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(13) ISTEA [Intermodal Surface Transportation Efficiency Act] Renewal - Innovation Financing
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1
EXECUTIVE OFFICE OF THE PRESIDENT
16-Mar-1997 04:50pm
TO:
(See Below)
FROM:
Michael Deich
SUBJECT: DOT's Credit Program
Message Creation Date was at 16-MAR-1997 16:43:00
I suspect that DOT's proposal is dormant, not dead. Before the DOT program or
its close cousin should return, I'd like to tie up a few analytic loose ends.
In my judgment, we've already explored fairly well the issues surrounding
enhancement and subordination of tax-exempt debt. Differences of opinion
remain about the importance of these issues, but I think we enjoy rough
consensus on the facts/theory (if folks disagree with this judgment, I'd be
happy to revisit these issues). Would you please pull together a group from
BRD, EP, HTF, and anywhere else you think helpful and consider the following
issues:
-- if the DOT proposal were approved, to what extent would we risk opening the
floodgates to other, perhaps less sound, credit proposals (housing, economic
development, etc)? can the DOT proposal be characterized in a way that limits
the extent to which it could be cited as precedent for encouraging related
credit plans: e.g., the DOT projects would be revenue-generating, the
enhancement of tax-exempt debt would be indirect and would not involve any
explicit federal guarantee, the Federal share would be below some threshhold,
etc. (I'm making this up; none of it may be germane, but I would like to know
if there is any way to bound the precedential nature of the DOT proposal).
-- what are the technical limits of OMB's ability to score credit programs
accurately? at what point do we simply lack the staff resources needed to
score another credit program? is there anything about the DOT program that
suggests it will be particularly time-intensive to score properly? if so,
could it be restructured in some fashion (other than by converting to a direct
grant) to make the scoring simpler?
-- is OMB scoring of credit programs more responsive to political pressure
than its scoring of direct grants (with all the games about spend-out rates,
etc, etc)? do analysts face explicit instructions to provide inaccurate, but
politically convenient, measures? do analysts face pressure to give
optimistic, but perhaps less accurate, measures? if so, are there any
institutional safeguards that could be put in place to ensure that OMB credit
scoring better reflects the best available analysis?
I leave to you whether to include NEC, CEA, TRS etc in these initial
consultations (maybe these are matters that should be addressed at least
initially as issues internal to OMB). Please get back to me with initial
thoughts from you and your colleagues sometime in the next two weeks. Where we
go from there will depend on the results of your consultations. Thanks.
Rames
Despite
HE RESIDENT
3-12-97
Au trains Er
THE WHITE HOUSE
WASHINGTON
and &
March 11, 1997
MR. PRESIDENT:
There is general agreement among the agencies as well as your
White House staff on the ISTEA Reauthorization bill except for
one issue. The attached Raines/Sperling memo discusses the area
of contention -- it outlines two options for dealing with $100
million per year available through the Innovative Financing title.
Given that you are scheduled to announce the bill tomorrow
morning, it would be helpful if you could make a decision prior to
the event. However, if you feel you need more time, an
immediate decision is not imperative.
Background. As currently drafted, the title has two parts. The
first would provide Federal grants of $150 million per year to
State Infrastructure Banks (SIBs), and SIBs would use these funds
to offer credit support for State/local transportation projects. All
agencies support this provision. However, there is disagreement
about how to best use the other $100 million per year available
under this title.
Option 1 - Direct loans. NEC, OMB, DOT, WH Legislative
Affairs and John Podesta would allow the Federal government to
make direct loans for up to 33% of the cost of State/local revenue-
generating (toll) transportation projects of "national economic
significance." However, Treasury objects to this approach. The
memo provides detailed arguments pro and con.
Option 2 - Additional grants. Treasury proposes that the $100
million per year be used for direct grants to SIBs for specific
transportation projects. The SIBs would use the funds to provide
some form of credit support to the projects. See memo for details.
Finally, if you're inclined toward option 1, please note that Sec.
Rubin would like to speak with you before you give final
approval.
Helen Howell Helen
THE PRESIDENT HAS SEEN
3-12-97
DECISION
MEMORANDUM FOR THE PRESIDENT
FROM:
Franklin D. Raines
Gene Sperling
SUBJECT: Elements of the "Innovative Financing" Program
in the Administration's ISTEA Reauthorization Bill
This memorandum seeks your decision on the nature of the 'Innovative Financing' program that
is to be included in the Administration's ISTEA reauthorization proposal.
As currently drafted, the Innovative Financing title has two parts. The first would
provide Federal grants of $150 million per year to State Infrastructure Banks (SIBs). SIBs would
use these funds to offer credit support for State/local transportation projects (e.g., by writing
down the interest that borrowers must pay). All agencies support this provision.
The second part of the Innovative Financing title would allow the Federal government to
make direct loans, on favorable terms and conditions, for up to 33 percent of the cost of a
State/local transportation project. Preliminary OMB estimates indicate that the $100 million per
year in budget authority available for this purpose would support up to $400 million in loans.
NEC, OMB, DOT and White House Legislative Affairs support this provision. Treasury objects.
Treasury proposes instead that the $100 million per year be used for direct grants (e.g., adding
the $100 million to the $150 million per year already provided for SIBs).
OPTION 1 -- Direct Federal Loans with Flexible Repayment Provisions
Under this option, the Federal government would offer loans to State/local sponsors of revenue-
generating (toll) transportation projects of "national economic significance." The Federal loans
could cover up to one-third of total project costs. The State/locality would cover the remaining
project costs by issuing tax-exempt bonds.
During the first 10 years of the loan, the Secretary of Transportation could defer
repayment of principal and/or interest on the Federal loan if the cash flows from the project were
insufficient to cover these items. Any deferred payments would be added to the balance of the
loan and would accrue interest at the Federal cost of funds. At the end of 10 years, the balance of
the Federal loan would be refinanced with a 20-year Federal loan, at Treasury interest rates, with
no further deferral of repayment allowed.
Since borrowers would pay interest at the Federal cost of funds, the budget cost of these
loans would arise only from losses associated with default. In the case of default, the Federal
government and the other project lenders would have equal standing: each could claim project
assets in proportion to the amount of loans they had outstanding.
PRO:
Leveraging Federal investment in transportation. Compared to existing Federal grants,
these loans would provide a much lower subsidy to any one project, thus leveraging the total
amount of transportation investment stimulated by Federal assistance. Preliminary OMB
estimates indicate that, in contrast to existing direct grants subsidizing 80 percent of project
costs, the Federal loan would provide financial assistance equivalent to a direct subsidy of
between 8 and 22 percent of project costs.
More efficient use of the Nation's transportation infrastructure. By subsidizing the
construction of transportation projects that charge user fees, the program would increase the
efficiency with which the Nation's transportation infrastructure is used.
CON:
Treasury acknowledges the advantages of the proposed credit subsidies, but objects to the
form in which the subsidies would be provided. Treasury argues that the DOT proposal is at
odds with longstanding Federal credit policy, and would set a precedent that would be difficult to
avoid with a host of other Federal subsidy programs. Treasury objections include:
Enhancement of tax-exempt debt. Treasury argues that the direct loan program would
violate Federal policies, and perhaps current tax law, prohibiting the use of Federal funds to
enhance the credit-worthiness of State/local tax-exempt debt. The prohibition against
enhancement is designed to discourage the use of tax-exempt debt:
reducing tax-exempt debt reduces the associated revenue loss to the Treasury;
making State/local tax-exempt debt less attractive increases the demand for Treasury
debt, and lowers the interest rate that the Federal government must pay.
Existing Federal policy would allow a direct Federal loan covering 100 percent of the
cost of a State/local transportation project. However, Treasury argues that a Federal loan for 33
percent of project costs would constitute an 'enhancement' of the State/local tax-exempt debt
that covers the remaining project cost. Treasury argues that the enhancement would arise from
the market's belief that the Federal government would grant the project further subsidies rather
than allow the project to fail and the Federal loan to go into default. DOT notes that a market
perception of enhancement would be overcome by a consistent Federal policy against
forebearance.
"Subordination" of Federal debt. Treasury argues that the most problematic aspect of
the DOT proposal, however, is the fact that the Federal loans would involve more risk than the
tax-exempt loans: during the first 10 years of the loan, the State/local borrower would be able to
defer payments on the Federal loan, but would be required to make uninterrupted payments to
private lenders of the tax-exempt debt. During the first ten years of the loan, the Federal
government would take on more credit risk than the private lenders. Treasury argues that the
Federal loan is therefore 'subordinate' to the tax-exempt debt.
DOT argues that the Federal loan would not be subordinate in any material sense: both
the Federal loan and the tax-exempt debt would have equal claim on the project assets in the
event of default.
Scoring uncertainty. Treasury argues that it would difficult to measure the risk associated
with toll transportation projects, for such projects are infrequent, lumpy investments. (Since
1961, only $39 billion in revenue bonds have been issued for transportation toll projects; one
percent of this amount has defaulted.) DOT acknowledges the uncertainty, but note that any
measurement uncertainty would be reflected in a higher OMB estimate of the credit subsidy cost
of the loans; on average, the OMB credit subsidy estimate should accurately reflect the long-term
budget cost of the Federal loans.
OPTION 2 -- Provide Additional Grants to State Infrastructure Banks
Under this option, the Secretary of Transportation would allocate the $100 million per year to
SIBs for specific transportation projects. The SIBs would use the funds to provide some form of
credit support to the projects (e.g., an interest-rate write down).
PRO:
Consistent with Treasury interpretation of Federal credit policy. Since any direct
enhancement of tax-exempt debt would be provided directly by SIBs rather than the Federal
government, this option would be consistent with Federal credit policy.
Budget Certainty. By providing grants rather than loans, this option would eliminate all
of the budget uncertainty associated with scoring credit programs.
CON:
Fewer transportation projects would he built. NEC, DOT and OMB believe that the
Federal government would subsidize fewer projects under Option 2 than under Option 1. First,
Option 1 allows States/localities to borrow at the federal cost of funds, while Option 2 requires
States/localities to access the credit market at the SIB cost of funds. Second, Option 1 would
provide a financial instrument not routinely offered by private capital markets (a 30 year loan
with limited deferral of principal and interest during the first ten years); given the unusual nature
of the credit instrument, borrowers would have to pay a premium to purchase a private-sector
equivalent of Option 1.
NEC, OMB and DOT argue that the absence of a private market equivalent to Option 1
may reflect a capital market imperfection due to the short time horizons of private investors; they
note that the Federal government can offer more 'patient' capital. In response, Treasury argues
that no market failure exists: we observe no similar private sector loans only because the risks are
high and borrowers are unwilling to pay the required premium. Treasury notes that, with perfect
capital markets, States should be indifferent between a direct Federal loan and a grant equalling
the OMB-estimated subsidy cost of the loan (which the State could use to write-down the cost of
a private loan); since States prefer direct Federal loans, Treasury concludes that OMB must be
underestimating the true budget cost of the loan. DOT notes, however, that if capital markets
were imperfect, States could finance more infrastructure with direct Federal loans than with the
grant equivalent. Unfortunately, we have no empirical test of whether private capital markets are
perfect.
RECOMMENDATIONS
NEC, OMB and DOT recommend that you approve Option 1. Treasury recommends that you
approve Option 2. If you are inclined to approve Option 1, Secretary Rubin would like to speak
with you before you give final approval.
DECISION
Approve Option 1
Approve Option 2
Discuss Further
DOT'S TRANSPORTATION CREDIT PROGRAM
The Department of Transportation would like the Administration's ISTEA reauthorization
proposal to include a provision allowing the Federal government to make loans with flexible
repayment provisions. These loans would subsidize revenue-generating transportation projects
of regional and national economic consequence. All agencies agree that the Federal government
properly should subsidize such projects. At issue is the form such subsidies should take.
Under current law, the Department of Transportation provides direct grants to cover 80
percent of a project's cost; a public authority generally issues tax-exempt bonds to cover the
remaining 20 percent of project costs. The Administration's reauthorization proposal includes an
'innovative financing' title providing the Secretary with $100 million per year to allocate for
credit subsidies.
OPTION 1 - Direct Federal Loans with Flexible Repayment provisions
The Federal government would offer flexible payment loans to public sponsors of transportation
projects with interstate economic effects. The Federal loans could cover up to one-third of total
project costs. Repayment would begin after "substantial completion" of the project. For first 10
years the Secretary of Transportation could defer repayment of principal and/or interest on the
Federal loan if the cash flows from the project were insufficient to cover these items. Any
deferred payments would be added to the balance of the loan and would accrue interest at the
Federal cost of funds. A State or local authority would cover the remaining project costs by
issuing tax-exempt bonds subject to current law restrictions on use of proceeds.
By replacing Federal grants with loanable funds, this proposal would leverage the Federal
investment in transportation projects. It would encourage the imposition of user charges, and
increase the efficiency with which transportation infrastructure is used. Finally, the provision of
flexible repayment terms address a possible market failure: the absence of similarly-structured
private loans may reflect the fact that private lenders have a too short a time horizon to offer
loans similar terms; in contrast, the Federal government may be in a position to offer "patient
capital" for these projects. However, this option raises two issues:
Can any Federal loans be provided without violating OMB financing rules by creating an
implicit guarantee of the remaining tax-exempt debt?
Some argue that any Federal loan provides a implicit guarantee to the non-Federal tax-exempt
debt, because markets will assume that the Federal government will not allow the project to fail
and the Federal loan to go into default. In addition, some regard the Federal loan as subordinate
because it allows the deferral of payments on the Federal debt without requiring a similar deferral
on the non-Federal debt. The deferral also may be seen as an enhancement of the non-Federal
debt, because it increases the likelihood that the non-Federal debt will be repaid.
It is true that bondholders might lobby to have the Federal government forgive the Federal loans
or otherwise protect the project. Yet similar lobbying occurs for grant-supported projects:
project sponsors routinely try to get additional funds to continue projects that go over budget.
And under credit reform, legislation to forgive the debt would score in the same fashion as
legislation to help a project through added direct appropriations.
Under Option 1, the Federal government would never pay either interest or principal to the
tax-exempt bondholders, so no direct guarantee exists. Moreover, the financial support given to
tax-exempt bondholders through the flexible payment option is less than the support given by the
direct grants for 80 percent of project costs that are now provided under current law.
Can OMB adequately measure the risk associated with the proposed Federal loans?
Critics argue that it is difficult to measure the risk associated with these projects, for they are
infrequent, lumpy projects. Yet this merely implies that the uncertainty of OMB estimates would
be large, and the associated credit subsidy estimate should reflect that uncertainty. Critics also
argue that toll projects have a history of default. Since 1961, however, projects have defaulted
on about 1 percent of the $39 billion in revenue bonds issued for transportation toll projects.
Traffic forecasts are most uncertain for projects where no comparable traffic patterns exist. The
DOT proposal would be limited, however, to projects that expand capacity on some of the most
congested corridors in the nation (e.g., rebuilding the Woodrow Wilson Bridge). In these
situations, traffic forecasts have far less uncertainty.
Critics also argue that OMB should measure political risk, i.e., the probability that Federal
government will allow Federal loans to default in order to protect private bondholders. In the
case of default, however, the Federal government will be able to liquidate the assets that secure
the Federal loan. In addition, if Congress provides relief by forgiving a the Federal loan, such
action would score for budget purposes.
OPTION 2 - Create Discretionary State Infrastructure Bank Fund
Under this option, the Secretary would have the discretion to allocate the $100 million to State
Infrastructure Banks to subsidize specific projects. This approach would avoid all of the scoring
problems associated with Option 1. Fewer projects would be subsidized, however, for project
sponsors would have to pay the private sector rather than the public sector cost of capital. In
addition, funds raised in private markets would include a premium reflecting the fact that these
10-year, flexible payment bonds are not a standard financing instrument.
NOTES ON FLEXIBLE REPAYMENT LOAN PROPOSAL
The DOT proposal would permit the Secretary of Transportation to defer repayment of
interest and/or principal payments of certain loans made to support transportation projects
of national interest. The proposals calls for about $100 million each year in loan subsidy
costs, enough to support $1 billion of debt, at a subsidy rate of 10 percent. (This proposal
is described as Option 2 of the attached memo.)
The major issues appear to be: (1) whether the deferral provisions "subordinate" the
Federal credit position to that of other creditors; (2) whether the loan subsidy rate can be
correctly calculated to account for the riskiness of the loan; (3) whether the provision of
these flexible repayment loans will tempt Congress to forgive these loans on projects that
go into default or otherwise encounter financial difficulties.
Subordination -- Treasury will argue that flexible repayment loans subordinate the
Federal position to other creditors. This is especially problematic for Treasury's Office of
Domestic Finance with respect to tax-exempt debt, where they view the potential for
deferral as a form of Federal guarantee of the tax-exempt debt. However, Treasury's
Office of Tax Policy does not view the possibility of deferral as a "guarantee" in any
meaningful sense, since the Federal government is not making interest or principal
payments on the tax-exempt debt.
Subsidy Calculation -- OMB should be able to calculate the risk of default on these loans
with reference to the bond ratings that are required as part of the loan program. All
commercially available bond ratings have implicit default rates associated with them (this
subject is covered in beginning Finance textbooks). OMB can use a multiple of this
implicit default rate (e.g., twice the implicit default rate) to compute the subsidy rate they
will "charge" to the loan for budget purposes. This might be a conservative approach, but
it would allow the program to get off the ground while OMB obtained experience with
default rates.
Future Congressional Actions -- It is always hard to predict what Congress may do in
the future. However, these loans would be made on the understanding that they would be
repaid. Whether the benefits of the proposal exceed the costs should not be determined by
speculation about future Congressional action.
Why this program should be supported:
(1) It provides an innovative way to leverage scarce Federal resources for infrastructure
investment.
(2) It supports the imposition of user charges for transportation infrastructure, a necessary
precursor for future use of congestion pricing.
(3) If OMB does their job right, the potential for default is correctly accounted for in the loan
subsidy rate. If DOT does their job right, only high-quality and important projects are selected.
(4) The proposal may actually cut down on the issuance of tax-exempt bonds (with the attendant
efficiency loss) if these flexible repayment loans serve as a replacement.
Also: Following Treasury/OMB inclination to say "no" to innovation stifles the ability of
government to develop new approaches to transportation finance. In effect, the arguments by
Treasury and OMB/BRD reflect the notion that transportation finance should stay with 1950s
style technology.
In another context, the arguments used by Treasury (or similar ones) would have
prevented Treasury from engaging in the loan program to Mexico and the movement of monies
between various trust funds during the debt limit crisis. In both cases, Treasury lawyers came up
with legal opinions stating that non-standard approaches were acceptable.
ISTEA INNOVATIVE FINANCING OPTIONS
revised 3/6/97
Option 1: Fully Taxable Debt with Flexible Payment Loan
This option would permit the Federal government to offer flexible payment loans to the sponsors
(public or private sector) of certain transportation projects, with loan repayments to be made from
project revenue flows. For the first 10 years after substantial completion of the project, the
Secretary of Transportation could defer repayment of principal and/or interest on the Federal
loan, if cash flows from the project are insufficient to cover these items. Any deferred payments
would be added to the balance of the loan and would accrue interest at the Federal cost of funds.
The financing cost is a weighted average of fully-taxable bond rates and the Federal cost of funds.
Pros:
Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
This option permits private participation in transportation projects (e.g., ownership of the facility)
as well as public project ownership. There may be efficiency gains from private participation that
the pubic sector cannot obtain.
The use of fully-taxable debt provides a market test of whether the project generates sufficient
benefits to be a desirable investment.
Cons:
The overall cost of financing under this option may be higher than that available if the project
were funded using tax-exempt debt, with financing costs perhaps 2 or 3 percentage points higher.
The higher cost may discourage private sector participation in these projects and cause the
program to be largely unutilized.
A flexible payment option may be seen as subordinating the Federal debt to other outstanding
debt, because the potential for waiving payments to the Federal government provides additional
assurance to other debtholders that they will be repaid in full.
Option 2: Public Ownership of Project with Flexible Payment Loan and Tax-Exempt Debt
This option would permit the Federal government to offer flexible payment loans to States or
public authorities that undertake certain transportation projects, with loan repayments to be made
from project revenue flows. For the first 10 years after substantial completion of the project, the
Secretary of Transportation could defer the repayment of principal and/or interest on the Federal
loan, if cash flows from the project are insufficient to cover these items. Any deferred payments
would be added to the balance of the loan and would accrue interest at the Federal cost of funds.
The State or public authority could also issue tax-exempt debt (e.g., revenue bonds) subject to
current law restrictions on use of proceeds.
