The Internal Revenue Service ("IRS") issued Revenue Procedure 2017-13 ("Rev. Proc. 2017-13"), which provides updated safe harbors from private business use for management contracts. Rev. Proc. 2017-13 clarifies, modifies, amplifies, and supersedes certain provisions of Revenue Procedure 2016-44 ("Rev. Proc. 2016-44").
Rev. Proc. 2016-44 provides safe harbor conditions under which a management contract does not result in private business use of property financed with governmental tax-exempt bonds or cause the modified private business use test for property financed with qualified 501(c)(3) bonds to be met.
Effective Date. Rev. Proc. 2017-13 applies to management contracts entered into, on or after January 17, 2017, and may be applied to contracts entered into before that date. The prior safe harbors may continue to be used for contracts entered into before August 18, 2017, and not materially modified or extended on or after August 18, 2017.
Certain Types of Compensation. Rev. Proc. 2017-13 maintains safe harbors for certain types of compensation. Specifically, without regard to whether the service provider pays expenses with respect to the operation of the managed property without reimbursement by the qualified user, compensation for services will not be treated as providing a share of net profits or requiring the service provider to bear a share of the net losses if the compensation for services is: (1) compensation based solely on a capitation fee, a periodic fixed fee or a per-unit fee; (2) incentive compensation described in the last sentence of section 5.02(2) of this revenue procedure; or (3) a combination of the compensation arrangements described in (1) and (2).
Timing of Compensation Payments. Rev. Proc. 2016-44 provided that the timing of compensation cannot be contingent on net profits or net losses arising from the operation of managed property. Rev. Proc. 2017-13 permits payment deferral resulting from insufficient net cash flows from operations provided the contract: (1) requires payment of compensation at least annually, (2) imposes reasonable consequences for late payment, such as reasonable interest charges or late payment fees, and (3) requires payment of the deferred compensation and interest/fees within five years after the original due date.
Term of the Contract. Rev. Proc. 2016-44 limited the term of a qualifying management agreement to the lesser of 30 years or 80% of the weighted average reasonably expected economic life of the managed property, disregarding land no matter how much land was included as part of the managed property. Rev. Proc. 2017-13 newly provides, consistently with Internal Revenue Code of 1986, as amended (the "IRC"), section 147(b)(3)(B)(ii), that land will be treated as having an economic life of 30 years if 25 percent or more of the net proceeds of the issue that finances the managed property is used to finance land.
Control Over Use of the Managed Property. To exhibit control over the managed property, Rev. Proc. 2016-44 states that the qualified user must approve rates charged either by expressly approving such rates, approving the methodology for setting such rates, or by including in the contract a requirement that the service provider charge rates that are reasonable and customary, as specifically determined by an independent third party. Rev. Proc. 2017-13 clarifies that a qualified user meets the approval of rates requirement when it approves a reasonable general description of the method used to set the rates or when it requires the service provider to charge rates that are reasonable and customary as specifically determined by, or negotiated with, an independent third party.
Continuation of Conflicts Prohibition. Rev. Proc. 2017-13 continues the requirement that there be no circumstances substantially limiting the qualified user's ability to exercise its rights under the contract. As such, a safe harbor is provided, which includes that: (a) no more than 20 percent of the voting power of the governing body of the qualified user is vested in the directors, officers, shareholders, partners, members and employees of the service provider; (b) the governing body of the qualified user does not include the chief executive officer or equivalent executive of the service provider's governing body; and (c) the chief executive officer of the service provider is not the chief executive officer of the qualified user or any of the qualified user's related parties.
Whether or not a management contract results in private business use continues to be based on a facts and circumstances test.