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A r c h i v e d  I n f o r m a t i o n

School Modernization Bonds Would Provide Significant Support for State and Local School Modernization Projects

The President's school modernization package includes $24.8 billion in tax-credit bonds over two years to help communities address the long-term needs of aging facilities and increasing enrollments. These bonds can be used for new construction and extensive renovation projects for up to 6,000 schools.

What are Tax-Credit Bonds?

  • This tax-credit bond would provide interest-free financing to help state and local governments pay for school construction and renovation. Instead of paying the interest and the principal on school construction bonds, the average issuer would be responsible only for repaying the principal. The federal government would provide tax credits to the bond holders in lieu of interest payments.

Top Reasons Why Tax-Credit Bonds Will Be Attractive to Investors and Useful to Issuers

  • Tax-credit bonds deliver a more substantial benefit to the issuer than tax-exempt bonds provide. While tax-exempt bonds usually have lower interest rates than taxable bonds, tax credit bonds would typically have no interest costs for the issuer.
  • Tax credits could be used by states and districts that do not issue bonds for school construction and instead use other forms of debt financing. Tax credits could be used to pay interest on all forms of debt instruments for school construction, such as tax anticipation notes, certificates of participation, revenue anticipation notes, bank loans, etc.
  • Tax credits allow states to determine who can use the school modernization bonds in their states. Once the bond allocations are made among the states, each state has the discretion to determine how they will be used within the state.
  • Tax credits would be valuable to all investors regardless of their tax liability. The proposal includes two options that make tax credits valuable to organizations, such as non-profits and pension funds that do not have tax liability. Stripability allows tax credit payments to be stripped from bonds just as interest payments can be stripped from other financial instruments. Repurchase agreements enable organizations with no tax liability to receive the cash value of the tax by temporarily selling the bond to another organization that can take advantage of the tax credits.
  • The interest rate would be a daily rate based on the corporate bond yield. This interest-rate structure will make school modernization bonds attractive to investors because it is closely aligned with fluctuations in the corporate debt market.
  • Bond buyers could recognize the tax credits on a quarterly basis. This allows bond holders to adjust quarterly estimated tax payments, rather than waiting until the end of the year to cash in the tax credits.
  • Tax credits could be carried over to future taxable years.
  • School Modernization Bonds could be used to finance the purchase of land.

Investors Agree That Tax-Credit Bonds Will Be Marketable

In a Bond Buyer article (4/30/99), members of the financial industry complimented Representative Rangel's bill (which is based on the Administration's new School Modernization proposal) as follows:

  • Robert E. Foran, a senior managing director and co-head of the public finance department at Bear, Stearns & Co., said "they are trying to be responsive to what the financial community says [could be] an efficient borrowing mechanism. Foran believes that allowing tax credits to be stripped from the bonds will result in "something very marketable," and said, "I know we could sell the credits for what is essentially a zero-coupon taxable muni. I know there is a demand for those."
  • David Walton, a partner with Jones Hall in San Francisco, said the proposal—especially credit stripping—was "very interesting" because it could create demand for the tax-credit bonds.

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Last Updated -- April 3, 2000 (mhm)