The financing cost is a weighted average of the tax-exempt bond rate and the Federal cost of
funds.
Pros:
Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
States may view the ability to borrow from the Federal government under a flexible repayment
plan as superior to issuing tax-exempt debt. To the extent this occurs, the projected tax
expenditure on tax-exempt bonds will be reduced.
While the flexible payment option may reduce the perceived riskiness of the tax-exempt debt, this
is not a "Federal guarantee" in any meaningful sense, since the Federal government never pays
interest or principal to the tax-exempt bondholders. Moreover, the financial support given to tax-
exempt bondholders through the flexible payment option is so indirect and remote that it should
not be viewed as a form of subordination.
The combination of tax-exempt debt and flexible repayment of the Federal loan may allow some
projects that otherwise could not raise adequate financing to go forward.
Cons:
This option restricts project ownership to public entities.
A flexible payment option may be seen as subordinating the Federal debt to outstanding tax-
exempt debt, resulting in a "guarantee" of tax-exempt debt, contrary to current Federal financing
practice. This may occur because the potential for waiving payments to the Federal government
provides additional assurance to the holders of the tax-exempt debt that they will be repaid in full.
Option 3: Public-Private Partnership Projects with Flexible Payment Loans and Tax-
Exempt Debt
This option would permit the Federal government to offer flexible payment loans for certain
transportation projects to a partnership between a State or public authority and a private entity,
with loan repayments to be made from project cash flows. For the first 10 years after substantial
completion of the project, the Secretary of Transportation could defer the repayment of principal
and/or interest, if cash flows from the project are insufficient to cover these items. Any deferred
payments would be added to the balance of the loan and would accrue interest at the Federal cost
of funds. The State or public authority could also issue tax-exempt debt (e.g., revenue bonds) to
finance the project (though this would require a change in the tax law governing private activity
bonds that would permit issuance for public-private partnership transportation projects and allow
these bonds to be issued without counting against a State's private activity volume cap).
The financing cost is a weighted average of the tax-exempt bond rate and the Federal cost of
funds.
Pros:
Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
This option permits project ownership by either public entities or public-private partnerships.
There may be efficiency gains from private participation that the pubic sector cannot obtain.
While the flexible payment option may reduce the perceived riskiness of the tax-exempt debt, this
is not a "Federal guarantee" in any meaningful sense, since the Federal government never pays
interest or principal to the tax-exempt bondholders. Moreover, the financial support given to tax-
exempt bondholders through the flexible payment option is so indirect and remote that it should
not be viewed as a form of subordination.
The combination of tax-exempt debt and flexible repayment of the Federal loan may allow some
projects that otherwise could not raise adequate financing to go forward.
Allowing tax-exempt bonds for surface transportation projects that have substantial private sector
participation would provide treatment similar to that allowed for governmentally-owned airports
and wharves in the Tax Code.
Cons:
A flexible payment option may be seen as subordinating the Federal debt to outstanding tax-
exempt debt, resulting in a "guarantee" of tax-exempt debt, contrary to current Federal financing
practice. This may occur because the potential for waiving payments to the Federal government
provides additional assurance to the holders of the tax-exempt debt that they will be repaid in full.
Creating a new category of tax-exempt private activity bonds outside of State volume caps is
undesirable because tax-exempt debt is an inefficient subsidy mechanism. The current law volume
cap places a limit on how much a State can use this subsidy to benefit private sector participants.
Creating a new category of tax-exempt private activity debt will increase the pressure for
designating additional allowable uses of this debt and for increasing the private activity volume
caps.
Possible Variations on the Options Presented
Limits can be set on the amount of Federal loan participation in a project.
A higher interest rate can be charged on any amounts deferred into the future.
The period over which deferrals can be made could be modified.
An interest subsidy could be offered to offset some of the financing cost of taxable debt,
though this would be an expensive proposition (subsidies might range as high as 50
percent of interest costs).
Mar 07,1997 11:18AM FROM
TO 93956809
P.01
THE
DEPARTMENT OF THE TREASURY
WASHINGTON
EL
1500 Pennsylvania Avenue, N.W.
DOMESTIC FINANCE
FACSIMILE COVER SHEET
DATE Doe.7,197
NUMBER OF PAGES TO FOLLOW: $
TO: Mack Mazve
ADDRESSEE'S FAX NUMBER: 395-6809
FROM:
Mozelle W. Thompson
SENDER'S FAX NUMBERS: (202) 622-0265
SENDER'S CONFIRMATION NUMBER: (202) 622-2032
COMMENTS/SPECIAL INSTRUCTIONS:
UNCLASSIFIED
TOTAL P.02
THE BOND BUYER
Friday, March 7, 1997
Clinton ISTEA Ideas Don't Thrill Panel
By Heather J. Eurich
M
embers of a Senate panel yester-
But Mortimer L. Downey. deputy sec-
loans to the Missouri Springfield Trans-
day were both critical and skepti-
retary of transportation. said the banks
portation Corp.. to speed up a $33 mil-
cal of the Clinton administration's
need time to mature before they can ful-
lion road construction project and reduce
plans to expand the use of innovative fi-
fill their purpose.
interest costs. The infrastructure bank in
nancing as part of its proposal to renew
"We believe the progress on the SIBs
Florida plans to provide an interest-free
the Intermodal Surface Transportation
has been faster than expected." Downey
loan to finance construction of a toll road
Efficiency Act this year.
said.
interchange in Palm Beach County.
Innovative federal finance programs
The other states need more time to ca-
Despite the slow start of state infra-
have not shown much progress since their
tablish their banks because they have to
structure banks. 26 more states have ap-
inception nearly six years ago under IS-
reprogram federal highway aid funds and.
plied to enter the program and begin their
TEA. the program that sets federal fund-
in some cases.
own banks. Downey said.
ing levels for highways. bridges. transit.
obtain legislative
The administration next week may un-
and airport projects. members of the Sen-
authority to issue
veil a list of new states that will be al-
ate Committee on Environment and
loans and bonds.
lowed to participate in the program. Those
Public Works subcommittee on trans-
Downey said.
states may be included in the formal plan
portation and infrastructure told Depart-
The state infra-
to renew ISTEA for six more years that
ment of Transportation officials.
structure banks
the administration is expected to send
"I'm a bit disappointed." said Sen.
received a federal
Congress next week. according to an ad-
John H. Chafee. R-R.I., chairman of the
appropriation of
ministration official who did not attend
full committee. "From what I see. nothing
$150 million for
the hearing.
much has changed in the way highways
the current fiscal
The administration's newest finance]
have been constructed."
year. but states
proposal - to create federal lines of
Senators questioned why state infra-
are also expected
Mortimer Downey
credit - also was met with skepticism
structure banks. which were created last
to capitalize the
by the senators. The lines of credit would
spring in a 10-state pilot program. have
banks with some of their federal highway
be used to back loans and bonds to low-
not begun to offer loans or issue tax-ex-
grants and state matching funds. Several
er interest costs. but would only be
empt bonds for projects.
of the states have not yet been able to shift
drawn upon if revenue-generating pro-
The infrastructure bank in Ohio. which
federal grants away from traditional pro-
jects like toll roads did not become self-
has loaned $20 million to support a $100
grams to the new bank programs.
sufficient.
million bond issue for a toll road project
But a few infrastructure banks are close
But Sen. Max Baucus. the ranking
in Butler County, is the only one of the
to launching projects. according to DOT.
member of the full committee. was not
10 in the pilot program to start a project.
The bank in Missouri intends to provide
convinced DOT needs the $100 million
it is requesting to establish the program.
The state infrastructure banks could is-
sue the lines of credit or communities
could issue bonds to finance those pro-
jects. he said. Federal lines of credit
should not be used to support projects
thought too risky for other sources of fi-
hancing. he said.
20'd
60895626 01
FROM
WH8T: IT
07'199
Mar
Mar 07,1997 10:38AM FROM
TO 93956809
P.01
:
THE
DEPARTMENT OF THE TREASURY
WASHINGTON
EL
1784
1500 Pennsylvania Avenue, N.W.
DOMESTIC FINANCE
FACSIMILE COVER SHEET
DATE
NUMBER OF PAGES TO FOLLOW: 5
TO: Dack Dozue
ADDRESSEE'S FAX NUMBER: 395-6809
FROM:
Mozelle W. Thompson
SENDER'S FAX NUMBERS: (202) 622-0265
SENDER'S CONFIRMATION NUMBER: (202) 622-2032
COMMENTS/SPECIAL INSTRUCTIONS:
UNCLASSIFIED
March 7, 1997
Mark,
Do you intend to discuss the assumptions made by DOT? (e.g., toll
road and user fee projects eventually pay for themselves; toll
road and user fee projects pose little risk of default, the
Federal Government can afford to take on additional risk of
supporting such projects). We don't agree with these
assumptions.
CONS
1.
Would violate existing Federal credit policies prohibiting
subordination of Federal debt.
2.
Would have the Federal Government taking 100% of the risk
during the riskiest portion of the project's life.
3.
would increase moral hazard because the subordination of the
Federal loan would be viewed as providing credit support for
the entire financing. (As evidenced by the enhanced credit
rating.)
4.
The deferral of Federal loan payments increases political
risk of debt forgiveness or indefinite extensions of the
loan maturity date.
5.
Would have the Federal Government taking "front-end loaded
risk" without any premium.
6.
Treasury could lose money due to interest rate mismatch
between borrowing rate and lending rate.
20'd
60899626 01
FROM WH83:01 07'199 Jew
MAR-05-87 10.33 PROM:OMB
10.
PAGE
3/8
ISTEA INNOVATIVE FINANCING OPTIONS
Option 1: Fully Taxable Debt with Flexible Payment Loan
This option would permit the Federal government to offer fiexible payment loans to the sponsors
(public or private sector) of certain transportation projects, with loan repayments to be made from
project revenue flows. For the first 10 years of the loan's life, the Secretary of Transportation
could defer repayment of either principal or interest on the Federal loan, if cash flows from the
balance of the loan and would accrue interest at the Federal cost of funds. ? why?
project are insufficient to cover these items. Any deferred payments would be added to the
The financing cost is a weighted average of fully-taxable bond rates and the Federal cost of funds.
?
Pros: Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
This option permits private participation in transportation projects (e.g., ownership of the facility)
as well as public project ownership. There may be efficiency gains from private participation that
the pubic sector cannot obtain.
The use of fully-taxable debt provides a market test of whether the project generates sufficient
benefits to be a desirable investment.
but
adequately does not, compensate some the Treamy for market nsk.
Cons: The overall cost of financing under this option may be higher than that available if the project
were funded using tax-exempt dobt The higher cost may discourage private sector participation
in these projects.
prse little rike of
Mark Po DOT? intend (eq. to dis Toll cuss road the and assumptions UserFee made projects to take eventually on pay for the memselves, Federal of supporting
government. such " injects We can afford ?) agree with these assumptions.
forther enerve
by
financing. (ap by
evidemed
enhanced
would violate existing Fednak meditpohics to prohibal right of Federal debt,
2- 1. would have the Fedral green ment taking 100% of the nik during The nikiest partion of the
projects life and would the increase Federal mnal (mm would honard benevator becouse the providing creditsupport
of.- 3- the deformal of Federal loan payments incomes of. political nik of Descript forgivents or indefinite
5:- extensions would have of the the Federal Iran matanity date. Arntend laded risk without any between premium are and tendy
promouttating lase more doe to interest ak mismatch borning rates
P.03
60895626 01
Mar 07.1997 10: 39AM FROM
Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
This option permits project ownership by either public entities or public-private partnerships.
There may be efficiency gains from private participation that the pubic sector cannot obtain
While the flexible payment option may reduce the perceived riskiness of the tax-exempt debt, this
is not a "Federal guarantee" in any meaningful sense, since the Federal government never pays
interest or principal to the tax-exempt bondholders. Morcover, the financial support given to tax-
exempt bondholders through the flexible payment option is so indirect and remote that it should
not be viewed as a form of subordination.
The combination of tax-exempt debt and flexible repayment of the Federal loan may allow some
projects that otherwise could not raise adequate financing to go forward.
Cons:
A flexible payment option may be seen as subordinating the Federal debt to outstanding tax-
exempt debt, resulting in a "guarantee" of tax-exempt debt, contrary to current Federal financing
practice,
This
may
occur
because
the
for
10.34
10.
PAGE
PROM:OMB
Option 2: Public Ownership of Project with Flexible Payment Loan and Tax-Exempt Debt
This option would permit the Federal government to offer flexible payment loans to States or
public authorities that undertakes certain transportation projects. Flexible loan repayments would
be made from cash flows from the project, but the Secretary of Transportation could defer the
repayment of either principal or interest during the first 10 years of the loan life, if cash flows
from the project are insufficient to cover these items. Any deferred payments would be added to
the balance of the loan and would accrue interest at the Federal cost of funds. The State or public
authority could also issue tax-exempt debt (e.g., revenue bonds) subject to current law restrictions
on use of proceeds.
The financing cost is a weighted average of the tax-exempt bond rate and the Federal cost of
funds
Pros:
Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
States may view the ability to borrow from the Federal government under a flexible repayment
plan as superior to issuing tax-exempt debt. To the extent this occurs, the projected tax
expenditure on tax-exempt bonds will be reduced.
While the fiexible payment option may reduce the perceived riskiness of the tax-exempt debt, this
is not a "Federal guarantee" in any meaningful sense, since the Federal government never pays
interest or principal to the tax-exempt bondholders. Moreover, the financial support given to tax
exempt bondholders through the flexible payment option is so indirect and remote that it should
I?
not be viewed as a form of subordination.
The combination of tax-exempt debt and flexible repayment of the Federal loan may allow some
projects that otherwise could not raise adequate financing to go forward.
Cons:
This option restricts project ownership to public entities.
A flexible payment option may be seen as subordinating the Federal debt to outstanding tax-
exempt debt, resulting in a "guarantee" of tax-exempt debt, contrary to current Federal financing
practice. This may occur because the potential for waiving payments to the Federal government
provides additional assurance to the holders of the tax-exempt debt that they will be repaid in full.
except also as violate above. to point prohibitimes add on that lorking it would Federal credit
add and "double tax- excupt dip "of bonds. Federal credit.
- - add mnal
precedent add hazard possibly diolate Section IRS code 149(b)
P.04
60899606 01
FROM
WHOD :01 1997 Main
MAR-65-87 10.38 PROM:OMB
ID:
PAGE
6/8
Option 3: Public-Private Partnership Projects with Flexible Payment Loans and Tax-
Exempt Debt
This option would permit the Federal government to offer flexible payment loans for certain
transportation projects to a partnership between a State or public authority and a private entity.
Flexible loan repayments would be made from cash flows from the project, but the Secretary of
Transportation could defer the repayment of either principal or interest during the first 10 years of
the loan life, if cash flows from the project are insufficient to cover these items. Any deferred
payments would be added to the balance of the loan and would accrue interest at the Federal cost
of funds. The State or public authority could also issue tax-exempt debt (e.g., revenue bonds) to
finance the project (though this would require & change in the tax law governing private activity
bonds that would permit issuance for public-private partnership transportation projects and allow
these bonds to be issued without counting against a State's private activity volume cap).
The financing cost is a weighted average of the tax-exempt bond rate and the Federal cost of
funds.
Pros:
Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
TOTAL P.05
MAR-05-87 18.35 FROM,OMB
ID.
PACE B/B
Possible Variations on the Options Presented
Limits can be set on the amount of Federal loan participation in a project.
A higher interest rate can be charged on any amounts deferred into the future.
The period over which deferrals can be made could be modified.
An interest subsidy could be offered to offset some of the financing cost of taxable debt,
though this would be an expensive proposition.
P.05
60895626 01
Mar 07.1997 10:41AM FROM
EXECUTIVE OFFICE OF THE PRESIDENT
06-Mar-1997 02:47pm
TO:
TARULLO D
TO:
HOLSTEIN_E
FROM:
Kathleen A. McGinty
CC:
MAZUR_M
SUBJECT: Wrap-Up of Negotiations
Message Creation Date was at 6-MAR-1997 14:46:00
fyi.
Forwarded by Kathleen A. McGinty/CEQ/EOP on 03/06/97
02:43 PM
SEIDEL S @ A1
03/06/97 11:36:00 AM
Record Type: Record
To: Kathleen A. McGinty
CC:
Subject: Wrap-Up of Negotiations
It appears that a number of issues have been clarified in the last stages of
this week's climate negotiations.
1. Chairmen Estrada appears to have accepted our concerns about not limiting
the
target/timetable in the April 15th negotiating text to specific proposals. He
stated that the text would include values "x", "y" etc and these numbers would
be left entirely open for future deliberations. We seem to have dodged the
need
for coming back with something more specific by April 1st.
2. It now also appears clear that other parts of the U.S. proposal (developing
countries, evolution, emissions budgets, etc.) will go forward in the
negotiating text.
3. In addition to the EU proposal for 15% by 2010, Norway came forward with a
proposal at the end of the meeting for 10-15% by 2010 for Annex I parties as a
whole to be achieved achieved through equitable burden sharing.
4. The issue of differentiation remains a difficult one. Those strongly
supporting it (Australia, Norway, japan, Russia) have yet to come close to a
common agreement on what a formula or process would entail. They point to the
EU burden sharing as proof of the need for it. This issue remains very much
alive.
5. While not vocal, japan appears not to be supportive of many aspects of our
proposal including emissions trading, evolution, and our opposition to policies
and measures.
6. Opposition by the Group of 77 for JI and to some extent emissions trading
continues to be very strong. Support among developed countries appears
stronger
for emissions trading than for JI.
7. Finally, there were several encounters over the past few days between the
U.S. and the EU over its right to bubble. We continue to make it very clear
that no such right exists.
ISTEA INNOVATIVE FINANCING OPTIONS
Option 1: Fully Taxable Debt with Flexible Payment Loan
This option would permit the Federal government to offer flexible payment loans to the sponsors
(public or private sector) of certain transportation projects, with loan repayments to be made from
project revenue flows. For the first 10 years of the loan's life, the Secretary of Transportation
could defer repayment of either principal or interest on the Federal loan, if cash flows from the
project are insufficient to cover these items. Any deferred payments would be added to the
balance of the loan and would accrue interest at the Federal cost of funds.
The financing cost is a weighted average of fully-taxable bond rates and the Federal cost of funds.
Pros:
Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
This option permits private participation in transportation projects (e.g., ownership of the facility)
as well as public project ownership. There may be efficiency gains from private participation that
the pubic sector cannot obtain.
The use of fully-taxable debt provides a market test of whether the project generates sufficient
benefits to be a desirable investment.
Cons:
The overall cost of financing under this option may be higher than that available if the project
were funded using tax-exempt debt. The higher cost may discourage private sector participation
in these projects.
Option 2: Public Ownership of Project with Flexible Payment Loan and Tax-Exempt Debt
This option would permit the Federal government to offer flexible payment loans to States or
public authorities that undertakes certain transportation projects. Flexible loan repayments would
be made from cash flows from the project, but the Secretary of Transportation could defer the
repayment of either principal or interest during the first 10 years of the loan life, if cash flows
from the project are insufficient to cover these items. Any deferred payments would be added to
the balance of the loan and would accrue interest at the Federal cost of funds. The State or public
authority could also issue tax-exempt debt (e.g., revenue bonds) subject to current law restrictions
on use of proceeds.
The financing cost is a weighted average of the tax-exempt bond rate and the Federal cost of
funds.
Pros:
Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
States may view the ability to borrow from the Federal government under a flexible repayment
plan as superior to issuing tax-exempt debt. To the extent this occurs, the projected tax
expenditure on tax-exempt bonds will be reduced.
While the flexible payment option may reduce the perceived riskiness of the tax-exempt debt, this
is not a "Federal guarantee" in any meaningful sense, since the Federal government never pays
interest or principal to the tax-exempt bondholders. Moreover, the financial support given to tax-
exempt bondholders through the flexible payment option is so indirect and remote that it should
not be viewed as a form of subordination.
The combination of tax-exempt debt and flexible repayment of the Federal loan may allow some
projects that otherwise could not raise adequate financing to go forward.
Cons:
This option restricts project ownership to public entities.
A flexible payment option may be seen as subordinating the Federal debt to outstanding tax-
exempt debt, resulting in a "guarantee" of tax-exempt debt, contrary to current Federal financing
practice. This may occur because the potential for waiving payments to the Federal government
provides additional assurance to the holders of the tax-exempt debt that they will be repaid in full.
Option 3: Public-Private Partnership Projects with Flexible Payment Loans and Tax-
Exempt Debt
This option would permit the Federal government to offer flexible payment loans for certain
transportation projects to a partnership between a State or public authority and a private entity.
