In a blog post titled “The Case for Bringing Back BABs,” Treasry Acting Assistant Secretary for Economic Policy John Bellows touted the successes of the Build America Bonds (BABs) program, citing findings of a recent Treasury report that the program saved participating state and local governments billions of dollars in borrowing costs and helped spur job creation. Although BABs expired at the end of 2010, President Obama proposed making the program permanent at a 28% subsidy rate, and four bills have been introduced in Congress to extend the program.
Background. Code Sec. 54AA, which was added to the Code by the American Recovery and Reinvestment Act of 2009 (Recovery Act, P.L. 111-5), permitted state and local government issuers to elect to treat otherwise tax-exempt bonds issued to finance capital projects as taxable BABs. These bonds must have been issued before Jan. 1, 2011. A taxpayer that held a BAB on an interest payment date in the tax year was allowed a nonrefundable credit equal to 35% of the interest payable by the issuer on that date. The credit was allowed against regular tax and alternative minimum tax (AMT), and was treated as taxable interest under Code Sec. 54AA(a). For certain “qualified” BABs, in lieu of the holder's credit, the issuer could elect a “direct payment” option and claim a refundable credit from IRS equal to 35%.
Treasury analysis. The Treasury report stated that throughout the existence of the BABs program, there were 2,275 separate BABs issued that provided over $181 billion for new public capital infrastructure projects. BABs issuers saved an estimated $20 billion in borrowing costs, which exceeds the net cost of the program to the federal government. The report estimates that, as compared to traditional tax-exempt bonds, the average BABs issuer saved 84 basis points (or.84%) on interest costs for 30-year bonds, and also had significant interest savings for bonds with shorter maturities.
According to the report, BABs are more efficient than tax-exempt bonds at delivering a federal subsidy for state and local government borrowing since every dollar goes to the issuer, whereas with tax-exempt bonds, the Federal revenue cost of tax exemption often exceeds the benefits achieved by the State and local governments. Additionally, the tax compliance framework for BABs is also more administrable than tax-exempt bonds.
Obama's proposal. In the President's FY 2012 budget proposals, released on February 14, Obama proposed reinstating and expanding the BABs program at a 28% subsidy level rate. The proposal would also expand the eligible uses for BABs to also include:
... current re-fundings of prior public capital project financings for interest cost savings where the prior bonds are repaid within 90 days of issuance of the current refunding bonds;
... short-term governmental working capital financings for governmental operating expenses, subject to a 13-month maturity limitation; and
... financing for Code Sec. 501(c)(3) nonprofit entities (i.e., hospitals and universities).
According to Bellows, Obama's proposal would provide a sustainable and revenue-neutral funding option for state and local governments to continue financing infrastructure projects.
Other proposals. Four bills have been introduced in Congress to extend the BABs program:
... H.R. 11, the “Build America Bonds to Create Jobs Now Act of 2011,” introduced on Feb. 10, 2011, would extend the program through 2012 with a 32% rate in 2011 and 31% in 2012;
... H.R. 736, the “Build America Bonds Extension for Rural and Urban Transportation and Highways” (BABE RUTH) Act of 2011, introduced on Feb. 16, 2011, would extend the program through 2014 with a 32% rate in 2011 and 30% thereafter;
... H.R. 747, the “Build America Bonds Extension Act of 2011,” also introduced in Feb. 16, 2011, would extend the program through 2012 at a 28% rate; and
... H.R. 992, the “Building America Jobs Act of 2011,” introduced Mar. 10, 2011, with similar terms to H.R. 11.
All of the above bills were referred to the House Committee on Ways and Means.
Infrastructure funding. On May 17, the Senate Finance Committee held a hearing on financing 21st century infrastructure. A document prepared by the Joint Committee on Taxation in connection with the hearing provides an overview of mechanisms available to supplement bonds issued by State and local governments. Although the report focused largely on infrastructure trust funds and tax-exempt financing for transportation infrastructure, it also provided a description of the currently expired BABs program. BABs have also been addressed in recent testimony on infrastructure funding. Thus, it's possible that BABs (or a similar program) could re-surface in an infrastructure funding bill.
Bottom line. It remains to be seen whether the BABs program will be made permanent or temporarily extended, or if it's simply gone for good. But the Treasury's current spotlight on BABs shows that, regardless of the fact that BABs have expired, this tax-favored financing mechanicsm has yet to go away.
References: For BABs, see FTC 2d/FIN ¶L-15600 et seq.; United States Tax Reporter ¶54AA4; TaxDesk ¶382,155; TG ¶15128.