The American Recovery and Reinvestment Act of 2009 (the Stimulus Bill) created a variety of new financing options with which school districts can fund school facilities projects. Qualified School Construction Bonds (QSCBs) and Build America Bonds (BABs) are two options created under the Stimulus Bill that are drawing significant interest from school districts throughout the State of Ohio. QSCBs are tax credit bonds intended to yield a theoretical borrowing cost of 0 percent for the issuer, while BABs can be issued as direct subsidy tax credit bonds or tax credit bonds1. The purpose of this client bulletin is to discuss QSCBs, including their allocation by the State of Ohio and the issues a school district should consider in determining whether QSCBs are a good option for financing its projects.
The 2009 Allocation of QSCBs
The total principal amount of QSCBs that can be issued within a state is limited by that state’s volume allocation from the Federal Government (Volume Cap). Ohio was allocated a total Volume Cap of nearly $418.8 million for the issuance of QSCBs in 2009. Of this Volume Cap, approximately $151.7 million was allocated directly to five Ohio school districts: Akron, Cincinnati, Cleveland, Columbus and Toledo. The remaining $267.1 million will be allocated among other Ohio school districts by the Ohio School Facilities Commission (OSFC), as the designated administrator. Participation in an OSFC program is not required for a school district to receive an allocation of QSCBs from the OSFC.
On May 21, 2009, the OSFC approved, in concept, the application and guidelines for its allocation of Ohio’s Volume Cap among Ohio school districts. OSFC has determined that it will allocate the 2009 Volume Cap for QSCBs in three pools as follows:
- Pool A: $100 million allocated to school districts ready to issue bonds for a major facility project (Minimum allocation size of $2 million; maximum allocation size of $20 million);
- Pool B: $100 million allocated to school districts with major facility projects that are in the planning stage but do not yet have a revenue source in place to support the issuance of bonds (Minimum allocation size of $2 million; maximum allocation size of $20 million); and
- Pool C: $67 million allocated to small projects, such as House Bill 264 Energy Conservation projects (Minimum allocation size of $0.5 million; maximum allocation size of $2.5 million).
OSFC released its application for Volume Cap allocations on May 26, 2009, and began accepting applications effective immediately. There is no deadline for applications. However, no Pool B applications will be approved before July 1, 2009, and the OSFC will only approve Pool A and Pool B applications before July 1, 2009, in the event that delay would cause hardship to a project. The application and more information regarding the process are available at www.osfc.state.oh.us/ Programs/QualifiedSchoolConstructionBondsQSCB/ tabid/156/Default.aspx.
Projects to be financed by QSCBs
QSCBs can be issued for the construction, rehabilitation or repair of public school facilities. The proceeds of QSCBs cannot finance the acquisition of existing facilities. Land acquisition through the use of the proceeds of QSCBs is limited to the acquisition of a site on which new improvements will be built with proceeds of the same issue.
If a school district uses QSCBs to finance any portion of a construction, rehabilitation or repair project, the school district is required to pay Federal prevailing wage on the entire project.2 Whether this results in a higher project cost will depend on the geographic area and economic conditions in which the school district is located. It is important to note that the OSFC has determined that it will not adjust the budget for a school district’s Master Plan to accommodate any increased costs relating to the need to pay Federal prevailing wage resulting from the use of QSCBs to finance the local share of a project.
While the interest rate on QSCBs is theoretically 0 percent, it is not yet clear whether market participants will require an interest rate be paid on the bonds because they are a new instrument in the market (such phenomenon was observed with the introduction of Qualified Zone Academy Bonds in 1998). School districts with low credit quality may also see interest rates above 0 percent on their QSCBs, as investors seek a higher yield for accepting the risk associated with the lower credit quality of the school district.
Federal Tax Considerations
Although QSCBs are taxable bonds, QSCBs are subject to certain federal tax requirements regarding use of proceeds, information reporting, arbitrage, and maturity limitations typically associated with traditional tax-exempt bonds, as well as additional more stringent guidelines. Key provisions to consider in determining whether QSCBs are appropriate for a particular financing include the following:
- Use of 100 percent of available proceeds for project costs: With the exception of issuance costs, all sale proceeds and all investment earnings on QSCBs must be used for the construction project. Issuance costs are limited to 2 percent of the principal amount of the bonds.
- Three-year spend down period: All available project proceeds must be spent within three years of the date of issuance of the QSCBs. Any proceeds remaining unspent after three years must be used to redeem bonds. Such timeframe may be difficult to meet with OSFC projects.
- Maturity of QSCBs: The maximum maturity of a QSCB under federal tax law is determined on a monthly basis by the United States Department of the Treasury.3 The maximum maturity of a QSCB was 14 years for issues closing in April 2009 and 15 years for issues closing in May 2009.
- “Buy American” requirement: All iron, steel and manufactured goods used on a construction project financed by QSCBs must be produced in the United States, subject to certain exceptions.
A school district considering the use of QSCBs to finance a voter-authorized project will need to consider the millage impact of a shorter maturity, lower-interest QSCB relative to the typical 28-year millage impact of a traditional, tax-exempt financing. If the voters have already approved the project with a ballot millage calculated based on the assumption of a tax-exempt financing, the debt service levy on an issue of QSCBs for the same project amount may exceed such ballot millage in initial years due to the shorter maturity of the issue. For school districts contemplating the submission of a bond issue to their voters, a critical issue is whether the voters are more sensitive to their annual tax rate than the long-term savings that could be afforded by a lower-interest rate borrowing over a shorter period of time
Other Stimulus Bill Options
Use of QSCBs to finance a portion of a project does not preclude a school district from using other financing options contained in the Stimulus Bill to finance the remainder of the project. In addition to QSCBs as well as traditional tax-exempt financing options, school districts should consider the appropriateness of BABs, Qualified Zone Academy Bonds and Qualified Energy Conservation Bonds to finance their projects.
The issues associated with financing options created under the Stimulus Bill for school districts are numerous and should not be considered without the assistance of experts in the area of public finance.