Flexible loan repayments would be made from cash flows from the project, but the Secretary of
Transportation could defer the repayment of either principal or interest during the first 10 years of
the loan life, if cash flows from the project are insufficient to cover these items. Any deferred
payments would be added to the balance of the loan and would accrue interest at the Federal cost
of funds. The State or public authority could also issue tax-exempt debt (e.g., revenue bonds) to
finance the project (though this would require a change in the tax law governing private activity
bonds that would permit issuance for public-private partnership transportation projects and allow
these bonds to be issued without counting against a State's private activity volume cap).
The financing cost is a weighted average of the tax-exempt bond rate and the Federal cost of
funds.
Pros:
Flexible repayment loans may provide increased comfort to potential investors in worthwhile
long-term projects as they will be better able to weather unexpected downturns in revenue flows.
This option permits project ownership by either public entities or public-private partnerships.
There may be efficiency gains from private participation that the pubic sector cannot obtain.
While the flexible payment option may reduce the perceived riskiness of the tax-exempt debt, this
is not a "Federal guarantee" in any meaningful sense, since the Federal government never pays
interest or principal to the tax-exempt bondholders. Moreover, the financial support given to tax-
exempt bondholders through the flexible payment option is so indirect and remote that it should
not be viewed as a form of subordination.
The combination of tax-exempt debt and flexible repayment of the Federal loan may allow some
projects that otherwise could not raise adequate financing to go forward.
Cons:
A flexible payment option may be seen as subordinating the Federal debt to outstanding tax-
exempt debt, resulting in a "guarantee" of tax-exempt debt, contrary to current Federal financing
practice. This may occur because the potential for waiving payments to the Federal government
provides additional assurance to the holders of the tax-exempt debt that they will be repaid in full.
Creating a new category of tax-exempt private activity bonds outside of State volume caps is
undesirable because tax-exempt debt is an inefficient subsidy mechanism. The current law volume
cap places a limit on how much a State can use this subsidy to benefit private sector participants.
Creating a new category of tax-exempt private activity debt will increase the pressure for
designating additional allowable uses of this debt and for increasing the private activity volume
caps.
Possible Variations on the Options Presented
Limits can be set on the amount of Federal loan participation in a project.
A higher interest rate can be charged on any amounts deferred into the future.
The period over which deferrals can be made could be modified.
An interest subsidy could be offered to offset some of the financing cost of taxable debt,
though this would be an expensive proposition.
ÜMB/Transportation
ID:202-395-4797
MAR 03'97
13:39 No. 009 P.02
EXECUTIVE OFFICE OF THE PRESIDENT
OFFICE OF management AND BUDGET
WASHINGTON, D.C. 20503
ISTEA
March 3, 1997
TO:
Barry Anderson
Mark Mazur
Andy Blocker
Dorothy Robyn
Mozelle Thompson
Jane Garvey
FROM:
Michael Deich Men
Attached is 11 table comparing the elements of the Alameda project as proposed by the
Administration last year, as agreed to this year, and DOT's proposed credit program. It is my
hope that within the first two columns are the elements of a workable DOT credit program.
1 am providing this matrix to use as a decision making tool to develop a credit program that the
Administration can support and include in the reauthorization of ISTEA. Please provide to
David Worzala (395-3101) of my staff by COB today your comments on which of the Alemeda
loan provisions could be included into a new DOT credit program. My staff will use your
comments to develop a final proposal which we will share with you tomorrow.
cc:
R. Lyons
A. Stigile
W. Chang
D. Tangherlini
P. Romani
Comparison of the Alameda Loan and DOT's Credit Proposal
MAR 03'97 13:39 No.009 P.03
Loan Provision
Original Alameda
Alameda as Signed
Proposed Program
Term
30 years from Substantial
30 years from Substantial
30 years from Substantial
Completion (est. 33 yrs)
Completion (est. 33 yrs)
Completion
Rate
10 year Treasury Rate through
10 year Treasury Rate through
30 year Treasury Rate over the
construction. 30 year Treasury
construction. 30 year Treasury
life of the Loan (no interest rate
Rate thereafter (means there is
Rate thereafter (means there is
subsidy)
an interest subsidy
an interest subsidy
Amount
$400 million. Loan equals 20%
$400 million. Loan equals 20%
Loans may not exceed 33% of
of Project costs. ( but Federal
of Project costs. (but Federal
Project costs.
participation equals 38%
participation equals 38%
including Federal grants)
including Federal grants)
Repayment Schedule
Repayments must begin 7 years
First repayment starts year after
Payments must start within 5
after a draw on the loan takes
substantial completion. Tailored
years after substantial
place. This period allowed for
to project cash flows. New
completion. Tailored to project
construction and operating
agreement relies on attaching
cash flows.
phase in.
off-project revenues of the Ports
to repayment.
ID:202-395-4797
Repayment schedule tailored to
project cash flows with
guarantee for Federal
government of a percent of cash
flows if fell off the repayment
curve. i.e. our percent of
revenues increases as time
goes on or project falls behind
OMB/Transportation
Claim on net Revenues
guarantee of participatory
Repayment subordinate to prior
Payments may be deferred by
MAR 03'97 13:40 No.009 P.04
interest in project revenues.
liens for Project Revenue bond
the Secretary during the first 10
- 10% after 5 years
debt service and deposits to
years if insufficient revenues.
- 20% after 10 years
maintenance fund.
Deferrals accrue interest. On
- 30% after 20 years
parity with Project Revenue
Bonds after 10 years and in
Repayments and deferrals have
event of default. If sufficient
priority to any rebates, credit
revenue is generated then on
accruals, surplus funds, or
parity.
equity returns to Ports.
Deferral of Debt service in event
Limited # of deferrals allowed,
Permitted over the life of bonds.
Permitted during the first 10
of Rate covenant generates
however not included in subsidy
Deferrals accrue interest at loan
years only. Deferrals accrue
insufficient revenue.
estimate.
rate.
interest at loan rate.
Repayment Sources
User charges (container fees)
User charges (container fees)
User charges plus other
plus other dedicated revenues
plus other dedicated revenues
dedicated funding sources
(Port contributions)
(Port contributions)
(specifically excludes federal-
aid).
Borrower Covenents
None specifically identified.
ACTA is assigned the rights of
To be determined on a case by
Ports of LA/LB under MOU with
case basis. Provision for
Railroads to increase container
covenents is explicitly provided
fees up to 3% per year if needed
in legislation.
ID:202-395-4797
to pay debt service.
Fees
none
none
Secretary may establish fees.
Tax status of Debt
Assumed taxable, although
To be determined. A portion of the
Legislation silent. Assumes it
Administration was aware ACTA
project costs may be financeable
depends on tax status of project.
was pursuing tax-exempt financing.
under current law as Governmental
Some projects will be able to issue
Purpose Bonds. ACTA is seeking
all or a portion of their bonds as
tax code change for remaining
tax-exempt under General Purpose
costs.
Bonds under current law.
OMB/Transportation
EXECUTIVE OFFICE OF THE PRESIDENT
06-Mar-1997 10:21am
TO:
David J. Worzala
FROM:
Randolph M. Lyon
CC:
MAZUR M
CC:
Joseph J. Minarik
CC:
Justine F. Rodriguez
SUBJECT: Mark Mazur Draft Memo on ISTEA Credit Options
Message Creation Date was at 6-MAR-1997 10:12:00
I've looked over Mark's memo (and left a copy in Joe's box and faxed one over
to Justine).
I have the following suggestions:
The memo should clarify which options are in the proposed legislation, and
which ones are tweaks developed here. For example, I think only option 3 has
been proposed by DOT.
The memo should also clarify which options raise problems in terms of
precedents (options 2 & 3) versus options that do not raise interagency
concerns (option 1).
The treatment of pros and cons surrounding options 2 and 3 seems a bit
"leading." The "pros" section of the draft memo states that the Federal credit
enhancement (through interest deferral and parity in the event of default) "is
not a 'Federal guarantee' in any meaningful sense" and that "the financial
support given to tax-exempt bondholders is so indirect and remote that it
should not be viewed as a form of subordination" [emphasis added]. On the
other hand the "cons" section says that the "flexible payment option may be seen
as subordinating Federal debt to outstanding tax-exempt debt, resulting in a
guarantee' of tax-exempt debt, contrary to current Federal financing
practice." I think the memo should be more evenhanded here. There is no
question that the flexible payment option and parity in the event of default
are credit enhancements for the tax-exempt debt.
There are other options that could be included on the last page. For example,
one could award planning grants to toll-road projects that are successfully
funded in the bond market. Also, one could put tax-exempt private activity
borrowing under the volume caps.
EXECUTIVE OFFICE OF THE PRESIDENT
06-Mar-1997 04:03pm
TO:
(See Below)
FROM:
Michael Deich
SUBJECT: subordination, linkage, tax-exempt debt and government loans
Message Creation Date was at 6-MAR-1997 15:55:00
Project at issue: a toll road built by a governmental turnpike commission that
has the authoirty to issue governmental (not private-activity) tax=exempt
revenue bonds.
Current law: feds pay 80 percent of project costs in direct cash grants;
commission issues revenue bonds to pay the remaining 20 percent of project
costs. commission's ability to borrow depends directly on the fact that it
receives federal subsidy for 80 percent of project costs in this sense, the
tax-exempt debt is 'linked' to the direct grant.
Option 1: feds make direct loan for 80 percent of project costs. the
commission issues revenue bonds to pay the remaining 20 percent of project
costs. repayment of fed loan and revenue bonds follow same time path. in case
of default, feds and nonfederal lenders share assets that secure the debt in
proportion to the amount of their debt outstanding (80/20). in this scenario,
the tax-exempt debt is 'linked' to direct federal loan exactly as it is linked
to direct grants under current law. if the interest rate were set to cover fed
government's cost of borrowing and to reflect the probability of default npv
of gov't's expected cost would be zero. but despite lowering the federal
govt's expected net cost from 80 percent of project costs to zero, a proh
ibition against 'linkage' would prevent moving from current law to option 1.
Assume reason prevails and we move to option 1. afterwards, dot proposes
option 2: same as option 1 except feds make a loan for only 33% of project
costs. omb and trs applaud virtue of dot and approve option 2.
dot proposes option 3: same as option 2, except the federal loan is structured
as a zero coupon bond, and the interest rate is appropriately changed to
reflect different risk associated with new payment stream, so that npv of fed's
expected cost is still zero. in case of default, fed and nonfed continue to
share real assets in proportion to amount of debt outstanding. omb and trs,
being rationale actors, are indifferent between option 3 and option 2.
dot proposes option 4: same as option 3, except the zero coupon bond has a
provision that allows the borrower to pay early. interest rate is adjusted
accordingly to keep npv of fed's expected cost at zero. omb and trs again
shrug with indifference.
In my view, omb and trs rationally could object to a proposal that the federal
government move from current law to option 4 only if they believed that we
could not compute the appropriate interest rate, i.e., we could not accurately
score the credit subsidy. but if that is true, then we are questioning the
whole system of scoring govt loans and guarantees, and must oppose the
extension of any federal credit.
What do you think?
Distribution:
TO: MAZUR_M
TO: Barry B. Anderson
TO: Harry E. Moran
TO: Joseph J. Minarik
TO: Randolph M. Lyon
TO: Dorothy Robyn
TO: David E. Tornquist
TO: David J. Worzala
TO: Kenneth L. Schwartz
TO: Daniel M. Tangherlini
03/06/97 THU 09:50 FAX 202 366 7493
HFS-1
5.
002
COMMENTS ON FEDERAL CREDIT MEMO OF 3/5/97
March 6, 1997
Option 1: Fully Taxable Debt with Flexible Payment Loan
The deferral period should extend from the first 10 years following Substantial Completion
of the Project, not the first 10 years of the loan's life, as payments are never due during
construction. Deferrals, if necessary, should cover principal and/or interest (not either/or).
Cons:
Precludes Governmental Project Sponsors which have legal authority to issue tax-
exempt bonds from utilizing this source of capital for the non-Federal borrowing
needs, increasing borrowing costs by 2.5% to 3% higher.
The program would end up largely unutilized because of its restrictions.
Option 2: Public Ownership of Project with Flexible Payment Loan and Tax-
Exempt Debt
The deferral period should extend from the first 10 years following Substantial Completion
of the Project, not the first 10 years of the loan's life, as payments are never due during
construction. Deferrals, if necessary, should cover principal and/or interest (not either/or).
Option 3: Public-Private Partnership Projects with Flexible Payment Loans and
Tax-Exempt Debt
The deferral period should extend from the first 10 years following Substantial Completion
of the Project, not the first 10 years of the loan's life, as payments are never due during
construction.
Deferrals, if necessary, should cover principal and/or interest (not either/or).
Pros:
Allowing tax-exempt debt for surface transportation projects with private participation
would provide a "level playing field" with current tax policy for other modes of
transportation (airports, seaports and high speed rail.)
Comment on Interest Rate Subsidy Variation
Providing interest rate subsidies on the Federal loan to offset the higher cost of capital on
the non-Federal debt financing would require a subsidy rate in excess of 50%.
ISTEA INNOVATIVE FINANCING OPTIONS
Option 1: Fully Taxable Debt with Flexible Payment Loan
This option would permit the Federal government to offer flexible payment loans to the sponsors
(public or private sector) of certain transportation projects, with loan repayments to be made from
project revenue flows. For the first 10 years of the loan's life, the Secretary of Transportation
could waive repayment of either principal or interest on the Federal loan, if cash flows from the
project are insufficient to cover these items. Any deferred payments would be added to the
balance of the loan and would accrue interest at the Federal cost of funds.
This option permits private participation (e.g., ownership of the facility). The use of fully-taxable
debt provides a market test of whether the project generates a sufficient return to be a desirable
investment.
The cost of financing is a weighted average of fully-taxable bond rates and the Federal cost of
funds.
Option 2: Public Ownership of Project with Flexible Payment Loan and Tax-Exempt Debt
This option would permit the Federal government to offer flexible payment loans to a State or
public authority that undertakes certain transportation projects. Flexible loan repayments would
be made from cash flows from the project, but the Secretary of Transportation could waive the
repayment of either principal or interest during the first 10 years of the loan life, if cash flows
form the project are insufficient to cover these items. Any deferred payments would be added to
the balance of the loan and would accrue interest at the Federal cost of funds. The State or
authority could issue tax-exempt debt (e.g., revenue bonds) subject to current law restrictions on
use of proceeds.
This option restricts project ownership to public entities.
Some may argue that the flexible payment option subordinates the Federal debt to any outstanding
tax-exempt debt, contrary to current Federal financing practice. This may occur because the
potential for waiving payments to the Federal government provides additional assurance to the
holders of the tax-exempt debt that they will be repaid. The counter-argument is that while the
flexible payment option may reduce the perceived riskiness of the tax-exempt debt, this is not a
"Federal guarantee" in any meaningful sense, since the Federal government never pays any
interest or principal to the tax-exempt bondholders in any event. Moreover, the financial support
given to tax-exempt bondholders through the flexible payment option is so indirect and remote
that it should not be viewed as a form of subordination.
The cost of financing is a weighted average of the tax-exempt bond rate and the Federal cost of
funds.
Option 3: Public-Private Partnership Projects with Flexible Payment Loans and Tax-
Exempt Debt
This option would permit the Federal government to offer flexible payment loans for certain
transportation projects to a partnership between a State or public authority and a private entity.
Flexible loan repayments would be made from cash flows from the project, but the Secretary of
Transportation could waive the repayment of either principal or interest during the first 10 years
of the loan life, if cash flows from the project are insufficient to cover these items. Any deferred
payments would be added to the balance of the loan and would accrue interest at the Federal cost
of funds. The State or authority could issue tax-exempt debt (e.g., revenue bonds) to finance the
project (though this would require a change in the tax law governing private activity bonds that
would permit issuance for public-private partnership transportation projects and allow these bonds
to be issued without counting against a State's private activity volume cap).
This option permits project ownership by either public entities or public-private partnerships.
Some may argue that the flexible payment option subordinates the Federal debt to any outstanding
tax-exempt debt, contrary to current Federal financing practice. This may occur because the
potential for waiving payments to the Federal government provides additional assurance to the
holders of the tax-exempt debt that they will be repaid. The counter-argument is that while the
flexible payment option may reduce the perceived riskiness of the tax-exempt debt, this is not a
"Federal guarantee" in any meaningful sense, since the Federal government never pays any
interest or principal to the tax-exempt bondholders in any event. Moreover, the financial support
given to tax-exempt bondholders through the flexible payment option is so indirect and remote
that it should not be viewed as a form of subordination.
Some may argue that creation of a new category of tax-exempt private activity bonds outside of
State volume caps is undesirable because tax-exempt debt is an inefficient subsidy mechanism and
current law places a limit on how much of this subsidy each State can use to benefit private sector
participants. Creation of a new category of tax-exempt private activity debt will increase the
pressure for designating additional allowable uses of this debt and for increasing the private
activity volume caps.
The cost of financing is a weighted average of the tax-exempt bond rate and the Federal cost of
funds.
Potential Variations on the Options Presented
Limits can be set on the amount of Federal loan participation in a project.
An increased interest rate can be charged on any amounts deferred into the future.
The period over which deferrals can be made could be changed.
Mark-
FYI
Danothy
Presentation to the
Office of Management and Budget
A Federal Credit Program
for Surface Transportation
Draft Report
February 4, 1997
TABLE OF CONTENTS
Page
Executive Summary
i
1. The Need for Federal Credit
1
2. Program Objectives and Products
8
3. Program Administration and Project Evaluation
20
4. Credit Program Funding Mechanisms
29
Conclusion
37
Appendix A: Risk Assessment Factors
A-1
Appendix B: Federal Tax Issues Relating to the Federal Credit Program
B-1
Appendix C: Illustrative Project Candidates for Federal Credit
C-1
FIGURES
Figure 1-1: Transportation Infrastructure Financing Mechanisms
5
Figure 2-1: Potential Forms of Federal Credit Assistance in the Project Life Cycle
11
Figure 2-2: Flexible Payment Loan Project Profile
16
Figure 2-3: Standby Line of Credit Project Profile
17
Figure 3-1: Passthrough Role of SIB in Federal Credit Program
22
Figure 3-2: Timeline for Project Review
28
TABLES
Table 4-1: Estimated Budgetary Costs and Credit Amounts
30
Table A-1: Risk Factors Associated With Project Phases
A-3
EXECUTIVE SUMMARY
Introduction
The continued growth of the U.S. economy depends, in large part, on a unified and interconnected
nationwide surface transportation system. The Nation's growing population and increased
shipping demands are straining the capacity of existing facilities. The Federal-aid grant program
has enabled the construction of an extensive transportation system; however, the program's
financial limitations are becoming evident in the face of growing investment needs and the lack of
available public funding to meet those needs. This funding shortfall is particularly acute for large
new investments and major expansions of existing highways and other transportation facilities,
which can cost hundreds of millions of dollars.
Federal assistance in the form of credit (e.g., direct loans, loan guarantees, and other lending
arrangements) rather than outright grants is currently being used to stimulate investment in such
sectors as housing, education, and agriculture. Federal credit has achieved important social and
economic goals in these areas. A Federal credit program oriented toward large surface
transportation projects of national significance would be an important step in closing the current
funding gap and supporting the national economy in an era of constrained public resources.
The Nation is experiencing a growing reliance on the transportation system in an era of
constrained funding.
The Nation's growing population (which increased 15 percent between 1980 and 1994) and
increasing reliance on motor transport are straining the capacity of the Nation's roads and bridges,
border crossings, and intermodal transfer facilities.
Total public spending on capital improvements to highways and bridges was approximately $43
billion in 1995. The U.S. Department of Transportation (DOT) estimates that an additional $16
billion per year is needed just to maintain the condition and performance of the Nation's highways;
however, another $20 billion in annual investment is justified in terms of direct economic benefits.
Federal budgetary pressures will continue to constrain capital investment.
Although receipts into the Highway Trust Fund from fuel taxes have been growing at a steady rate,
Federal budgetary constraints limit the amount of grant assistance that can be distributed to the
States. The primary form of Federal assistance--the Federal-aid program--reimburses State capital
expenditures on transportation infrastructure at prescribed rates (historically, 80 or 90 percent); the
remainder of project costs are covered by the States. Sole reliance on a grant-based reimbursement
program may no longer be the most productive approach. This approach is limited in range, slow
to accommodate change, unable to leverage sufficient private and non-Federal capital, and not
productive enough to meet growing investment needs.
1
A Federal credit program would complement existing programs.
