The Community Banker - Issue 2 2020

THE COMMUNITY BANKER QUART E R 2 2 0 2 0 11 B ankers, like lawyers, are typically looking for new business. One area of opportunity that is often overlooked is the public sector, which includes states, counties, municipalities, public service districts and boards of education. The interest on these financings can be exempt from both federal and state income taxes if the applicable requirements are met. Although not part of the public sector, 501(c)(3) organizations and volunteer fire departments are also permitted by the Internal Revenue Code (the “Code”) to borrowmoney on a tax-exempt basis. Some bankers pass up opportunities in the public sector because they fear that the transac- tions are too complicated or are concerned that they are not familiar enough with the applicable federal and state laws and regulations to pursue these opportunities. The documentation does differ from that used for commercial loans; the applicable laws and regulations differ as well. However, with the assistance of counsel familiar with public finance transactions, lenders usually find the foregoing fears and concerns to be unfounded. Hopefully, the brief overview provided by this article will enable more lenders to explore these opportunities. One of the most common methods in public finance is to use a county or municipal building commission. In a typical transaction, the building commission issues a lease revenue bond to the lender in return for the money needed to acquire, construct and equip a project for the applica - ble county, municipality or other lessee. The building commission secures the payment of the bond by a deed of trust on the project and then leases the project to the lessee. Under the lease agreement, the lessee is obligated to make lease payments equal to the debt service on the bonds as well as to pay all expenses relating to the project. State law requires that a county commis - sion or municipality have the option to terminate the lease during any fiscal year. In the event of such a termination, or in the event of a default, the lender can require the lessee to pay only the lease payments for which the lessee has made an appropriation. The lender can also foreclose on the project. Another common financing method is to use a master equipment lease purchase agree - ment (“MLPA”). The property financed must be equipment which is paid for by the lender and leased to the public body. The lessee is required to make lease payments equal to the debt service and is also obligated to pay all expenses relating to the equipment. The lessee must have the option to terminate theMLPA each fiscal year. The lender has the same remedies described above for building commission financings. Municipalities and public service districts frequently issue bonds for water and sewer projects. The borrowing entity issues bonds pursuant to an ordinance or resolution which sets forth the interest rate(s), repayment terms and prepayment options with respect to the bonds, as well as various covenants such as a debt service coverage requirement, the establishment of a debt service reserve fund and the proper operation and maintenance of the system. The bonds are payable solely from either the gross or net revenues of the applicable system, depending on the type of system. 501(c)(3) organizations are also able to finance capital projects with proceeds of tax-ex - empt obligations so long as such obligations are issued by a public body. For example, under an MLPA, a public body serves as lessee and the 501(c)(3) organization acts as sublessee and has the sole responsibility to pay the lease payments and expenses relating to the equipment. Unlike financings for public bodies, the appropriation limitations are not applicable. Although not always recognized as 501(c) organizations, volunteer fire departments are permitted by Section 150(e) of the Code to bor- row money directly from a lender on a tax-ex- empt basis to finance costs of a firehouse or fire truck. To do so, the department must have a written agreement with a county commission or municipality to provide firefighting services in an area which is not provided with any other firefighting services. Tax Increment Financing (“TIF”) proj- ects by counties and municipalities often involve traditional construction financing for developers. Banks also can purchase privately placed TIF revenue bonds issued to finance infrastructure within a TIF district (or to refinance such bonds). Significantly, TIF rev - enue bonds are secured by and payable from a designated flow of property taxes, i.e., the “increment” or increase in property taxes from development within the TIF district over a baseline (beginning date) assessed valuation of TIF district property. The financings described above can be refinanced (or “refunded” in bond parlance). The approval process and documentation in such a refunding are similar to those used in the original financing. There are many requirements imposed by the Code and the regulations promulgated thereunder, all of which cannot be covered by this article. These requirements include the need to file with the IRS Form8038 for 501(c)(3) bonds or Form 8038-G (Form 8038-GC if the amount fi - nanced is less than $100,000) for governmental bonds. Also, 501(c)(3) bonds must be approved by the “applicable elected representative” such as a county commission, city council or governor following a properly noticed public hearing. Finally, lenders will need to ascertain whether the obligation is “bank qualified,” meaning it is a “qualified tax-exempt obliga - tion,” under Section 265(b)(3) of the Code since that affects the amount of the disallow- ance of interest resulting from a bank owning a tax-exempt obligation. If you have questions or need assistance with a tax-exempt financing, please contact me or another member of the Bowles Rice public finance group: Roger Hunter, Tom Pearcy and Alexandra Shulz. Camden Siegrist is a practicing attorney with more than 30 years of experience and a partner with Bowles Rice LLP. He con- centrates his work on municipal bonds and related governmental financings, securities and commercial transactions. Cam has served as bond counsel on numerous bond-related matters for a wide variety of projects. Should you require more information, please contact Mr. Siegrist at (304) 347-1129 or by email at . Bowles Rice is general counsel to the Community Bankers of West Virginia. Lending Opportunities With Governmental Bodies and 501(c)(3) Organizations BY CAMDEN P. SIEGRIST