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The Impact of the Administration's Tax Credit Bond Proposal in Communities Throughout the Country

While states and communities across the nation face different challenges such as increased enrollments, out-of-date buildings, and the struggle to pass bond referendums, they share a common need to modernize their local schools with inadequate resources to accomplish the job. If Congress passes the Administration's $24.8 billion proposal, the federal government would pay the interest on a new tax credit bond that would help communities modernize over 6,000 schools nationwide.

The Administration's Plan Helps Communities Build More Schools

The federal government is not new to the school construction business. Currently, it allows states and local communities to issue school construction bonds to exempt from federal taxation the interest earned by the bond holder. Because the bond holders do not have to pay Federal taxes on the interest they earn, the community can sell the bond at a lower interest rate than standard corporate bonds. This allows the community to save up to a third of the interest costs in the current market. However, the community must repay the principal and the tax-exempt interest over the life of the bond.

The Administration's proposal changes the federal government's role by creating a new type of bond for school modernization: a tax-credit bond. Under this proposal, the Federal government gives the bond holder a tax credit in lieu of a cash interest payment. The community benefits because the interest payments typically equal 50 percent of the cost of a bond. A tax-credit bond is a better value for the community because the federal government pays all of the interest whereas, under tax-exempt bonds, the community recoups only one-third of the interest payments.

Other Benefits from the Presidents Proposal

An improved federal role in school construction may help communities pass school construction bonds. Most states and local communities ask voters to commit to issuing these bonds and repay the resulting debt over a period of 15 to 30 years. This past year, Americans across the country participated in many bond referendums. Not all of them passed. One contributing factor is the public's reluctance to increase taxes to pay for school construction. The Administration's proposed school modernization bonds could encourage support for these referendums.

  • In Michigan, 32 of 61 bond referendums that were held as of August 15, 1999 were rejected by voters.
  • In North Carolina, Wake County voters rejected a $650 million bond referendum to build 15 new schools needed to address increased student enrollment.
  • During 1997-1998, Mississippi voters passed only 10 of 18 bond referendums for school construction.
  • A report by the Public Affairs Research Institute of New Jersey found that significant numbers of school bonds were defeated in 1996-97. In Gloucester County, school districts presented 13 bond referendums but only 2 passed.

Moody's Investors Service recently conducted a case study of Ohio, Michigan, Minnesota, and Wisconsin. The study found that, in Wisconsin, where the state provides an average of two-thirds of the annual debt service costs, the bond passage rates were over 60%. Conversely, in Ohio where there is little state aid for debt service, bond passage rates are lower at 40%.

In addition to saving communities money, the Administration believes the creation of this new type of school construction bond could have a secondary benefit: helping communities pass bond referendums. If a community's ability to pass a bond referendum is improved because of increased state assistance, then increased federal assistance in the form of a tax-credit bond should also improve the passage rate of state and local bond referendums.


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Last Updated -- April 3, 2000 (mhm)