A Federal credit program for surface transportation projects would complement existing financing
techniques by directing resources to transportation investments of critical national importance--
such as intermodal facilities, expansion of existing highways, border infrastructure, trade corridors,
and other investments with national benefits--that otherwise might be delayed or not constructed at
all because of risk or scope. Federal credit would encourage more private sector and non-Federal
participation, address important public needs in a more budget-effective way, and take advantage
of the public's willingness to pay user fees to receive the benefits and services of transportation
infrastructure sooner than would be possible under traditional, grant-based financing.
DOT has designed the Transportation Infrastructure Credit Program to achieve seven key
program objectives.
1. Broaden the Availability of Assistance. To date, Federal credit activities in the surface
transport sector have been characterized by the ad-hoc efforts of interested State and local entities
approaching the Administration and Congress for assistance. In recent years, several large
transportation projects have received credit assistance through special legislation. Thus far, the
Federal Government has managed to respond to these initiatives, but the success of these
transactions has stimulated enormous interest among other project sponsors. A central goal of this
program, therefore, is to establish uniform, objective, and transparent criteria for project sponsors
to submit applications to DOT for Federal credit and to set forth an orderly process for evaluating
and implementing the projects.
2. Target Projects of National Significance. The program is designed to assist transportation
projects that are large-scale investments generating major economic benefits, such as trade
corridors, intermodal facilities, bi-state connectors, and international border crossings. Given their
size, these projects cannot be readily funded through existing government assistance programs,
including State Infrastructure Banks (SIBs). The Federal credit program would offer a cost-
effective mechanism for financing these important national investments.
3. Identify New Revenue Streams. Typically, the projects receiving credit assistance would confer
substantial benefits, enabling them to generate their own revenue streams through user charges,
such as tolls or fares, or indirect beneficiary fees, such as special benefit district assessments or
dedicated tax revenues. By assisting State and local government sponsors in identifying new
project-related revenue streams, the program would allow existing State and Federal resources to
be directed toward smaller, more traditional projects that lack the potential to become self-
sustaining. This, in turn, would increase the overall level of capital investment.
4. Fill Market Gaps. Large, complex transportation projects frequently encounter market
resistance as a result of investor concerns about limited investment horizons, illiquidity, flexibility,
risk, and uncertainty. Addressing these risks will reduce the transactional friction associated with
financing these projects and facilitate their access to the capital markets.
5. Leverage Substantial Private Co-Investment. Unlike other Federal credit programs, which
often entail Federal credit exposure of 80 percent or more of project costs, the proposed
Transportation Infrastructure Credit Program has been structured to leverage substantial private
capital with only a minority Federal investment position. By offering a secondary source of capital
as a minority investor--with the Federal share being capped at 33 percent of project costs--DOT
ii
can attract new funds into infrastructure capital formation in much larger magnitudes from private
capital sources.
6. Limit the Federal Exposure. The participation of private capital will help instill market
discipline by forcing the selection of only those projects that are financially feasible and have
acceptable risk profiles. DOT recommends out-sourcing the risk assessment of each project to the
major bond rating agencies. Their analysis will enable the appropriate subsidy cost or capital
reserve to be set aside at the outset of a project to cover any anticipated default risk.
7. Enlist State and Local Participation. More than other Federal credit activities, large
infrastructure projects depend on State and local government approval and support. The proposed
credit program would draw on the active involvement of State and local governmental units
throughout the entire process, from the identification of suitable candidates to the ongoing
monitoring and servicing of the credit products. The program should be structured to complement
existing Federal-State mechanisms by encouraging States to use their SIBs or other State-
designated intermediaries as local servicing agents. This strategy would, in turn, assist DOT by
providing ongoing local monitoring of project status, ensuring local acceptance, and helping those
State entities develop greater expertise and resources.
DOT recommends that three types of credit assistance be offered to manage the different
financial needs of projects at various points in their life cycles.
1. Flexible Payment Loans
Given the uncertainty of projected revenue streams and operating costs for startup transportation
projects, investors may require an unusually high coverage margin for debt service. The excess
coverage constrains the permitted level of annual project debt service, which reduces the amount of
debt that can be issued.
Flexible payment loans would be direct loans from DOT to project sponsors to provide long-term,
fixed-rate financing of a portion of construction costs. The flexible payment loan could be in an
amount up to 33 percent of the cost of a project and have a final maturity date as long as 30 years
after construction. The interest rate would be established at the time the loan agreement was
executed and would be set at the prevailing yield on U.S. Treasury bonds issued for a comparable
term.
Loans would be repayable from project-related revenues. DOT would allow senior debt holders to
have a prior claim on the annual flow of revenues, although the Federal Government would have a
parity claim on project assets in the event of a default. If annual project revenues were insufficient
to meet current debt service on the Federal loan, interest and principal payments could be deferred.
The flexible payment loan should enable the senior debt to demonstrate higher coverage ratios and
attain investment-grade bond ratings. This, in turn, will facilitate project access to private capital.
2. Standby Lines of Credit
In certain cases, investors may recognize that a project is likely to experience growth in its revenue
stream over time, but they may be uncertain about the timing of the growth, especially during the
ramp-up period when there are no secondary sources of private capital.
iii
The standby line of credit would allow a project to meet revenue shortfalls in the first 10 years of
operation by drawing on a DOT borrowing line. The line of credit is considered a standby facility
in that it represents a contingent source of capital that would be drawn on only if needed to meet
debt service payments on the project's long-term bonds.
The standby line of credit would take the form of a future government commitment to make one or
more flexible payment loans. The total line could not exceed 33 percent of project costs. Up to 20
percent of the line could be loaned in any given year, and any draws would need to be repaid from
project-related revenues within a 30-year period. These loans would be structured in a similar
manner as the direct flexible payment loans.
The standby line of credit is intended to assist projects in attaining investment-grade bond ratings
and securing bond insurance.
3. Development Cost Insurance Pilot Program
The pre-construction phase of project development is the most speculative stage. During this
stage, the project sponsor must complete environmental reviews, secure permits, perform feasibility
studies, and carry out various other preliminary tasks required for constructing the facility. To
date, these costs have been advanced largely by private developers, but the developers are
becoming increasingly reluctant to finance pre-construction costs because of the large exposure,
long lead times, and political risks involved.
The development cost insurance pilot program would allow DOT to insure up to 40 percent of
pre-construction costs for project sponsors that receive a development mandate from a State or
local government. At least 20 percent of the remaining risk would need to be absorbed by the State
or local unit. The Federal share would be capped at $4 million per project. No more than 10
percent of the Federal credit program's annual budget authority could be used for this pilot
program. (Although this type of financial assistance may not be considered a true credit product
under a strict interpretation of the Federal Credit Reform Act of 1990 (FCRA), it has similar
characteristics and achieves similar goals and, therefore, is included as part of this proposal.)
The Secretary would establish quantitative and qualitative criteria for selecting projects to
receive Federal credit.
Projects will need to meet certain objectively measurable threshold criteria relating to project size;
the potential for user charges; eligibility for authorized transportation purposes; and evidence of
State and local support. Qualified projects meeting the initial threshold eligibility criteria would
then be evaluated and selected based on the extent to which they offer benefits of national
significance, leverage private capital, promote innovative technologies, and meet other program
goals.
The funding mechanism should reflect the need for predictability in financing these long-term
projects.
Compared with other projects receiving Federal assistance, project candidates for this program will
tend to be larger, their financial structures will be more complex, and the majority of their funding
will come from private capital predicated on the timely and assured receipt of Federal credit. It is
imperative that the commitment of Federal funds be predictable from year to year and that amounts
iv
remain available until expended. DOT believes that contract authority is the budgetary mechanism
best suited to accomplish these objectives. Two other options for funding the subsidy costs of
Federal credit are to make annual appropriations of no-year budget authority or to allow States to
access their unobligated balances of prior years' apportionments.
The Federal credit program should produce vastly improved leverage ratios of investment
activity as a result of applying limited Federal resources.
Traditional Federal-aid programs (based on a Federal contribution of 80 percent) have an implicit
leveraging ratio of 1.25 to 1.00. Based on rating agency risk assessment models, DOT believes
that the Federal budgetary costs for the proposed credit program (as reflected in loan subsidy rates)
will average between 5 and 10 percent of total credit for flexible payment loans and standby lines
of credit.
Under the Transportation Infrastructure Credit Program, capital investment of more than $3.5
billion is generated by $1.2 billion of Federal credit assistance at a budget cost of $100 million.
Those amounts represent leveraging ratios of 36 to 1 for total project costs to the budgetary or
subsidy costs of credit assistance.
V
CHAPTER 1: THE NEED FOR FEDERAL CREDIT
Introduction
The continued growth of the U.S. economy depends, in large part, on
a unified and interconnected nationwide surface transportation
system. The Nation's growing population and increased shipping
demands are straining the capacity of existing facilities. The
Federal-aid grant program has enabled construction of an extensive
national highway system; however, the program's financial
limitations are becoming evident in the face of growing investment
needs and the lack of available public funding to meet those needs.
This funding shortfall is particularly acute for large new investments
and major expansions of existing highways and other transportation
facilities, the costs of which can amount to hundreds of millions of
dollars.
Federal assistance in the form of credit (e.g., direct loans, loan
guarantees, and other lending arrangements) rather than outright
grants is currently being used to stimulate investment in such sectors
as housing, education, and agriculture. Federal credit has achieved
important social and economic goals in these areas. A Federal credit
program oriented toward large surface transportation projects of
national significance would be an important step in closing the current
funding gap and supporting the national economy in an era of
constrained public resources.
The Economic Value
Technological advancements, the globalization of business, and the
of Transportation
emergence of just-in-time delivery methods have changed the nature
Investment
of economic activity. Today's transportation consumers demand more
from the transport system than the simple movement of goods and
people. They want greater speed, flexibility, and reliability; improved
safety; national and regional access; better intermodal connections;
and smooth passage between the U.S., Canada, and Mexico.
The globalization of business and corresponding reduction in
technological, economic, and political barriers have created an
economic climate in which the U.S. relies increasingly on foreign
trade. Between 1970 and 1993, foreign trade as a percent of gross
domestic product doubled from 12.4 percent to 24.8 percent. I The
new global economy requires improved access to air- and seaports,
increased investment in intermodal facilities, and enhanced
development of trade corridors.
1 Transportation Investment and Economic Expansion: Summary Report and Case Studies, Volume I.
Louis Berger International, Inc., October 1995.
1
New, more demand-responsive just-in-time delivery systems are also
placing greater demands on the performance of the Nation's
transportation network. Just-in-time delivery service (which usually
takes 1 to 3 days) allows for rapid turnover of inventory, thus
reducing the costs associated with storing raw and manufactured
materials. The cost savings of just-in-time delivery methods provide
economic benefits to manufacturers, distributors, consumers, and
ultimately, the national economy.
The economic productivity gains from transportation investment are
significant. A recent study estimates that in the 4-decade period from
1950 to 1989, U.S. firms realized annual production cost savings of
18 percent from general highway investment (18 cents per dollar
invested in all roads) and 24 percent from investment in non-local
roads.²
Growing Reliance on the Transportation System in an Era of
Constrained Funding
The Nation's growing population (which increased 15 percent
between 1980 and 1994) and increasing reliance on motor transport
are straining existing facilities. Since 1980, total ton and intercity
passenger miles have grown by 30 percent and 60 percent,
respectively.³ This comes at a time when limited resources and the
normal deterioration of the Nation's roads and bridges are
contributing to a shift in national investment from capacity expansion
to operation and maintenance of existing facilities. Although this
shift has temporarily halted the decline in roadway conditions that
occurred during the 1970s, it has resulted in a steady increase in the
extent and duration of congestion.
In 1975, only 40 percent of peak hour travel was under congested
conditions. Now, 66 percent occurs under congested conditions. 4 The
growth of congestion has significant long-term environmental, safety,
and economic effects on the Nation. A recent study estimates that the
time losses and wasted fuel associated with congestion cost the
average U.S. citizen $370 annually.⁵ These costs are expected to
increase as growing investment needs and shrinking availability of
public funding contribute to declining performance.
Total public spending on capital improvements to highways and
bridges was approximately $43 billion in 1995, the most recent year
for which data are available. The U.S. Department of Transportation
2 Contribution of Highway Capital to Industry and National Productivity Growth Executive Summary.
Professor Ishaq Nadiri, New York University, FHWA, 1996.
3
The Bottom Line: Transportation Investment Needs, AASHTO, 1996.
4 Our Nation's Highways: Selected Facts and Figures, FHWA, May 1995.
5 Measuring and Monitoring Urban Mobility, Texas Transportation Institute, November 1996.
2
(DOT) estimates that an additional $16 billion per year is needed just
to maintain the condition and performance of the Nation's highways
at the current level. Another $20 billion in annual investment is
justified in terms of direct economic benefits. 6 Postponing investment
can be costly. DOT estimates that deferring $1 in highway
resurfacing for just 2 years can result in spending $4 in highway
reconstruction to repair damages.
The spending gap for transit is smaller in actual amount, but similar
in relative magnitude to current spending. At least $2 billion more
per year is needed to maintain current conditions and nearly $7 billion
a year more is needed to improve services.
The economic drag created by a deteriorating transportation network
could be substantial as shippers and motorists experience increased
vehicle maintenance and fuel costs, shipping delays, safety hazards,
and time delays associated with congestion and poorly maintained
roads.
The Role of Federal
Since 1916, the Federal Government has supported surface
Credit
transportation through a grant-based funding strategy known as the
"Federal-aid" program. Since 1957, revenues derived from the
Federal gas tax (presently 18.3 cents per gallon) and other related
Federal use taxes have been credited to the Highway Trust Fund
(HTF) and allocated among the States pursuant to various formulas
for reimbursement of capital and maintenance costs. Under this
approach, the DOT reimburses State capital expenditures on
transportation infrastructure at prescribed rates (historically, 80 or 90
percent); the remainder of project costs are covered by the States.
Although receipts into the HTF have been growing at a steady rate,
Federal budgetary constraints limit the amount of grant assistance
that can be distributed to the States. Increasingly, States are
recognizing the benefits to be derived from public-private
partnerships in developing, building, and operating new transportation
infrastructure facilities. These benefits include lower construction
costs, faster completion rates, the attraction of private capital, and the
equitable and efficient sharing of risks between the public and private
sectors. These are particularly relevant concerns for large projects,
which have special requirements because of their size and complexity.
Figure 1-1 identifies the various types of projects currently requiring
assistance, the potential financing mechanisms, and the typical scope
(State-wide, regional, or national) of the projects. The pyramid's
shape reflects the number of projects in each funding category. This
section classifies these projects, reviews the role of each potential
6 1995 Status and Condition of the Nation's Surface Transportation System: Condition and Performance,
U.S. Department of Transportation, 1995.
3
financing option, and identifies the current void that could be filled by
a new form of financial assistance--Federal credit.
Although the conventional Federal-aid program has enabled
construction of an extensive transportation system, including the
Nation's 40,000-mile interstate system, exclusive reliance on a grant-
based reimbursement program may no longer be the most productive
approach for large projects involving major reconstruction or capacity
expansion. This approach is limited in range, slow to accommodate
change, and unable to leverage sufficient private and non-Federal
capital to meet growing investment needs.
In 1994, the President issued Executive Order 12893, establishing
more cost-effective infrastructure investment as a priority for the
Administration. Among other things, this measure directed agencies to
seek greater private sector participation in infrastructure investment
and management. In response, DOT launched an innovative finance
initiative (TE-045) which encouraged States to come forward with
new financing techniques not generally permissible under traditional
Federal programs. DOT's approval of innovative financing solutions
has been successful in moving forward numerous high profile projects
sponsored by State and local governments. Although these new
financing tools have expanded flexibility and promoted private sector
participation, they do not squarely address the funding gaps
associated with financing large transportation investments.
The National Highway System Designation Act of 1995 authorized
DOT to establish the State Infrastructure Bank (SIB) Pilot Program.
SIBs are intended to complement traditional transportation programs
and provide States with increased flexibility to offer many types of
assistance, including low-interest loans, loan guarantees, and standby
lines of credit. However, Federal capitalization grants for SIBs
currently are limited to 10% of most categories of a State's annual
apportionments for fiscal years 1996 and 1997 and $150 million of
"new money" to be shared among the participating States. Moreover,
Federal legislation limits the annual disbursement of these funds, thus
reducing the capacity of the SIBs to provide large amounts of credit
assistance directly in the near term. SIBs will require a number of
years to build up sufficient financial resources to gain access to
external funding beyond their own contributed capital. Consequently,
SIBs, like other startup credit intermediaries, are best suited to assist
portfolios of smaller, relatively homogenous, shorter-term projects
that are regional or local in scope.
A few completely privately financed, owned, and operated facilities
are being developed on high-volume roads where revenue from tolls is
sufficient to cover capital costs (e.g., California's SR 91 toll lanes).
Although there may be potential to finance some new toll road
projects in selected high-density corridors, without public assistance
4
Figure 1-1
Transportation Infrastructure Financing Mechanisms
Marketable
Revenue-Based
Projects
STATE/REGIONAL PROJECTS
PROJECTS OF NATIONAL SIGNIFICANCE
State Infrastructure Banks
Federal Credit Program
Revenue Projects
Loans
Requiring Credit
Standby Lines of Credit
Guarantees
Assistance
Flexible Payment Loans
Standby Lines of Credit
Development Cost Insurance
Other
Grant Management
External Financing
Techniques
Traditional
Grant Supported Notes and
Non-Revenue Generating
Bonds
Advance Construction
Flexible Match
Highway Projects
Dedicated Revenue
Loans
5
the vast majority of such projects will require some form of credit
enhancement to be viable in the market.
A Federal credit program would complement existing financing
techniques by directing resources to areas of critical national
importance--such as intermodal facilities, expansion of existing
highways, border infrastructure, trade corridors, and other
investments with national benefits--that otherwise might be delayed or
not constructed at all because of risk or scope. Federal credit would
encourage more private-sector and non-Federal participation, address
important public needs in a more budget-effective way, and take
advantage of the public's willingness to pay user fees to receive the
benefits and services of transportation infrastructure sooner than
would be possible under traditional, grant-based financing.
Background on
Federal credit encompasses financial assistance other than grants
Federal Credit
provided by the Federal Government, such as direct loans and loan
guarantees. The Federal Credit Reform Act of 1990 (FCRA) governs
the provision of Federal credit assistance. The purposes of FCRA are
to: (1) measure more accurately the costs of Federal credit programs,
(2) place the costs of credit programs on a budgetary basis equivalent
to other Federal spending, (3) encourage the delivery of benefits in the
form most appropriate to the needs of the beneficiaries, and (4)
improve the allocation of resources among various credit programs
and between credit and other spending programs.
Before credit reform (through fiscal year 1991), the costs of Federal
credit programs were based on the cash flows associated with loans
and guarantees. Thus, the budgeted cost of a direct loan was
recorded as the amount of cash disbursed to the borrower at the time
of disbursement, regardless of subsequent repayments. The budgeted
cost of a loan guarantee was recorded when fees were collected or
when cash outlays were made to pay for defaults, regardless of when
the Federal commitment was made. This cash-based budgeting
overstated the costs of direct loans and understated the costs of loan
guarantees at the time of Federal commitment, compared with grant
expenditures.
Under FCRA (beginning in fiscal year 1992), the true budgetary costs
of providing Federal credit--technically the unreimbursed or
subsidized costs on a net present value basis--are scored up front,
when the Federal commitment is made. The budgetary costs of direct
loans, for example, are composed of default risk costs and, to the
extent interest rates charged are less than the rates on comparable
Treasury securities, interest subsidy costs. Together, these credit
subsidy costs provide a more accurate economic indicator of the
Federal resources consumed in offering assistance. Although the
subsidy costs of loans and guarantees are included in the budget totals
6
when those commitments are made, the net cash flows associated with
various credit transactions are recorded outside the budget totals as a
means of financing. On this basis, Federal credit may be provided
only to the extent that budget authority is available in advance to pay
the subsidy costs.
In providing credit assistance, the Federal Government faces
(and shares) the financial risks associated with loans and guarantees.
By and large, the Federal Government has not applied credit
assistance to surface transportation investments. Currently, DOT's
only significant involvement in credit programs is through the
Maritime Administration (MARAD) providing loan guarantees to
support shipbuilding. To date, nearly all Federal highway and transit
funds have been provided as grants from the Federal Government,
either to reimburse costs incurred or capitalize pilot SIBs. The
decision to offer credit assistance fundamentally is about whether,
how, and to what extent the Federal Government should broaden the
forms of assistance it offers to States to include directly extending
credit to support major transportation infrastructure investment.
