Thanks to the recent American Recovery and Reinvestment Act of 2009 (ARRA), a new tax exempt bond financing program is available until the end of 2010 for a wide range of commercial projects that were not previously eligible for tax exempt financing. Recovery Zone Facility Bonds (RZFBs) differ from prior redevelopment bond programs, such as enterprise zone and empowerment zone bonds. The requirements for RZFBs are minimal, reflecting Congress’ desire to provide a flexible financing tool to quickly stimulate local development. The following Q&A will answer your questions about what types of projects can be financed.
Q: Where does the project have to be located in order to qualify?
A: The project must be located within (1) a county or municipality that has received an allocation of issuing authority for RZFBs and (2) a “recovery zone” designated by that county or municipality. As directed by ARRA, Treasury allocated a national limit on these bonds among counties and large municipalities (populations of more than 100,000) based on declines in employment levels and published the allocations in June 2009 at www.irs.gov/pub/irs-tege/rzblocalreallocations.pdf. ARRA defines recovery zone as: (1) any area designated by the issuer as having significant poverty, unemployment, rate of home foreclosures or general distress; (2) any area designated by the issuer as economically distressed by reason of the closure or realignment of a military installation pursuant to the Defense Base Closure and Realignment Act of 1990; or (3) any area for which a designation as an empowerment zone or renewal community is in effect as of February 17, 2009, the effective date of ARRA.
Treasury has made clear that each local allocatee can “make these designations of recovery zones in any reasonable manner as it shall determine in good faith in its discretion.” Given the brief period of time to use this program, the broad definition of recovery zone in ARRA, and the fact that the allocations were made based on changes in employment levels for the entire local subdivision, not just particular areas or census tracts, some localities are designating their entire city or county as a recovery zone.
Q: What types of projects can be financed with RZFBs?
A: At least 95 percent of the proceeds of the bonds must be spent on capital expenditures, that is, property of the type that could be depreciated. Therefore, in addition to for-profit borrowers, governmental entities and nonprofit organizations can use these bonds to finance capital projects even though, as non-taxpayers, they do not actually depreciate their property. Thus, commercial and other projects being developed by governmental or nonprofit organizations that also include facilities used by for-profit organizations, such as an office building or other mixed-use project, can now qualify for tax exempt financing for the entire project by combining Recovery Zone Facility Bonds for the private use portion with governmental or qualified 501(c)(3) bonds for the public or nonprofit facilities.
The property financed must be used in the active conduct of a “qualified business” and be constructed, reconstructed, renovated or acquired by purchase after the date the recovery zone designation took effect. In addition, the original use of the property has to commence with the taxpayer (see the next page regarding rehabilitation projects and sale-leasebacks) and substantially all of the use of the property has to occur in the recovery zone. Proceeds can be used to acquire an existing project so long as it is “substantially rehabilitated,” that is, the borrower makes improvements within a 24-month period with a value exceeding the borrower’s adjusted basis at the beginning of that period. Also, the “original use” requirement is considered met even if the property is sold and leased back to the taxpayer within three months after the property was originally placed in service.
Q: What type of businesses can use RZFBs?
A: The legislation defines a qualified business as “any trade or business,” excluding only: (1) leasing residential rental property (that is, a building or structure if 80 percent or more of the gross rental income for the taxable year is rental income from dwelling units (a hotel, motel or establishment where more than half the units are used on a transient basis is not prohibited)) or (2) a private or commercial golf course, country club, massage parlor, hot tub or suntan facility, gambling facility or any store the principal business of which is the sale of alcohol for off-premises consumption.
Q: Do other tax exempt bond rules apply?
A: Yes. The same tax rules apply, including approval of the bonds by the local subdivision after a public hearing, as well as the arbitrage and rebate rules. Both a debt service reserve fund and costs of issuance (subject to usual tax exempt bond limitations) can be funded with RZFB proceeds.
Q: Who can issue the bonds?
A: The county or large municipality that has received an allocation of issuing authority from Treasury (see the link on the previous page) and that has the authority under state and local law to issue the bonds for the proposed purposes. An allocatee can also transfer its issuance authority to another issuer, such as a joint powers authority or industrial development authority, to finance a project within the jurisdiction of the allocatee.
Q: What about infrastructure improvements associated with my project?
A: ARRA also created a more favorable financing tool for government-owned public projects in recovery zones. Called “recovery zone economic development bonds,” they are a form of Build America Bond, a taxable bond for which the US government will reimburse the governmental borrower in an amount equal to 45 percent of the interest cost on the bonds. Recovery zone economic development bonds are also subject to a volume cap allocated to counties and large municipalities based on employment decline (see the link on the previous page) and must be issued by December 31, 2010. If your project includes infrastructure improvements, recovery zone economic development bonds could provide a financing source for those improvements.