use of the facility to be financed;
  2. the maximum aggregate face amount of bonds to be issued with respect to the facility;
  3. the name of the initial legal owner, operator or manager of the facility; and
  4. the prospective location of the facility by its street address or, if none, by a general description designed to inform readers of its specific location.

The Final Regulations make several changes to the list of public approval information. The most significant changes were the substitution of the word “project” for “facility” and the provision of additional guidance in applying the public approval information requirements to a bond issue for multiple projects. For a multiple-project bond issue, the notice and approval must include (i) the maximum stated principal amount of the bond issue to finance all of the projects and (ii) the maximum stated principal amount of bonds to be issued to finance each separate project.

To aid in determining whether a bond issue is financing multiple projects, the Final Regulations define “project” as follows:

Project generally means one or more capital projects or facilities, including land, buildings, equipment, and other property, to be financed with an issue, that are located on the same site, or adjacent or proximate sites used for similar purposes…. Capital projects or facilities that are not located on the same site or adjacent or proximate sites may be treated as one project if those capital projects or facilities are used in an integrated operation.

A separate statement of the maximum stated principal amount for each project in a multiple-project financing was not clearly required under the 1983 Temporary Regulations. In response to concerns that an issuer might easily underestimate the cost of a bond-financed project, the Final Regulations will allow an issuer to determine the maximum stated principal amount of bonds for the project on any reasonable basis and to take into account contingencies such as cost overruns or failures to receive construction approvals, without regard to whether the occurrence of any such contingency is reasonably expected at the time of the notice.

Substantial and Insubstantial Deviations and Remedial Actions. Deviations between the information set forth in the public notice and public approval and the actual use of the bond proceeds are a recurring problem for private activity bond issuers and conduit borrowers. The notices are published and the approvals are obtained before the bonds are sold, sometimes many months before, and construction projects rarely proceed exactly as planned. Up until the publication of the Final Regulations, issuers have had to address the problem through the private letter ruling process, which is expensive, time-consuming and uncertain.

In the Final Regulations the Treasury dealt with the problem by distinguishing between “substantial” and “insubstantial” deviations and providing a remedial action to cure a substantial deviation.

A substantial deviation between the stated use or amount of proceeds of a bond issue included in the public approval information and the actual use or amount of the proceeds causes the bond issue to fail to meet the public approval requirement. An insubstantial deviation will not cause such a failure. In general, the determination of whether a deviation is substantial is based on all of the facts and circumstances, but a change in “the fundamental nature or type” of a bond-financed project will always be deemed substantial.

The Treasury did provide three specific types of deviations that it would consider insubstantial.

First, a deviation between the maximum stated principal amount of bonds to finance a project set forth in the public approval information (the “projected amount”) and the actual amount issued and used to finance that project is insubstantial if the actual stated principal amount is either less than or no more than 10 percent greater than the projected amount.

Second, the use of proceeds to pay working capital expenditures directly associated with any project specified in the public approval information is an insubstantial deviation.

Third, a deviation between the initial legal owner or principal user named in the public approval information and the actual initial owner or principal user will be deemed insubstantial if such parties are related parties on the issue date of the bonds.

An issuer may cure certain substantial deviations with a supplemental public approval if the bond issue satisfies the following conditions:

  1. The bond issue met the notice and public approval requirements on the issue date and on the issue date the issuer reasonably expected there would be no substantial deviations between the stated use or amount of the proceeds in the public approval information and the actual use or amount of the proceeds;
  2. The issuer determines to use the proceeds in a manner or amount not provided in the public approval as a result of unexpected events or unforeseen circumstances occurring after the issue date; and
  3. Before using the proceeds in a manner or amount not provided in the public approval, the issuer obtains issuer and host approval following a public hearing for which there was reasonable public notice within the meaning of the Final Regulations.

Other Notable Changes. The 1983 Temporary Regulations provide that public notice is presumed reasonable if published no fewer than 14 days before the hearing. The Final Regulations shorten this period to seven days.

As noted above, the 1983 Temporary Regulations require that the public approval information identify the “initial owner, operator, or manager of the [bond-financed] facility.” The Final Regulations change this requirement to the identification of the name of the expected initial owner or principal user of the project or, alternatively, the name of a significant true beneficial party of interest for such legal owner or user. “Principal user” is defined in Code Section 144(a) and means generally a 10 percent owner, lessee or other user of the project. Examples of a “significant true beneficial party of interest” include a charitable organization that is the sole member of the limited liability company that is the legal owner of the project or the general partner of a partnership that owns the project.

Effective Date. The Final Regulations apply to bonds issued pursuant to a public approval occurring on or after April 1, 2019. In addition, issuers may elect to apply the provisions regarding substantial and insubstantial deviations and the remedial action for substantial deviations to bonds issued pursuant to a public approval occurring before April 1, 2019.


* The voter referendum public approval option is rarely used and will be disregarded for purposes of this client alert.

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