7
CHAPTER 2: PROGRAM OBJECTIVES AND PRODUCTS
Introduction
In seeking to respond to the special financing issues confronting large-
scale transportation infrastructure projects, DOT first sought to
identify the strategic goals for a legislative initiative involving Federal
credit. Foremost, DOT wished to increase capital investment by
leveraging limited Federal resources in a more cost-effective manner
than traditional grant programs. Second, it wished to build upon
successful working partnerships among Federal, State and local
governments. Finally, DOT wished to emphasize an incremental
approach, which would represent a natural evolution of existing
mechanisms rather than a radical departure. This chapter outlines the
key objectives that a Federal credit program for surface transportation
is designed to achieve, and describes the specific financial products
that would be used to accomplish them.
Program Objectives
DOT has identified seven key objectives in structuring the proposed
Federal credit program.
1. Broaden the Availability of Assistance. To date, Federal credit
activities in the surface transport sector have been characterized by
ad-hoc efforts by interested State and local entities approaching the
Administration and Congress for assistance. For example, over the
last several years, project sponsors with the Transportation Corridor
Agencies (TCAs) in Orange County, California and the Alameda
Corridor Transportation Authority (ACTA) in Los Angeles have
arranged Federal lines of credit and direct Federal loans through
special legislation. 1 Thus far, the Federal Government has managed
to respond to these initiatives, but the success of these three
transactions has stimulated enormous interest among other project
sponsors. A central goal of the program, therefore, is to establish
uniform, objective, and transparent criteria for project sponsors to
submit applications to DOT for Federal credit, and to set forth an
orderly process for evaluating and implementing them.
2. Target Projects of National Significance. The program is
designed to assist transportation projects that are large-scale
investments generating major economic benefits, such as trade
corridors, intermodal facilities, and bi-state connectors. In many
cases, these projects are stand-alone facilities with no historical
financial performance record. In some cases, they may also be
I
Through special appropriations, the San Joaquin Hills and Foothills-Eastern toll roads each obtained
$120 million, 10-year standby lines of credit. The Alameda Corridor Project received a $400 million
direct loan repayable over 34 years.
8
substantial reconstructions of existing facilities backed by new
revenue streams. Given their size, these projects cannot be readily
funded through existing government assistance programs, including
SIBs. The Federal credit program would offer a cost-effective
mechanism for financing these important national investments.
3. Identify New Revenue Streams. Typically, the projects to be
funded would confer substantial benefits, enabling them to generate
their own revenue streams. The revenue may come from direct user
charges, such as tolls or fares, or indirect beneficiary fees, such as
special benefit district assessments or local dedicated tax revenues.
Using revenues from beneficiaries to support part or all of the capital
costs is recognized as a more equitable and efficient way of funding
such projects. By assisting State and local government sponsors in
identifying new project-related revenue streams, the program would
allow existing State and Federal resources to be directed toward
smaller, more traditional projects that lack the potential to become
self-sustaining.
4. Fill Market Gaps. Generally, a key goal of any Federal credit
program is to facilitate the borrower's access to private credit
markets by overcoming market imperfections. Large, complex,
startup projects frequently encounter market resistance as a result of
investor concerns about investment horizon, liquidity, flexibility, risk,
or uncertainty. There is an appropriate Federal role for a carefully
defined credit program to fill these gaps until the capital markets
develop the capacity to evaluate and absorb these risks. Addressing
these risks will reduce the transactional friction associated with large
and complex project financing, which is reflected in unnecessarily
large reserve requirements, coverage levels, capital costs, and
transaction fees.
5. Leverage Substantial Private Co-Investment. Unlike other
Federal credit programs, which often entail a Federal exposure of 80
percent or more of the project costs, the proposed Transportation
Infrastructure Credit Program has been structured to leverage
substantial private investment with only a limited Federal
co-investment. By offering a source of secondary capital as a
minority investor, DOT can attract new funds into infrastructure
capital formation in much larger magnitudes from private capital
sources.
6. Limit the Federal Exposure. The participation of private capital
will help instill market discipline by forcing the selection of only those
projects that are financially feasible and have acceptable risk profiles.
Where possible, the risk assessment of the Federal contribution
should be based on credit analysis techniques used by the capital
markets in assessing the default risk of similar infrastructure loans.
9
This kind of market-based credit analysis will allow the subsidy costs
of the Federal credit to be priced appropriately and in full compliance
with FCRA.
7. Enlist State and Local Participation. More than other types of
Federal credit activities, large infrastructure projects depend on State
and local government approval and support. The program would
draw on the active involvement of State and local governmental units
throughout the entire process, from the identification of suitable
candidates to the ongoing monitoring and servicing of the credit
product. The program should be structured to complement existing
Federal-State mechanisms by encouraging States to use their SIBs or
other existing agencies as local servicing agents. This strategy
should, in turn, ensure local acceptance and help those entities
develop greater expertise and resources.
Credit Program
Infrastructure projects have different financing requirements at
Products
different stages of their development and operation. Figure 2-1 shows
the four stages in the typical life cycle of a major transport facility.
These stages are defined as follows:
The developmental phase is the most speculative stage of any
project. In this phase, engineering, financial, and environmental
feasibility analyses are conducted and necessary government
approvals are secured.
The construction phase relies on the performance of the developer
to complete the project on time and within budget, but is also
subject to non-commercial risks, such as weather, litigation, and
force majeure.
When the project is complete, there is typically a ramp-up phase,
during which the revenue stream is established. Transportation
projects (unlike many environmental projects) are often subject to
competing alternatives, and it is difficult to forecast demand
accurately in the early years of operation.
During the final stage, project maturation, the project must
generate sufficient revenues over the long-term to cover its
operating expenses and amortize its capital costs. For large,
capital-intensive projects, a period of 30 years or longer is often
required to fully recover the initial investment.
The Federal credit program would consist of three distinct types of
financial assistance (i.e., product lines), designed to address a
project's varying requirements throughout its life cycle.
Flexible payments loans are direct Federal loans to project
sponsors that provide combined construction and permanent
financing of initial capital costs.
10
Figure 2-1
Potential Forms of Federal Credit Assistance
in the Project Life Cycle
Development
Construction
Ramp-Up
Maturation
Development Cost
Insurance*
Standby Lines
of Credit
Flexible Payment Loans*
*
Development cost insurance will account for not more than 10 percent of subsidy budget authority
*Flexible payment loans and standby lines of credit together will account for at least 90 percent of subsidy
budget authority
11
Standby lines of credit represent secondary sources of funding in
the form of contingent Federal loans that may be drawn on to
supplement project revenues if needed during the ramp-up period.
Development cost insurance provides Federal reimbursement to
project sponsors for a portion of the pre-construction
development phase costs in the event the project fails to proceed
to construction. (Although this type of financial assistance may
not be considered a true credit product under a strict
interpretation of FCRA, it has similar characteristics and
achieves similar goals and, therefore, is included as part of this
proposal.)
In absolute terms, the funding needs are greatest for the first two
products--flexible payment loans and standby lines of credit, and the
major thrust of the program will be oriented to these activities. Due
to the uncertainty associated with projects during the development
stage, development cost insurance is best offered through an
experimental pilot program of limited scope.
In each case, the program will draw on the unique ability of the
Federal Government to be a patient investor, with longer-term time
horizons, lower liquidity requirements, and fewer funding constraints
than private investors. The involvement of the Federal Government
will also confer a psychological benefit: Investors take comfort in
governmental funding in projects of this magnitude as evidencing
public support for the investment. Even in the role of a minority
investor, the Federal Government's participation can help instill
investor confidence while addressing market gaps, thereby inducing
substantial levels of private co-investment.
This section describes how each Federal credit product addresses
specific market deficiencies, and summarizes the features of the
particular credit instrument.
1. Flexible Payment Loans
Market Gap
Private capital investment is discouraged by the size, complexity,
uncertainty, and long-term time horizon associated with large-scale
startup projects. Generally, the projects are one-of-a-kind
investments that require original substantial analysis to evaluate.
Typically, project revenues are weak in the early years, but are
forecast to grow over time. Given the uncertainty of the projected
revenue stream and operating costs, investors and rating agencies may
require that the project revenue bonds show a relatively high pro-
forma coverage margin. Coverage is the annual surplus of net
revenues after payment of operating expenses and debt service. A
12
high coverage factor (such as 1.75 times) constrains the permitted
level of annual debt service and reduces the amount of debt that can
be supported, leaving a funding gap.
In evaluating startup infrastructure projects, the three major rating
agencies have taken the policy position that the maximum attainable
rating on such projects' senior debt is lower investment grade (BBB
or Baa). While project sponsors could seek to raise additional debt
proceeds with a thinner coverage margin (such as 1.10 times), such
debt likely would be rated sub-investment grade. The major capital
market funding source for debt financing of infrastructure--the
municipal bond market--is generally risk-averse, and there is only a
limited market for non-investment-grade obligations.
Moreover, capital market investors strongly prefer predictable,
periodic payments (such as semiannual). They would be reluctant to
accept the initial uncertainty of an uneven or irregular cash flow,
which is more likely for obligations that only have access to residual
cash flows after senior debt payments are met. The possibility of a
payment default on the junior bonds, which would trigger a cross-
default on senior debt, undermines the marketability of both series of
bonds.
State and local governments are ill-equipped to evaluate the credit-
worthiness of such projects, and often lack the resources to make
subordinate loans in the magnitude required to assist the project
sponsors.
This situation defines the need for a flexible debt instrument that
would be payable out of the coverage factor after the senior bonds'
annual debt service.
Description
Flexible payment loans would be direct loans from DOT to project
sponsors to provide long-term, fixed-rate financing of a portion of
construction costs.
Such a loan could be in an amount up to 33 percent of the cost of a
project and can have a final maturity date as long as 30 years after
construction. The interest rate would be established at the time the
loan agreement was executed, and would be set at the prevailing yield
on U.S. Treasury bonds issued for a comparable term.
The terms and conditions of each direct loan would be negotiated
between DOT and the borrower but would enable DOT to accept a
claim on revenues junior to the project's other senior indebtedness. In
the event of default, however, the flexible payment loan would have a
parity or co-equal claim on project assets with other investors.
13
If annual project revenues, after paying operation and maintenance
costs and senior debt service requirements, were insufficient to meet
current debt service on the Federal loan, interest and principal
payments could be deferred. The deferred payment would be added to
the outstanding loan balance and would continue to accrue interest.
The loan agreement would require the borrower to take certain actions
to modify its rates and charges or reduce operating expenses to catch
up to the original loan repayment schedule.
The loan could be prepaid at any time. As the revenues stabilize after
ramp-up, the project's rating may improve to the point at which it
would be in the borrower's interest to refinance the flexible payment
loan with lower-cost debt sold in the municipal bond market.
The two central features of the loan (junior lien on annual revenues
and flexible payment schedule) should assist projects in obtaining
investment-grade bond ratings on their senior indebtedness. This will
facilitate a project's access to capital and reduce its cost of funding
by elevating the rating on a significant portion of the project's debt.
By accepting the variability of the coverage factor through the
flexible payment loan, the Federal Government would expand the
funding capacity of these projects and fill a market gap not
adequately covered by existing funding sources.
2. Standby Lines of Credit
Market Gap
In certain cases, investors may recognize that a project is likely to
experience growth in its revenue stream, but they may be uncertain
about the timing of the growth, especially during the critical ramp-up
period. Project-based revenue sources are extremely difficult to
forecast with reliability, especially since in the case of toll roads,
there is an established network of free highway alternatives that
effectively represent competition.
One technique borrowers can use to cushion the uncertainty about
available revenues in early years is back-end loaded debt service in
the form of zero coupon or capital appreciation bonds (CABs).
CABs accrue interest without cash payment until their stated maturity
dates. While the capital markets may, to a certain extent, accept an
ascending debt service repayment pattern, CABs for lesser rated
issues are relatively costly and difficult to market in volume. The
majority of the financing will still need to take the form of current
interest-bearing bonds. Investors may seek some assurance that the
borrower has access to secondary sources of capital in the early years
to remain current on such bonds should revenue growth occur at a
slower than anticipated rate.
14
Federal tax law limits the amount of reserves that may be funded with
bond proceeds generally to 1 year's debt service, which is insufficient
to address this risk. Project sponsors can borrow additional
capitalized interest to provide some timing cushion in the event of
delays, but this increases the debt burden on the project.
Description
The standby line of credit represents an agreement by DOT to make
one or more direct loans to a project in future years. It is a
standby line in that it represents a secondary source of capital in the
event of certain deficiencies.
In contrast to the flexible payment loan, the standby line of credit
would not be used to fund construction costs as part of the project's
initial capitalization. Rather, the line is a supplemental source of
reserves that could be drawn on if needed to pay debt service on
senior debt during ramp up. The line should facilitate a project's
access to private capital by enhancing coverage, thereby assisting the
borrower in obtaining investment-grade ratings on senior bonds.
Draws on standby lines of credit would have various limitations,
including:
The line could only be drawn on after the project had used up
other available revenues and reserves.
The line could only be accessed after a project had been
substantially completed (i.e., opened to commercial operation)
and could remain available for draws up to 10 years after the
project was substantially completed.
The total amount of draws could not exceed 33 percent of project
costs, as is the case with the flexible payment loans.
The borrower could draw down up to 20 percent of the line of
credit each year (i.e., the entire amount could be drawn down
during the first 5 years of a 10-year credit line). In most cases,
this should represent roughly half of annual debt service, which
affords a substantial margin of error in the revenue projections.
The interest rate for any draw would be established at the time the
line of credit was initially arranged, at a rate equal to the
then-prevailing yield on 30-year U.S. Treasury bonds. Any draws
would need to be repaid within 30 years of the date of such draw. As
with the flexible payment loan, a missed semiannual payment would
not automatically trigger an event of default. The unpaid balance
would be added to the outstanding line and would continue to accrue
interest until repaid.
15
To avoid double-dipping, a borrower could not combine a standby
line of credit with a flexible payment loan for any given project.
Although a Federal loan in the form of a standby line of credit should
not be construed as a Federal guarantee for purposes of the Internal
Revenue Code, separate corrective tax legislation is required in order
to enable bond counsel to render an unqualified legal opinion as to the
tax-exempt status of project bonds benefiting from such assistance.
(See Appendix B: Federal Tax Issues Relating to the Federal Credit
Program.)
Flexible Payment Loans vs. Standby Lines of Credit
The flexible payment loan and standby line of credit are intended to
address projects with different financial profiles based on their pro-
forma capital structures (See Figures 2-2 and 2-3).
The flexible payment loan will be most useful to those projects that
must demonstrate to senior debt investors that there is adequate
coverage on maximum annual senior debt service at the outset of the
project. Project sponsors will find the flexible payment loan
attractive if the Treasury rate compares favorably to their own cost of
capital on a junior lien basis.
FIGURE 2-2
FLEXIBLE PAYMENT LOAN PROJECT PROFILE
Annual
Projected Revenues
Debt Service
$
Flexible Payment
Enhanced Coverage for
Loan Debt Service
Construction
Senior Bonds
Senior Debt Service
1
4
30
Years
16
FIGURE 2-3
STANDBY LINE OF CREDIT PROJECT PROFILE
Projected Revenues
Annual
$
Standby Line
Coverage
Debt Service
of Credit
Construction
Senior Debt Service
1
4
10
30
Years
A standby line of credit is more likely to be used by projects that are
able to demonstrate to investors that their revenue streams are likely
to grow substantially over time. It will allow projects to issue senior
debt on favorable terms with an ascending debt service pattern, but
still have access to contingent sources of capital in the event
revenues initially do not grow as quickly as annual payments of
principal and interest.
A project sponsor seeking Federal credit will determine which of the
two products best meets its needs based on the project's financial
structure.
3. Development Cost Insurance
Market Gap
Over the last decade, State and local governments have come to
recognize the benefits of using a turnkey process to develop major
surface transportation projects. In a turnkey project, the government
sponsor enters into a partnership arrangement with one or more
private sector firms that take responsibility for designing,
constructing, and/or operating the project. The benefits of using a
turnkey method include faster development, cheaper construction,
enhanced operational efficiency, and transference of risk away from
the public sector.
In many cases, the government sponsor awards a mandate to a
development team before all the necessary public approvals have been
secured. Yet many of the pre-construction development phase
activities are under the control of Federal, State or local government.
These pre-construction tasks include assembling the site, securing
17
planning permits, completing environmental reviews, adopting the
necessary enabling legislation, and conducting appropriate public
dialog with local citizens. All these activities involve inherently non-
commercial risks, any one of which can cause a project to fail for
reasons completely unrelated to the project's commercial viability or
the development team's expertise and efficiency. Developmental
phase costs can easily amount to $5 million or more per project,
including preliminary engineering, legal analyses, and market
feasibility studies. In essence, this entire phase may be viewed as
facing political risks, in that the project's success is subject to
government approval rather than market acceptance.
Private venture capital is accustomed to assessing commercial risks
but not political risks and has been unwilling to fund this highly
speculative stage. Thus far, the only source of venture funds has
been a limited amount of strategic capital invested by major
construction or engineering firms that have a substantial business
interest in the project's construction or operation. Because of the
enormous costs, long lead times, and perhaps most important, adverse
experience in jurisdictions where political support has changed
midstream after substantial private investment, even these firms are
now reluctant to fund the development process single-handedly.
As a result, most construction firms have stopped trying to develop
new infrastructure facilities unless the government approvals are in
hand. State and local governments, still new themselves to the
turnkey process, lack the private sector skills and experience needed
to perform the role of developer at the crucial phases of
conceptualizing and initiating projects. As a result, the forward
supply of privately financed transport projects advancing through the
development stage has decreased significantly over the last several
years.
Description
A development cost insurance program has been designed to fill this
market gap. It is structured as a pilot program, using up to 10
percent of the Federal credit program's budget authority. Under this
program, the Federal Government would insure a portion of the pre-
construction expenses incurred by a development team by offering a
development cost insurance agreement, with substantial risk-sharing
by other parties. The program offers the following features:
Development cost insurance will only be available for a
development team that has received a mandate from a government
project sponsor to build a particular project. (Only costs incurred
after selection of the development team by the government
sponsor would be covered.)
18
No single project could be insured for more than a $4 million
Federal share of development expenses.
The Federal share would be limited to 40 percent of pre-
construction costs and the government sponsor would be required
to insure at least 20 percent to establish significant financial (and
political) discipline.
DOT would approve insurance only for those projects that
satisfied the defined criteria for projects of national significance.
Up-front insurance premiums would be collected on execution of
the policy, offsetting a portion of the budgetary cost of the
program.
The coverage could be claimed at the end of 5 years if the project
had not proceeded to construction; however, if a project did
advance at a later date, the Federal insurance coverage would be
reimbursable.
Not more than 10 percent of the annual budget authority could be
used to fund this development cost insurance pilot program.
In most cases, development cost insurance would be available for
projects having pre-construction costs that would otherwise be
eligible for outright grants from DOT if they were being developed
under conventionally funded public procurements. The projects
typically are developed as public-private partnerships precisely
because there are funding constraints to traditional approaches. It is
appropriate, therefore, that these developmental costs be eligible for
partial insurance coverage under the pilot program.
In essence, the program represents a domestic version of the Overseas
Private Investment Corporation (OPIC). OPIC insures American
companies against the political risk of investing in foreign countries.
The development cost program would insure development teams
against domestic political or policy change risk as well as other pre-
construction risks.
Over time, as government sponsors recognize that it is primarily the
public sector's responsibility to advance a project to a buildable
stage, the need for the program may subside.
19
CHAPTER 3: PROGRAM ADMINISTRATION
AND PROJECT EVALUATION
Introduction
This chapter describes key decision points, criteria, and information flows
associated with the credit program and the process by which a project sponsor
could secure credit assistance from DOT. The administrative structure is
designed to maximize the likelihood of successful projects, satisfy various
Federal budgetary requirements, minimize administrative costs, and ensure a
timely and transparent application and selection process to encourage private
sector participation.
The credit application/review process will result in a formal agreement among
DOT, the project's sponsor, and the State (or State-designated agent) in which
the project is located. Project sponsors eligible to receive Federal credit may
include private parties, such as corporations, joint ventures, and trusts;
government entities, such as public authorities and metropolitan planning
organizations; and public-private partnerships.
Using Local Servicers
The credit program has been designed to operate through the States. As with
other transportation programs, it emphasizes State/local flexibility in
allocating and managing transportation resources. Although DOT will be
responsible for credit review and oversight activities, many of the credit
origination and servicing activities can and should be undertaken by local
servicers. Such activities may include receiving and screening applications,
counseling and corresponding with borrowers and collecting, monitoring, and
reporting payments.
Coordinating with State Infrastructure Banks (SIBs)
A local servicer may be a State government agency or other government
agency with authority delegated by the State, including a SIB. Using a local
servicer will facilitate transportation planning and coordination and help
ensure ongoing State and local involvement and support. It is anticipated that
SIBs, where available, will act as local servicers for the credit program.
Providing a meaningful role for SIBs has several strategic advantages:
SIBs will be able to overcome startup capacity limitations resulting from
limited capitalization, small initial portfolios, and lack of credit history
and provide substantial assistance to large, complex projects of national
significance.
SIBs will develop in-house financial expertise by participating in the
development and financing of projects receiving Federal credit assistance,
thereby gaining valuable experience in project financing.
20
SIBs are uniquely positioned to coordinate transportation planning and
financing resources to help ensure that Federal credit assistance is
effectively used and incorporated into existing plans and programs.
SIBs could be allowed to collect fees from project sponsors for their
servicing activities, which would provide an ancillary source of cash flow
to support their own credit activities.
Assisting Specific Projects
The Federal credit program has been designed to assist projects directly rather
than to assist intermediaries, such as SIBs. As a policy matter, DOT believes
SIBs should be capitalized through grants, rather than Federal credit. SIBs
should not incur long-term liabilities under the credit program, because that
would inhibit their ability to provide financial assistance on favorable terms to
other projects. It also would complicate the budget scoring of a loan, if
repayment were tied to the SIB's other credit activities. As discussed earlier,
the primary purpose of Federal credit is to help advance specific projects
where assistance is warranted based on national needs. It is not intended to
directly assist SIBs, which focus on smaller State and local projects. Over
time, SIBs should develop sufficient resources to gain access to markets and
ultimately may be in a position to arrange external financing for larger
projects.
Federal credit will "pass through" the SIB to the recipient project sponsor, but
will not be commingled or cross-collateralized with other SIB resources. The
program provides that each participating local servicer must create a separate
Federal credit account to insulate the Federal credit from defaults or other
risks associated with the SIB's other activities (and vice-versa). This will
ensure that the credit scoring of the subsidy cost of a project is not affected by
the SIB's own portfolio. Figure 3-1 shows the proposed SIB role.
Applying for Federal
A project sponsor first must submit a preliminary application to the SIB (or
Credit
other State-authorized local servicer) describing the project and providing
information to support its designation as a project of national significance. A
key element of the application will be a financial plan that identifies the
specific type and amount of Federal credit applied for, demonstrates the need
for and describes the benefits of such assistance, and proposes a timetable for
receiving the credit assistance.
The SIB then reviews the preliminary application--working with the sponsor
to revise and complete it as necessary--for compliance with Federal guidelines
for projects of national significance that are eligible for credit assistance. If
the SIB finds that the project satisfies these guidelines, it notifies DOT and
requests the sponsor to obtain a preliminary credit assessment from a
nationally recognized rating agency. This assessment should take the form of
a preliminary rating based on the financial plan, including the proposed
21
Figure 3-1
"Passthrough" Role of State Infrastructure Bank
in Federal Credit Program
US Dept. of Transportation
Subsidy Amount
State/Private
Federal Grants
Federal
From Trust Fund
Match
Credit
Program
Financing Amount
From General Fund
Capitalization
Federal
Federal
Grants
Loan Proceeds
Loan Repayments
STATE INFRASTRUCTURE BANK
"SIBSIDIARY"
General Account
Federal Credit
Account
SIB Loans
Federal
Federal
Loan Proceeds
Loan Repayments
Project
State & Regional Projects
Projects of National
Significance
22
Federal assistance. This analysis will provide an expert, independent
assessment of the extent and nature of project risk and the benefits the project
will gain from Federal support.
Once the SIB has received the preliminary credit assessment and any other
relevant information in the applicant checklist (see Appendix A for a
description of the types of information used in evaluating projects), it will
forward the completed application to DOT, along with a written summary of
the project, the financial plan, the form and amount of requested Federal
credit, the rating agency credit opinion, and the expected time frame in which
aid is needed.
After the application is received, DOT will request that the SIB and project
sponsor schedule a formal lender's briefing to summarize the project, present
the financial plan in detail (including the rating agency's credit assessment),
and discuss any other relevant issues. The briefing should help the parties to
fully understand the project and the proposed Federal role and to identify any
outstanding issues that need to be addressed. After the lender's briefing, DOT
will formally evaluate the project and notify the SIB and project sponsor of its
selection decision.
Evaluating Project
The first step in the evaluation process is to determine whether the project
Applicants
meets certain objectively measurable criteria. The proposed eligibility criteria
covers eligibility for authorized transportation purposes; evidence of State and
local support; project size; and the potential for user charges.
Threshold Eligibility Criteria
To qualify for Federal credit assistance, a project must at a minimum meet the
following criteria:
Federal Eligibility -- Any project that is eligible for Federal assistance
through regular surface transportation programs under title 23 or chapter
53 of title 49, U.S.C. (as proposed in reauthorization), would be eligible
for the Federal credit program. This includes highway facilities, mass
transit facilities and vehicles, commuter and intercity passenger rail
facilities and vehicles (including Amtrak), certain freight rail facilities
(excluding privately owned rolling stock), and various intermodal
facilities. Eligible costs would include pre-construction design and
development costs, and related costs such as interest during construction,
reasonably required reserve funds, and issuance expenses.
23
State and Local Support -- The project must have the support of State
and local authorities. It must be included in the State transportation plan
(required under section 135 of title 23) at the time of application and in
the approved State transportation improvement program (required under
section 134 of title 23) at the time any loan agreement or other
commitment is entered under this program. The project application must
be submitted by a State or a local servicer (such as a SIB).
Project Size -- The program is designed to assist complex, large-scale
projects too big for a SIB or a State's regular transportation program. A
project must cost at least $100 million or 50 percent of the State's most
recent annual apportionment of Federal-aid highway funds, whichever is
less.
1
User Charges -- Project financing must be payable in whole or in part by
user charges or other non-Federal dedicated revenue sources. This
provision is designed to encourage States to identify new project-related
revenue streams that will augment existing funding sources and leverage
private capital.
Project Selection Criteria
Qualified projects meeting the initial threshold eligibility requirements will
then be evaluated and selected according to more qualitative criteria relating
to economic values and benefits provided. The factors will be determined by
the Secretary through program guidelines, but might include the following:
National Significance -- A project must substantially reduce costs or
improve productivity in connection with transporting passengers or freight
associated with the promotion of metropolitan, regional, interstate, or
international commerce to be considered a project of national significance.
The extent to which the project is of national significance (e.g., enhances
the national transportation system, generates broad economic benefits,
supports international commerce) will be an important selection factor.
Project Advancement -- Credit assistance should enable the project to
move forward at an earlier date and with lower financing costs than would
otherwise be possible.
Job Creation -- The project should show the potential for creating long-
term employment growth, both directly and indirectly in the project area,
region, State, and Nation.
¹Based on fiscal year 1997 apportionments, 18 States would have project size thresholds below $100 million--with
Puerto Rico having the smallest at approximately $41 million.
24
Special Needs -- The project will be evaluated based on its contribution to
special transportation needs, such as intermodal connectors, border
facilities, and high priority corridors.
Private Participation -- The project's ability to create opportunities for
public-private partnerships and induce private investment will be
reviewed.
Innovative Technologies -- The project will be evaluated on the extent to
which it utilizes or promotes innovative technologies in enhancing access,
mobility, productivity, and safety.
Credit Cost -- A primary goal of the credit program is to enable a project
to attain an investment-grade rating on its senior debt. The credit-
worthiness of the project and the associated budgetary costs of providing
credit assistance are necessary selection factors given the need to allocate
limited Federal budgetary resources among applicants.
Scoring Budgetary Costs Once a project is selected, DOT will make an initial estimate of the budgetary
cost of the requested credit based on its type, amount, and preliminary rating.
It will then notify the SIB and project sponsor that it has either reserved an
appropriate amount of budget authority--to the extent available--or created a
placeholder for future resources. Sponsors of eligible projects not selected
would be notified of the status of their projects and the likelihood of future
consideration, which would depend significantly on the amount of budget
authority available for the Federal credit program. Allocation of a limited
amount of budget authority among selected projects should be based on a
ranking of project proposals compared to the selection criteria. Projects may
be selected and allocated funding on a rolling basis throughout the year or at
specified times within the year. The allocation method would be the subject of
DOT guidance or other public notice.
Disadvantages of Current Methodology
The techniques currently used to assess the budgetary costs of Federal credit
offered by other agencies are not well suited to evaluate transportation project
financing. The scoring methods used for agriculture, business, housing, or
student loans, for example, are based on large volumes of historical data on
credits that are essentially similar. In contrast, transport investments tend to
be "one-off" transactions uniquely structured to meet each project's specific
financial profile.
As an industry sector, surface transportation has an extremely low default rate
compared to other borrower groups. Over the last 10 years, defaults of debt
issued to finance surface transportation facilities have totaled less than one-
half of 1 percent of the new issue volume in this field.
25
Unlike consumer and small business loans, transportation projects tend to be
improving credits over time. Typically, long-term debt is sold at the outset as
construction and permanent financing; therefore, for project-related debt, the
initial rating reflects construction risk, environmental and litigation risk, and
traffic and operating performance risk. After construction is completed and
traffic patterns have stabilized, the ratings should improve. Even toll roads
that have initial traffic shortfalls, such as the Dulles Greenway, ultimately
should be self-supporting, as evidenced by several defaulted toll roads that
eventually became investment-grade as traffic grew to meet forecast capacity
(e.g., the Chesapeake Bay Bridge-Tunnel, the Chicago Calumet Skyway, and
the West Virginia Turnpike).
Proposed Scoring Methodology
The best market-derived information on actuarial default risk for
infrastructure loans is in the financial models used by rating agencies to
evaluate the capital reserves of bond insurers. Agencies such as Fitch
Investors Service, Moody's Investors Service, and Standard & Poor's use
capital reserves criteria (which are much more stringent than the State-by-
State insurance commissioner statutory reserve requirements) to determine the
claims-paying ability of bond insurance companies. It would be appropriate
for the Federal credit program to use the standards that capital market
investors have accepted as being virtually risk-free--those imposed by the
rating agencies to assign AAA ratings on the bond insurers' credit-worthiness.
This proposed budget scoring approach will use a rating agency's preliminary
risk assessment to estimate the subsidy cost of the credit. Essentially, the
Federal loan will be assessed a capital reserve charge to cover the default risk.
The capital reserve charge would be expressed as a series of annual
anticipated cash flows that would be placed in the Office of Management and
Budget (OMB) credit model and discounted at the relevant baseline Treasury
rates to derive a present-value subsidy cost.
This approach is market based, calculated by independent third-party experts,
and predicated on transparent and objective criteria. It offers an accurate,
conceptually sound approach for estimating the risk of large, complex,
heterogeneous capital investments in transportation infrastructure.
Finalizing Credit
After a project has been selected and its subsidy cost has been estimated, the
Agreements
SIB and project sponsor must enter into a formal credit agreement with DOT.
It is anticipated that a single joint agreement will be negotiated and signed by
all three parties. DOT will prepare a generic agreement for the SIB and
project sponsor. The preliminary subsidy cost estimate will be revised when
the agreement is finalized and the credit is committed, based on prevailing
market rates and final loan terms. If a negotiated agreement cannot be
reached in a timely manner, then DOT may wish to withdraw its reservation
of budget authority and move on to other candidate projects.
26
Managing the Budget
The credit application and review process must generate the information
Process
needed to provide accurate and timely input for the annual Federal budget
process. DOT must have an early indication of the type of credit support
envisioned, the level of support, and the timing in which that support should
be provided. More precise subsidy estimates must wait for the finalization of
terms in each project's loan agreement, but an early indication of credit
amounts and associated costs is needed for DOT to gauge the overall level of
budgetary resources required. This will allow DOT to prepare estimates of
the expected demand, compare them with available resources, and help
manage expectations of potential sponsors and States.
Timely submission of applications, evaluation of projects, and estimation of
subsidy costs will be essential for allocating a limited amount of budget
authority among alternative projects. The time needed to complete the process
described above--from the initial submission of an application to the
finalization of an agreement--may take well over a year for a typical project,
as shown in Figure 3-2. The size and complexity of these infrastructure
investments cause the necessary credit transactions to vary greatly. Given the
long lead times needed to thoroughly plan, structure, review, and score these
project financings, any budget authority provided to cover the subsidy costs of
credit assistance must be "no-year" funding (i.e., made available until
expended). This approach would allow DOT to reserve budget authority for a
selected project and still have sufficient time to negotiate a suitable agreement,
revise the subsidy estimate, and obligate the necessary funds.
In recognizing the need for a predictable source of funds, Congress has
legislated the use of contract authority for the Federal-aid highway program
since 1921. Under contract authority, sums authorized are available for
obligation without annual appropriation actions. To facilitate the planning
and structuring of large project financings involving Federal credit assistance,
program funding levels should be known in advance. Providing specified
amounts of contract authority, rather than annual appropriations of budget
authority, would ease market concerns about the availability of future funding
to support Federal assistance. DOT would be better able to allocate limited
funding and avoid costly delays (or even potential collapses) as selected
projects awaited future appropriation actions to determine whether the
negotiated Federal assistance could be committed. The commitment of Federal
credit assistance requires stable funding levels known in advance even more
than traditional grant reimbursements; the projects will be larger, the
financing will be more complex, the Federal assistance frequently will be the
initial capital component, and the majority of the financing--much of it private
capital--will hinge on the timely and assured provision of Federal funds.
27
Figure 3-2
Timeline for Project Review
(For Federal Credit Assistance)
Rating
Provides
Attends
Agency
Assessment
Briefing
Project
Forwards
Submits
Seeks Assessment
Attends
Assessment
Negotiates
Signs
Sponsor
Application
Other Info
Other Info
Briefing
Agreement
Agreement
Local
Reviews Application
Finalizes and
Hosts
Notifies
Servicer/
Notifies DOT
Forwards
Negotiates
Signs
Requests Assessment
Application
Briefing
Sponsor
Agreement
Agreement
SIB
Reviews
Completes
Review
Signs
Application
Attends
Negotiates
U.S. DOT
Makes
Agreement
Requests
Briefing
Agreement
Commits
Selection
Briefing
Funds
Assigns Cost
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sep
Oct
Nov
Dec
Jan
Feb
28
CHAPTER 4: CREDIT PROGRAM FUNDING MECHANISMS
Introduction
This chapter outlines the Federal budgetary resources needed to fund the
proposed credit products--flexible payment loans, standby lines of credit, and
development cost insurance. It includes an assessment of the amount of
Federal credit that could be provided to major transportation infrastructure
projects, an estimate of the budgetary costs of that credit, and a discussion of
how those budgetary resources would be authorized. This chapter also
describes how paying for the costs of Federal credit assistance could be
accomplished through accessing unobligated balances of Federal-aid highway
funds apportioned to the States under the Intermodal Surface Transportation
Efficiency Act (ISTEA).
Measuring the
As discussed in Chapter 1, the budgetary or subsidy costs of extending
Cost of Credit
Federal credit depend on the estimated default risks and interest subsidies (if
applicable). Regardless of the face value of credit provided, the true cost to
the government is the net present value of amounts not reimbursed due either
to defaults or subsidized interest. Unlike other Federal spending, the
budgeting for credit assistance is based on estimated subsidy costs rather than
actual cash flows. Estimated subsidy costs are included in the budget totals,
whereas actual cash flows are displayed as a means of financing outside the
budget. This budgetary treatment allows the costs of credit to be compared
directly with those of grants. For example, the disbursement of a $100 loan
has the same cash effect as the disbursement of a $100 grant, but if $90 of the
loan eventually will be repaid with interest, the true cost of the loan is only
$10, or 10 percent of the cost of the grant.
Estimating Program Costs
The costs of the proposed credit program are a function of the types and
volumes of credit provided and the associated default risks. (As loans will be
made at the U.S. Treasury rate, no interest subsidies are contemplated).
Table 4-1 illustrates the budgetary costs and credit amounts for the different
credit products. It shows that the annual provision of nearly $1.2 billion of
credit would cost $100 million in budgetary resources, given certain
assumptions. The column amounts in Table 4-1 are derived as follows:
29
Table 4-1
Transportation Infrastructure Credit Program
Estimated Budgetary Costs and Credit Amounts
(dollar amounts in millions)
A
B
C=A*B
D
E=C*D
F
G=E*F
H=C*F
I=(A*F)-H
J=H+I
Cost of
Federal
Amount of
Average
Average
Number of
Budget Authority
Face Value
Non-Federal
Total Capital
Proposed
Typical
Participation
Credit per
Subsidy Rate
Subsidy Cost
Projects
(Subsidy Cost)
of Credit
Investment
Investment
Product
Project
Ratio
Project
per Project
per project
per Year
per Year
per Year
per Year
per Year
Flexible Payment
Loans
500
33%
165
8.75%
/2
14
5
72
825
1,675
2,500
Standby
Lines of Credit
500
33%
165
330
670
1,000
NPV of 10-year LOC available after construction: *
110
8.75%
/2
10
2
19
1,000
/4
Development
Cost Insurance
5
/1
40%
2
50.00%
/3
1
8
8
16
24
40
Annual Totals
15
100
1,171
2,369
3,540
6-Year Reauthorization Totals
90
597
7,026
14,214
21,240
Leverage Factors:
Ratio of total Project cost to Face Value of Federal Credit
3 :1
Ratio of total Project cost to Subsidy Cost of Federal Credit
36 :1
/1 Pre-construction development costs relate to environmental permitting, preliminary engineering, feasibility studies, etc. incurred once a State has selected a preferred consortium to proceed with
detailed plans. We assume in this presentation that the Federal government guarantees 40% of the pre-construction costs, the State guarantees another 20%, and the private consortium bears the
remaining 40%. The actual construction costs likely would range from $100 - $500 million per project.
12 This represents the likely budget scoring charge--as estimated by Fitch Investors Service--on projects receiving junior lien Federal credit that have senior debt rated "BBB" to "BB" (3:1 weighted
average). Projects that have senior debt rated exclusively "BBB" would have a scoring cost of only 5%.
/3 For risk-scoring purposes, we assume that half of all projects in the pre-construction phase will not proceed to construction.
/4 Since Lines of Credit are standby credit products, the non-Federal investment per project actually equals the total cost of the project.
* Since Lines of Credit are standby credit products available only for a fixed period of time (10-year window) after project construction is complete, the subsidy costs are based on the net present value
of those potential draws rather than the nominal face value. The subsidy calculation for this proposed product includes the following assumptions: a $500 million loan or debt issuance with 30-year term,
6% tax-free interest rate, and $36 million per year level debt service; a $165 million Standby Line of Credit available from years 4-13 after a 3-year construction period with annual draws not to exceed
20% of the total amount of the credit line, or $33 million per year; maximum draws occur beginning in year 4 and lasting through year 8 until the $165 million credit line is exhausted. The scoring charge
assumes that the $165 million draw is repaid at the taxable Treasury rate (7%) by the end of the 30-year term.
30
Column A: Cost of Typical Project - For the two loan products (flexible
payment loans and standby lines of credit), major projects of national
significance are assumed to cost an average of $500 million. Although
recent projects authorized to receive credit assistance have been
significantly larger (both Orange County TCA toll roads cost well over $1
billion and the Alameda Corridor costs nearly $2 billion), we anticipate
such projects more commonly will be in the $100 to $500 million range.
Pre-construction costs of major projects eligible for development cost
insurance are assumed to average $5 million.
Column B: Federal Participation Ratio - As described in Chapter 2,
credit assistance through direct loans will be limited to no more than 33
percent of total project costs. This limitation will ensure market
discipline, leverage scarce Federal resources with significant private
capital, and minimize costs and risks to the Government. The proposed
Federal insurance ratio is 40 percent of pre-construction costs if an
eligible project fails to advance to construction. The State would cover the
remaining 20 percent of costs eligible for reimbursement. If it wished, the
State could assume all or part of the 40 percent developer share.
Column C: Amount of Credit per Project - The nominal or face value of
credit assistance provided to a project sponsor is the product of project
cost and participation ratio. Note that the up-front, net present value of a
standby line of credit is less than the face value because that type of credit
is available only in certain amounts over a period of time after
construction. In this example, a $165 million line of credit is drawn only
in years 4 through 8, and the discounted net present value of the credit is
$110 million, or 67 percent of the face value.
Column D: Average Subsidy Rate per Project - The subsidy rate
represents the portion of credit assistance estimated to be unrecovered
because of defaults. The 8.75 percent rate assigned to flexible payment
loans and standby lines of credit is a weighted average of the required
capital charges for projects in the BBB to BB rating categories. Federal
credit assistance is assumed to enable at least three-quarters of recipients
to attain the investment grade rating of BBB, which has a capital charge
or subsidy rate of 5 percent. The remaining one-quarter of recipients are
assumed to achieve at least the sub-investment grade rating of BB, which
has a capital charge or subsidy rate of 20 percent. The 50 percent
estimated subsidy rate for development cost insurance illustrates the
assumption that half of participating projects will not proceed to
construction and will require partial reimbursement of eligible pre-
construction costs.
Column E: Average Subsidy Cost per Project - The subsidy cost of a
project equals the product of the credit amount and the subsidy rate. It
measures the true cost to the Government of providing credit assistance
and is the basis for calculating budget totals. Note that the budgetary or
31
subsidy cost of a standby line of credit depends on the discounted net
present value of the credit amount. Because this type of credit will be
extended over time in the out years, providing up-front budget authority
based on the net present value will adequately fund the credit amount.
Column F: Number of Projects per Year - Table 4-1 assumes that, on
average, seven major projects of national significance could be eligible for
and funded with direct loans each year. It assumes that five of those
projects would require the initial capital assistance of flexible payment
loans. The pilot development cost insurance program would be funded at
$8 million per year, which at $5 million per project amounts to 8 projects.
Column G: Budget Authority (Subsidy Cost) per Year - The annual
budget authority required to fund the credit program--excluding the
funding needed to cover administrative costs--is the product of the subsidy
cost per project and the number of projects. Under the assumptions in
Table 4-1, this amount is $100 million. (It is estimated that Federal costs
associated with credit policy, oversight, origination, extension, and other
administrative activities will total between $500 thousand and $1 million
for a $100 million program.)
Column H: Face Value of Credit per Year - The annual face value of
credit assistance is the product of the amount of credit per project and the
number of projects per year. Under the assumptions in Table 4-1, the
credit program would extend nearly $1.2 billion of nominal assistance
each year at a budgetary cost of $100 million. Comparing the totals for
Column G (subsidy cost) and Column H (face value of credit), the Federal
credit program results in an 8 percent budgetary impact compared with an
equivalent amount of grant assistance.
Column I: Non-Federal Investment per Year - Assuming that recipients
receive the maximum level of assistance possible (33 percent for loans
and 40 percent for insurance), Table 4-1 shows that the $1.2 billion of
Federal credit would be leveraged with nearly $2.4 billion of private and
other non-Federal capital.
Column J: Total Capital Investment per Year - The total amount of
capital invested each year represents total project costs and is the sum of
Federal credit and non-Federal capital. Note that for standby lines of
credit, total project capital equals non-Federal investment, since the line is
only a contingent or secondary source of funding. Table 4-1 shows that
annual capital investment of more than $3.5 billion is generated by $1.2
billion of credit assistance at a budget cost of $100 million. Those
amounts lead to leveraging ratios of 3:1 for total project costs to face
value of credit assistance and 36:1 for total project costs to subsidy cost
of credit assistance.
32
Providing Budget
Before Federal credit of any type can be extended, budget authority to fund
Authority
the subsidy costs of that credit must be provided. There are several ways to
provide budget authority, but those funding options are independent of
program proposals. In other words, regardless of program details, funding of
the credit program requires budget authority that is sufficient to cover the
subsidy costs of the direct loans and cost insurance provided.
The analysis in Table 4-1 suggests that annual budget authority of $100
million (including administrative costs of less than $1 million) would support
Federal credit assistance of $1.2 billion annually for major projects of
national significance. Over a 6-year period, an aggregate funding level of
$600 million could support over $7 billion of credit for some 42 projects
receiving flexible payment loans or standby lines of credit and another 48
projects participating in the development cost insurance program under the
assumptions in Table 4-1.
As discussed in Chapter 3, contract authority funded from the HTF is the
ideal way to finance credit assistance for transportation infrastructure. It
would provide a stable source of budget authority, known in advance, that
would facilitate the planning, development, evaluation, and selection of
candidate projects. Such contract authority would also allow the timely
disbursement of credit assistance that is critical to the successful financing of
these large, complex public-private ventures. Using the HTF to pay for
transportation investments would also be consistent with the intended purpose
of Federal user fees dedicated to that fund.
Two other options for providing budget authority are making annual
appropriations and accessing unobligated balances.
1. Making Annual Appropriations
A straightforward approach to funding the credit program would be to
appropriate budget authority annually to cover the subsidy costs of credit
assistance. Congress would be able to establish funding levels each year--
within authorized limits--according to its spending priorities. As discussed in
Chapter 3, such budget authority would need to be "no-year" funding
(i.e., made available until expended) to accommodate the financing timelines
of large transportation infrastructure projects. Key aspects of this funding
mechanism are as follows:
Budget Authority: Legislation would authorize annual appropriations of
up to $100 million to fund the subsidy (and administrative) costs
associated with providing credit assistance. Appropriated budget
authority would need to be available until expended.
Funding Source: The credit program could be funded from either the
General Fund or the Highway Trust Fund (HTF). If funded from the
33
HTF, sufficient resources (tax revenues and interest income) would need
to be provided under the reauthorization act to liquidate subsidy cost
obligations.
Spending Category: Appropriated credit program spending would be
subject to budget authority and outlay discretionary caps and would
compete with most existing transportation programs for limited resources.
Spending for the credit program would be outside the Federal-aid
program, but congressional control over annual appropriations would
have the same effect as annual limitations on obligations of contract
authority.
Deficit Impact: Additional outlays resulting from the new budget
authority would increase the deficit, assuming no offsetting reductions
occurred in other programs. However, credit assistance has a fractional
budget impact (8 percent in the Table 4-1 illustration) compared with an
equivalent amount of grant assistance.
Cost Allocation: The budgetary or subsidy cost of a selected project
would be charged to the Federal appropriation.
2. Accessing Unobligated Balances
Over the course of the ISTEA authorization period (FY 1992-1997), States
have received apportionments of Federal-aid highway funds totaling about
$102 billion. However, as a result of annual spending controls, it is estimated
that the States will be able to obligate only about $92 billion of that amount--
leaving an unobligated apportionments balance of about $10 billion. The
States have grown increasingly frustrated with their inability to spend down or
access that balance because of annual spending controls. It is possible to
structure the credit program funding mechanism to enable States to use their
unobligated ISTEA apportionments to pay for the cost of credit assistance.
Key aspects of this alternative funding mechanism include:
Budget Authority: Legislation would authorize the obligation of ISTEA
apportionments of Federal-aid highway funds (current unobligated
balances) for the subsidy costs of credit assistance. Use of this existing
contract authority would be limited to $100 million per year.
Funding Source: As with other contract authority programs, the credit
program would be funded from the HTF. Sufficient resources (tax
revenues and interest income through FY 1999) were provided under
ISTEA to liquidate the existing contract authority that would be obligated
for the subsidy costs of Federal credit assistance.
Spending Category: Under this approach, if no annual obligation
limitations were imposed, Federal credit program outlays would be
considered mandatory spending subject to pay-as-you-go (deficit-neutral)
34
budget rules. This would be similar to the current treatment of Minimum
Allocation, Emergency Relief, and demonstration project spending. On
the other hand, if annual obligation limitations were imposed, such
spending would be subject to discretionary caps and would compete
directly with most other transportation programs for limited resources. In
either case, spending for the credit program would be outside the Federal-
aid program and not subject to the Federal-aid obligation limitation.
Deficit Impact: Additional outlays would occur under this mechanism,
even though existing budget authority would be used. Any funding
mechanism that provides for additional spending that is not offset by
reductions elsewhere will have a deficit impact, regardless of the source of
budget authority. It is worth noting again, however, that credit assistance
has a fractional budget impact (8 percent in Table 4-1) compared with an
equivalent amount of grant assistance.
Cost Allocation: The budgetary or subsidy cost of a selected project
would be charged to the appropriate State's unobligated balance of
ISTEA apportionments. New apportionments of Federal-aid funds and
allocations of Federal-aid obligation authority would not be affected.
Because this funding alternative leverages existing budget authority with
significant private capital, it may be viewed favorably by the States as
allowing additional spending that otherwise would not occur. In allocating
limited resources among competing needs, the Federal Government can justify
additional spending on transportation infrastructure only if it generates greater
returns. Extending Federal credit that enables private capital to make
strategic transportation investments is a much more effective use of limited
resources than simply providing additional grants. In addition, tapping into
existing resources already apportioned to the States is a logical way to address
their concerns about ever being able to use those funds.
Because of ongoing efforts to rein in Federal spending and reduce budget
deficits, it is unlikely that annual spending limitations will be removed and
States allowed to spend down their unobligated balances for regular grant
reimbursements. Although some States harbor hopes that transportation
spending will not be subject to certain budgetary constraints in the future
(perhaps by taking the HTF off-budget), those prospects are uncertain. This
proposal responds to States' long-standing concerns about growing
unobligated balances and operates within the existing budget framework to
address critical investment needs--all at a relatively modest cost to the Federal
Government.
Furthermore, charging States' unobligated balances for Federal credit costs is
equitable because States that benefit most directly from Federal credit
assistance will pay for those benefits with their own apportionments. States
would submit applications for major infrastructure projects and signal their
willingness to pay for the associated credit costs through reductions in their
35
existing fund balances. Allowing the use of unobligated balances to pay for
credit assistance will encourage States to seek out new resources in financing
revenue-generating facilities. But it will not penalize States that choose not to
participate; new Federal-aid apportionments and allocations of obligation
authority will not be reduced.
36
CONCLUSION
DOT recommends establishing a Federal credit program for major
surface transportation projects to achieve several important goals.
Projects of national significance require special assistance.
Major transportation infrastructure facilities that address critical
national needs--such as multi-State trade corridors, intermodal
facilities, and international border crossings--represent large capital
investments. In many cases, the scale and complexity of the projects
exceed the financial resources of existing Government programs.
Because these facilities generate substantial economic benefits in
terms of accessibility and mobility of goods and people, they are able
to support user charges and other project-related revenue streams.
Government project sponsors can use these new revenue streams to
back a substantial portion of the capital costs with private capital,
thus freeing up public resources for smaller, non-revenue-generating
projects. To gain market access, however, these major projects
frequently require supplemental or secondary sources of capital.
The Federal credit program is designed to assist these projects in
accessing private capital through Federal participation as a co-
investor.
The role of the Federal Government in the Transportation
Infrastructure Credit Program would be to help overcome market
imperfections relating to investment time horizons, liquidity, and
flexibility by serving as a minority co-investor. The Federal credit
program has been designed to achieve the following key objectives:
(1) broaden the availability of assistance, (2) target projects of
national significance, (3) identify new revenue streams, (4) fill market
gaps, (5) leverage substantial private co-investment, (6) limit the
Federal exposure, and (7) enlist State and local participation.
A Federal credit program offers the opportunity to achieve
substantial leverage.
A central tenet of the proposed Federal credit program is to attain
leveraging ratios that are far superior to those for the existing
Federal-aid programs. Based on bond rating agency risk assessment
models, DOT believes that the Federal budgetary cost (as reflected in
the subsidy cost calculated for each loan or line of credit) will, on
average, be less than 10 percent of the total nominal amount of
Federal credit provided. With the Federal share limited to a third of
37
total project costs in most cases, this program would enable each
dollar of Federal budgetary resources to leverage capital investment
activity at a ratio of 36 to 1. This is vastly more efficient than
traditional 80 percent Federal grant programs, which have an implicit
leveraging ratio of 1.25 to 1.
The program would systematize the current ad-hoc provision of
credit assistance.
To date, Federal credit activities in the surface transport sector have
been characterized by the ad-hoc efforts of interested State and local
entities approaching the Administration and Congress for assistance.
In recent years, several large transportation projects have received
credit assistance through special legislation. Thus far, the Federal
Government has managed to respond to these initiatives, but the
success of these transactions has stimulated enormous interest among
other project sponsors. A central goal of this program, therefore, is to
establish uniform, objective, and transparent criteria for project
sponsors to submit applications to DOT for Federal credit, and to set
forth an orderly process for evaluating and implementing the projects.
The Federal credit program will exist only until the markets
develop sufficient expertise to overcome the obstacles that inhibit
private investment in large transportation projects.
The program is designed to overcome current market gaps by
familiarizing investors with the risk and financial profiles associated
with large startup transportation infrastructure projects. The Federal
loans would be offered at Treasury lending rates, which in many
cases will be higher than the rates available for investment-grade tax-
exempt obligations. Over time, as the projects' financial performance
allows them to obtain improved ratings, borrowers should graduate to
100 percent private credit by refinancing their Federal loans with tax-
exempt debt. Ultimately, the program could put itself out of business
by demonstrating to private investors the long-term financial
feasibility of this class of infrastructure investment.
38
APPENDIX A: RISK ASSESSMENT FACTORS
Assessing Risks
From the perspective of the capital markets, project risk takes on
different characteristics during three main phases of activity: (1)
project development and pre-construction, (2) construction, and (3)
operation. These activity phases are briefly described below, before
the rating agency approach and individual risk assessments are
addressed.
Development and Pre-Construction Risks
Inherent in the development and pre-construction period is a varied
group of risks with probabilities that are most difficult to estimate.
These risks can significantly alter the timeline for a project. Typical
pre-construction risks include acquiring the right-of-way; securing
State, local, and Federal permits (environmental and construction);
and obtaining significant support from the various stakeholder groups
or communities affected by the project. If stakeholder support is not
forthcoming, then the project is not likely to proceed, and costs
invested up to that point are usually not recoverable. Perhaps the
biggest unknowns during development are environmental approvals
(including law and regulation changes) and right-of-way acquisition.
These two factors can delay the scheduled start and completion of the
project and have the potential to cause significant cost overruns and
impede the project's ability to procure financing.
Construction Risks
The construction period brings different risks, including the question
of whether the project will be completed on schedule and at the
indicated cost. The risk of completion delays and other cost overruns
influences the financial structure of the project, because financing and
bond insurance is much more accessible after completion of
construction. The contractor's experience on similar projects and
ability to meet financial obligations is critical to their executing the
contract and delivering a project as guaranteed.
The contract format is an important factor in dealing with and
assigning risk, whether build-operate-transfer, or design-build, or
turnkey in nature. When construction risk is shouldered by the
contractor through a design-build or design-build-operate contract
structure, risks borne by the debtor are minimized and, thus, support
a better credit rating.
Various contractual arrangements among the parties involved have
been developed to deal with the substantial risks posed by the
A-1
construction phase. One way to mitigate construction risk is through
a fixed-price construction contract, including carefully drawn
provisions related to change orders and completion delays. In
addition, even with a fixed-price or not-to-exceed contract, the
availability of contingency funds to cover cost overruns, project
delays, or other risks, adds protection for the lenders and benefits the
overall credit rating of the project. A general rule of thumb is that
contingency funds should equal 5-10 percent of the construction
contract. Contingencies for the San Joaquin and the Foothill/Eastern
TCAs were sized to cover 2 years of capitalized interest.
Operational Risks
The ability of a project to service its debt depends on the
uninterrupted, cost-effective operation of the road, and therefore, the
revenue stream. The operational phase includes risks related to
traffic forecasts and actual operating costs. Provisions for routine
maintenance and major maintenance or overhaul of the facilities are
an important part of the operational phase. Credit analysts examine
who is responsible for operations, terms of operation and maintenance
contracts, and the experience of the operator with similar facilities.
Recent toll road projects that have been debt-financed have all gone
through some maturation or ramp-up phase in the first years of
operation. Traffic volumes and the resulting toll revenues have on
occasion been 30 percent below projected levels during this period.
The market responds to this risk profile by using a break-even
analysis coupled with a review of the underlying assumptions that
form the basis for the estimated cash flows. The break-even scenario
(typically run assuming adverse economic conditions), in conjunction
with an evaluation of the revenue forecast, will provide the market
justification for how the project ranks compared to similar facilities.
Existing Approach of the
Bond rating agencies become involved during a project's development
Rating Agencies
phase (as with the Alameda Corridor project in Los Angeles), or once
the project is fully developed and ready to go to market. By getting
involved early, rating agencies can better evaluate the project's
supporting data and agreements as they evolve. This involvement
provides an opportunity to review the project's credit strengths and
weaknesses and inform project sponsors about what steps or changes
would be beneficial to improve the credit quality of the project before
soliciting the rating on the debt issue. With a preliminary review,
rating agencies may be asked to provide a preliminary opinion on the
rating that the project might receive either as currently structured or
assuming the project incorporates the rating agency's advice on how
to strengthen the credit.
A-2
Before issuing a credit rating, rating agencies conduct a thorough
credit analysis of the proposed project and review all the project
documents which typically include:
Third party contractual agreements (for construction and
operation);
Local, State, and Federal permits (environmental, construction,
operations);
The project team's capabilities and experience on similar
projects;
Comparative analysis of similar projects;
The financing (and bond) documents (drafts as available for
preliminary assessment);
Other credit support agreements (e.g., letters of credit);
Proposed insurance (for construction and operations);
Traffic and revenue forecasts and reports;
Independent engineer's project feasibility assessment;
Regional economic trends and assumptions; and
State and county fiscal conditions and forecasts.
Rating agency analysis generally encompasses meetings with the
project sponsors, State and local officials, traffic engineers and
others, as appropriate, to develop their own assessment of the project
cash flows under various economic conditions and revenue/traffic
scenarios.
The results of the credit analysis on a specific project are then used as
a basis for comparison against other similar projects, trends, and
historical data to arrive at an appropriate rating for the project. Once
the rating agency has finished its credit analysis and assigned a rating,
it will prepare a written summary of the project and the analysis,
including the rating assigned to the debt issue.
Major Risk Factors for
The risk factors associated with the three phases of a project are
Transportation Projects
further described in this section to illustrate the consideration
underlying capital market evaluation. Figure A-1 shows how the
relevant risk factors change as the project progresses.
TABLE A-1
RISK FACTORS ASSOCIATED WITH PROJECT PHASES
Phase of Project
Risk Category
Development
Construction
Operation
Economic Feasibility
X
X
Political
X
X
X
Construction
X
Traffic
X
Management
X
A-3
Economic Feasibility
To assess creditworthiness (either in the development phase or when
the project is ready to go to financing), rating agencies look at a
project's long-term economic feasibility. Three criteria that drive the
economic feasibility of new startup toll road projects:
Demand projections for the facility;
Elasticity of demand; and
Projected debt service coverage.
Need: Demand and Competition
Toll road projects are typically financed with revenue bonds
supported by system users; thus, assessing demand for the new
facility is crucial to determining its economic feasibility. Demand is a
function of need (to provide access to new areas, offer congestion
relief, or induce desired development) as well as market willingness-
to-pay. This willingness, in turn, depends on competition from
alternate free routes and the relative increase in inconvenience to
using these routes. Need is both a function of demand and
competition from alternate routes. New roads are built to provide
access, alleviate congestion on existing roadways, or induce new
development.
Several factors are used to evaluate the level of customer acceptance
(i.e., strength of demand). In particular, analysts look at the:
Service area to analyze the local economic conditions, population
trends, and income levels;
Location/geography to determine who (and where) the potential
users are, and whether the facility serves as a vital transportation
link;
Road design to assess compatibility with existing roadway
systems; and
Usage to evaluate traffic volumes.
Service Area
Service area assessment involves developing a profile of the local
service area and local economic trends such as population, housing,
employment and unemployment levels, and economic production.
The size of the service area is not as important as the population
changes that have occurred over time. Population and activity growth
statistics support the need for the facility within the context of the
existing system and competing routes.
A-4
Income levels of the local population indicate an ability to pay tolls or
user fees. Motorists value the benefits of a new facility, such as time
savings, reduced congestion, improved quality of travel, and enhanced
safety. Income levels directly influence value perceived and ability to
pay tolls.
Economic diversity within the service area is a positive factor for the
project. A diverse economic base not only insulates the local service
area from business cycles but ensures that area activity is not
dependent on only one or two large employers.
Location/Geography
Road location will, to a large extent, dictate who will use the toll
facility and why. How essential the road is, in turn, determines the
strength of demand for the new facility. In assessing customer
acceptance or demand, analysts focus on whether the new road will
serve as a vital transportation link (i.e., no viable alternatives exist) or
is being built to relieve congestion on the existing system.
Where the proposed roadway will serve as a vital transportation link
with no competing alternatives, analysts find the level of use (and toll
revenues) relatively more predictable. Where new toll roads are
intended to relieve congestion along an existing corridor, the value of
the benefits provided by the new facility is a key determinant in the
willingness of motorists to pay user charges. These new facilities
generally compete with older facilities that do not have tolls, which
creates uncertainty about traffic revenues on roads built to relieve
congestion compared to vital transportation links.
When roads are built to spur development, it is important to look at
what changes will be necessary before traffic materializes.
Residential construction, in particular, advances in a highly cyclical
fashion. In addition, the capacity limits on the alternate routes as well
as other planned expansions (new construction or road widening) are
important factors in evaluating the new facility.
Road Design/Compatibility
The more integral the new road is to the existing transportation
system, the lower the risk that the new facility will not attract traffic.
Particular focus is given to interconnections with the existing system,
entrances, exits, and feeder routes. If connecting roadways are not
built, then demand for the new facility will be at risk and traffic
volumes may not materialize.
A-5
Usage
Roads are used for a number of purposes, such as commuting,
recreation, personal and company business, commercial uses, and
military and emergency purposes. The mix of uses will affect traffic
flow (i.e., peak periods versus seasonality) and the necessary design
capacity of the system. A good mix of purposes linked to continuous
use is generally an indicator of strong revenue generation.
Elasticity of Demand
Demand forecasts and revenue projections serve as the basis for
assessing the economic feasibility of the project, because startup toll
roads have no revenue history. If the proposed roadway is to relieve
congestion, an extensive forecast analysis must be conducted, as well
as a sensitivity analysis on revenue projections. Recent toll road
projects have deviated from projected revenues in their early years,
one by as much as 30 percent; therefore, the validity of the traffic
model applied to predict usage is a key to assessing the economic
feasibility of a project.
All models use assumptions about motorist behavior and value of
time to project who will use the new facility. The assumptions about
traffic flows and their responsiveness to the level of tolls are critical
in projecting revenues.
Debt Service Coverage Projections
Projected debt service coverage is one of the key financial factors
used by rating agencies and investors to assess the ability of the
proposed project to pay debt service. Recent experience with toll
road financing, in particular, has shown the importance of including a
margin of error so that the coverage ratio is substantially greater than
1.¹
The general rule of thumb in capital markets is that minimum
coverage on senior debt should be at least 1.25 to 1.35 times the
annual debt service. In all likelihood, given recent experience with the
Dulles Greenway project, a coverage ratio of at least 1.5 annual debt
service will be required for development projects. To the extent that
minimum debt coverage ratios exceed this level, the project cash
flows will be stronger and, therefore, the ability of the project to
service its debt will be greater if there is any disruption in revenues or
reductions in available revenues. The rating agencies will assess what
minimum debt service coverage ratio is needed based on the
credibility of the project.
I Debt service coverage is defined as the ratio of net annual operating revenues (total revenues less operating
expenses) available divided by total annual debt service payments (principal and interest).
A-6
Key factors that are considered in evaluating a project's debt service
coverage include:
Startup (or ramp-up period);
Additional bond issuance;
Debt structure;
Leverage (level of debt);
Additional pledged revenue support, if any; and
Expenditure controls.
Startup (or Ramp-up) Period
The most critical period for any project, and especially for toll roads,
is the initial acceptance phase of the new facility over the first few
years. All new toll roads, even those in heavily congested areas such
as Orange County, California, experience an initial ramp-up phase
prior to achieving projected traffic volumes. The risk is in gauging
the length of time before the project can achieve adequate traffic
volumes to make debt service payments. The debt service repayment
schedule can be structured to have lower payments in the early years;
if debt service payments increase too rapidly, however, the project
may still be at risk. Thus, the rating agencies look at the detailed
assumptions to determine whether projected traffic volumes allow for
a startup period or rely on optimistic growth projections.
Additional Bond Issuance
Any plans to issue additional debt for improvements or expansion are
considered when determining the credit quality of the project. Bond
documents typically include a covenant otherwise known as the
additional bonds test, which stipulates the terms under which
additional bonds may be issued. For example, the San Joaquin TCA
project requires a debt service coverage ratio of 1.25 times the debt
service of any outstanding senior debt plus new senior debt and other
conditions. There is no specific limit as to what may be required
under the additional bonds test.
Debt Structure
Rating agencies analyze the debt structure very closely in assessing
credit worthiness. Senior debt security may be adversely affected if
restrictive rate covenants also exist for any junior lien toll revenue
debt issued. For example, if toll rates are increased to generate a
higher coverage ratio in response to a junior lien toll covenant, an
additional risk factor is created. Higher toll rates might, conversely,
produce a diminished return if demand for the road proves elastic.
Thus, rating agencies look at the issuer's ability to issue any junior
A-7
lien debt and associated rate covenants to determine the ultimate
credit quality of the project.
Level of Debt
The availability of additional funding sources to support the issuance
of toll revenue bonds can strengthen the overall creditworthiness of
the project. For example, availability of general obligation bonds can
reduce the amount of toll revenue debt and enhance debt service
coverage. The availability of other State or local funding support can
also enhance the debt service on the toll revenue bonds and improve
the overall credit rating on the bonds.
Additional Pledged Revenues
Additional revenue streams, such as development impact fees or
special assessments, can strengthen the security for the revenue bonds
and improve debt service coverage. To be counted as a credible
enhancement, the additional revenues must be stronger than the toll
revenues. Developer fees are often viewed as weaker than toll
revenues and may provide only limited credit enhancement. In
contrast, dedicated sales or motor fuel taxes are viewed as reliable
revenue streams that enhance credit quality. Other forms of State and
Federal support are also viewed very positively (e.g., the Federal line
of credit for the TCA projects).
Expenditure Controls
Rating analysts recognize that debt service coverage is affected by the
annual costs of operating and maintaining the proposed facilities.
Rating analysts review the cost assumptions and projections to ensure
the long-term viability of the project. Greater validity is assigned if
the cost projections have been prepared by a contractor who has
experience in operating similar facilities and a reputation for
estimating costs accurately. Assumption of maintenance
responsibility by the State, as is the case with the TCA projects,
significantly reduces this risk factor.
Political Risk
The political factors that can affect the ultimate success or failure of
a project are just as important as the financial risk associated with a
project. Two key political factors that are taken into consideration
are:
A-8
Who (what entities) controls when and where the road or facility
will be built; and
Who is responsible for and/or controls facility operations after
construction.
Rating agencies review the legislative and executive authorities
involved, the process for assigning responsibilities, and experience
with similar projects. Political agendas outside the realm of the
project can influence policy decisions and determine the fate of a
project. Several projects have been delayed by differing political
agendas. The E-470 beltway in Denver, for example, experienced
significant difficulties over its proposed alignment. Residents and
various public officials challenged the route and proposed an
alternative, forcing project delays and litigation.
Understanding who controls the operations is also important. Toll
roads may be operated by an independent authority (or toll-operating
agency) with complete autonomy, but when other government entities
have control over revenue decisions (e.g., veto power over rate
increases) the possibility that revenues may not be available to meet
debt service will be considered in assessing the credit quality.
Equally important is oversight over tollway operators to ensure that
investor interests are protected. The responsibility and authority
assigned to the operator under the terms of the financing documents
are important factors, especially with respect to toll rate increases.
The oversight role (who and how) is a critical component in balancing
the various interests of all the parties involved to ensure continued
public and financial support for the project and its long-term viability.
Another important factor is the security of facility revenues from
being diverted to support other initiatives. For example, toll revenues
from the New York State Triborough Bridge have long been used to
support other transportation initiatives, such as mass transit. Startup
toll roads must be protected from revenue diversions to ensure the
viability and creditworthiness of the project.
Finally, most projects require the support of the general public if they
are to be successful. The Conway Bypass project in South Carolina
is an example of the public's role in a project's success or failure.
Although the South Carolina DOT supported the project, there was
insufficient outreach to generate public support. The project's
finance plan relied on securing public approval of a dedicated sales
tax to support the revenue bonds. Ultimately, the sales tax
referendum was defeated, and South Carolina DOT was forced to
rethink the project.
A-9
Credit analysts try to assess public and political support for a project
to ensure that there is no major opposition that could forestall its
successful completion. In addition, project advocates should be well-
positioned to defuse any opposition that may develop during the
planning and construction of the project.
Information
The proposed Federal credit program will rely on existing market-
Requirements To
place assessment mechanisms to gauge the investment quality of debt-
Support an Investment
financed projects. Nationally recognized rating agencies typically
Grade Rating
require extensive information for their assessment of the credit quality
of a project. This information falls into four categories:
1. Contractual documents for the construction and operation of the
project (including all environmental and construction permits
needed);
2. Financing documents (e.g., trust indenture, bond purchase
agreement);
3. Regional and local economic trends and data pertinent to the
project, such as employment levels, economic diversity, income
levels, and assessment of the public support (general and
local/state levels); and
4. Independent reports and analyses that support the project
economics such as traffic and revenue reports and an independent
engineer's feasibility report.
The availability of all the information required enables the analysts to
conduct a thorough review and assign an appropriate credit rating.
To the extent that key information is not available, analysts may not
be able to assign a rating or may assign a conditional rating subject to
the project meeting certain thresholds. It is not unusual for the rating
agencies to undertake a preliminary review of a project and assign a
conditional rating at the request of the project sponsors. The
conditional rating is often requested to assist a project sponsor in
identifying what further steps must be taken or what revisions in the
various contractual elements are required to secure an investment-
grade rating (i.e., BBB or higher). As envisioned, the Federal credit
program would use the preliminary or conditional ratings to assess
project applications.
The rating analysts evaluate all the available information to
determine: (1) the reasonableness of assumptions made in the
forecasts of traffic and revenue, (2) the external political and
economic factors that could affect the outcome of the project, (3)
existing or planned competition for the roadway and its
interrelationship with regional economic conditions, (4) how the
bondholder's interests are protected under the covenants in the
financing documents, (5) the downside risks, and (6) the project's
break-even point for servicing debt.
A-10
Contractual Documents
The contractual documents outline the scope of the project and the
terms of the agreement between the project sponsor and contractor
(for construction and/or operations). The contracts outline all the
legal obligations of the contractor for the technical work; performance
guarantees and warranties; schedules, workmanship, and financial
commitments; default and non-performance provisions, including cure
period; remedies and liquidated damage payments; insurance
coverage; and bonding capabilities and requirements. Included in this
category are all the necessary permits to construct the project
(government approvals, environmental permits, and construction and
operating permits) or an anticipated schedule for obtaining them.
Financial statements showing the ability of the contractor to meet its
own financial commitments should be included. Supporting
information is required to show the experience and ability of the
contractor to build and operate the project as guaranteed.
Information outlining who will control the facility and who is
responsible for operations and maintenance is also needed to ensure
that revenues generated by the facility will be dedicated to support the
required debt service payments and will not be diverted to support
other transportation initiatives.
Financing Documents
The financing documents include all the documents drafted by bond
counsel governing the issuance of revenue bonds (tax exempt or
taxable) to finance the project, including the trust indenture, bond
purchase agreement, letters of credit (if applicable), bond insurance,
resolutions of issuing authority. Depending on the financing
structure, evidence of any third-party capital investments (such as
equity) or contractor deferred-payment agreements would also be
reviewed.
Regional and Local Economic Data
Understanding the regional and local economy is a key component
underlying customer acceptance and demand for the proposed facility.
Population and housing trends, employment and unemployment
levels, economic diversity, and income levels of the local population
are all indicators of the willingness and ability of motorists to pay for
toll road use. If the need for a project is based on future growth
assumptions (that is, traffic and revenue projections assume
significant growth rate in local population, commercial activity, or
other demand factors), then the revenue base is not considered as
secure as would be the case for congestion relief.
A-11
Equally important to the project is government (Federal, State, and
local) and public support for the project. Any documentation
available that demonstrates strong support for the project, or at least
indicates that there is no significant opposition, strengthens the
market's perception of the project's success. Many projects do not
succeed (or are not as successful as projected) directly because of
opposition from the public groups or government.
Independent Reports
Generally, an independent engineer is retained by the project sponsor
or on behalf of the financing institutions to review the feasibility of
the proposed project from both technical and financial perspectives.
The independent engineer will review all the preliminary design and
construction documents, permits, project capital costs, traffic and
revenue forecasts, and projected cash flows and assumptions. In
addition, the engineer will assess the technical and financial ability of
the contractor and the entire project team to undertake the project to
ensure completion.
All toll road (or revenue bond financed) projects require a traffic and
revenue forecast to support their cash flow projections. The traffic
and revenue forecast must be prepared by a reputable, experienced
firm to be considered valid. The traffic and revenue projections are
critical to the ability of the project to meet its debt service obligations.
Significant deviations from the projected demand levels or revenues
will directly affect the long-term viability of the project.
Checklist of Information
In structuring a Federal credit program to assist project sponsors and
Requirements for
projects, DOT envisions that at least a minimum investment-grade
Federal Credit Program
rating (Baa/BBB) should be required to protect the Government's
interests. To obtain a credit assessment from a bond rating agency,
project sponsors would already have been required to submit
extensive information. Project sponsors should submit similar
information to DOT, to be followed by their credit assessment, to be
considered for the proposed Federal assistance. The remainder of this
section lists the necessary information.
With Respect to Development and Construction Information:
Evidence of right-of-way acquisition (completed or schedule of
acquisitions) or power of eminent domain;
Status of environmental permits and/or government approvals
secured;
Information on any outstanding litigation in process (preferably
none);
Evidence of an experienced and successful contractor/project
team (on similar projects);
A-12
Construction contract details and status (preferably fixed price,
design-build-operate or design-build-transfer), including:
Liquidated damage provisions (to cover the daily carrying
cost) if the project is delayed beyond the scheduled
completion date through the fault of the contractor;
Performance and payment bonds equal to the cost of the
construction contract to ensure completion of the project
should the contractor default (which would enable use of a
replacement contractor);
Performance and workmanship guarantees for at least 1 year
from the date of commercial operation of the facility;
Remedies for performance failures;
Contractor default provisions that outline what constitutes a
default (both technical and financial), what is the cure period,
and what are the remedies;
Force majeure events and how triggered. Force majeure
events include events that are beyond the control of the
contractor, such as earthquakes, epidemics, blockades, wars,
acts of sabotage, and archaeological site discoveries; and
Insurance provisions, such as builder's risk, business
interruption, worker's compensation, and general liability.
Feasible financial plan (including debt structure and terms) and
evidence of ability of contractor to secure financing (e.g.,
commitment letters from financial institutions), including;
Amount of capitalized interest to cover unforeseen delays
(particularly force majeure events); and
Adequate level of reserves and contingency funds.
Contractor's ability to meet its financial commitment (e.g. 3 years
of audited financial statements for all parties involved,
particularly the project guarantor);
Independent engineer's report assessing the feasibility and
financial viability of the project; and
Evidence of local and State support for the project (political will);
Evidence of popular support.
Required Operational Information:
Solid traffic and revenue analysis from experienced forecasting
consultant;
Adequate operation and maintenance budget for the facility
(experience of operator with similar facilities);
Reserve fund for major maintenance or rehabilitation;
Business interruption insurance and debt service reserve fund
(usually 1 year of debt service payments) to cover debt service
during interruption in operation;
Adequate insurance to cover costs to repair unexpected damage;
Reliability of electronic toll collection/revenue collection method
proposed (if applicable);
A-13
Identified unmitigated risks and possible solutions;
Sources, form, and terms of backup support (if any) to meet debt
service requirements if revenue shortfalls occur (including cost,
duration, and annual support available and repayment
conditions);
Identified party who controls facility and directs any mid-course
corrections;
Identified successor in event of financial default;
Detailed cash flow projections and underlying assumptions
(inflation, toll rate increases, startup costs, and debt service
schedule) for the term of the financing (e.g. 20 to 30 years).
Required Financing Documents:
Proposed sources and uses of funds;
Role of Federal credit support;
Bond purchase agreements;
Interest rate assumptions, terms, conditions for draw, repayment
schedules;
Provisions covering investment of reserves;
Rate covenants;
Default provisions, cure period, and remedies; and
Bond counsel preliminary opinion regarding tax status of debt.
Required Support Information:
Type of Federal credit assistance proposed, e.g., standby line of
credit, development cost insurance, or direct loans (development
and planning stage vs. startup operational phase);
Terms of support, including amounts available, draw schedule
and conditions, cost, duration, and repayment terms and
conditions;
Project eligibility for Federal assistance, per program criteria; and
Identification of Federal-aid funds (e.g., unobligated balances)
expected to be used to underwrite Federal credit support
requested.
A-14
APPENDIX B: FEDERAL TAX ISSUES RELATING
TO THE FEDERAL CREDIT PROGRAM
Background
DOT has proposed a program of Federal credit support for surface
transportation projects of national significance. The two major forms
of assistance-flexible payment loans and standby lines of credit--
would be used by project sponsors in conjunction with sources of
private debt or equity capital to finance infrastructure facilities.
Project sponsors will need to arrange external debt financing to fund
the majority of project costs. In many cases, the projects will be
eligible under the internal revenue code to issue tax-exempt debt.
Flexible Payment Loan. The flexible payment loan is a direct loan
from DOT to the project sponsor made on terms designed to facilitate
the project's external debt financing. A project could obtain a
flexible payment loan for up to one third of project costs. It will seek
to satisfy the balance of its funding needs by issuing debt at the
lowest rates available through the tax-exempt market. Under the
Internal Revenue Code, there is no legal issue that calls into question
the tax status of the tax-exempt debt simply because a portion of
project costs had been funded with a direct Federal loan. It is not
uncommon for State and local project sponsors to finance
environmental and transportation facilities with a combination of
Federal assistance (grants, loans, etc.) and proceeds of tax-exempt
debt.
Standby Line of Credit. The standby line of credit is a commitment
by DOT to make one or more direct loans to a project sponsor at a
later date if certain conditions occur (specifically, in the event net
revenues are insufficient for the project sponsor to pay debt service on
its senior bonds.) A project could obtain a line of credit in an amount
up to one third of project costs. The credit line represents a
secondary or contingent source of capital for projects that will obtain
their construction and permanent financing from non-Federal sources.
In those instances where the project debt is tax-exempt, there is a
provision in the Internal Revenue Code relating to Federal guarantees
that could affect the use of the standby line of credit. This appendix
discusses that Federal tax issue and the legislative proposal to address
it.
B-1
Federal Guarantees
Section 149 of the Tax Reform Act of 1986 provides that any
under the Tax Code
obligation that benefits from a direct or indirect Federal guarantee (in
whole or in part) is deemed taxable; the interest payments to investors
would no longer be exempt from Federal income taxation. The
relevant language in section 149(b) reads:
"Section 103(a) [relating to tax-exemption] shall not apply
to any State or local bond if such bond is Federally
guaranteed. For purposes of [this paragraph] a bond is
Federally guaranteed if the payment of principal or
interest with respect to such bond is guaranteed in whole or in
part by the United States (or any agency or instrumentality
thereof) or the payment of principal and interest is
otherwise indirectly guaranteed (in whole or in part) by the
United States (or an agency or instrumentality thereof) "
The purpose of this measure is to prohibit the issuance of obligations
that would be both Federally-guaranteed and tax-exempt. Congress
was concerned that combining tax-exemption and a Federal guarantee
would provide a double subsidy, and result in a AAA tax-free debt
instrument more attractive to investors than U.S. Treasury securities.
The tax code provision was designed to curtail a practice under which
tax-exempt bond proceeds were deposited with Federally-insured
lending institutions, for re-lending out to housing and other
borrowers. Channeling the tax-exempt debt proceeds through a bank
or savings and loan allowed the bondholders to benefit from Federal
deposit insurance, resulting in the obligations being rated AAA.
The language in section 149 is so absolute (any direct or indirect
guarantee in whole or in part) that the standby lines of credit could be
viewed as indirect Federal guarantees under current tax law.
Consequently bond counsel cannot render unqualified opinions as to
the tax status of bonds secured by a line of credit.
Contrast between
DOT's standby line of credit proposal represents a limited form of
Standby Line of Credit
Federal credit support of debt service on transportation project
and Federal Loan
financings. This partial credit enhancement differs from the types of
Guarantees
guarantees that Congress is concerned about in a number of important
respects:
Term. Under the Federal credit program, the line of credit would
be available to be drawn upon during only a limited time period
(the first 10 years of project operations.) Most projects would be
financed with long-term bonds having a 25 to 35 year repayment
term, so the line would be applicable only for the initial period the
bonds were outstanding. In contrast, most Federal loan
guarantees are coterminous with the term of the borrowing.
B-2
Extent. Under the Federal credit program, the total amount of the
line may not exceed 33 percent of total project costs, and draws
could cover only a portion of annual debt service costs during
that period. In contrast, most Federal guarantees cover 80
percent or more of debt service, and frequently allow the
borrower to split off the guaranteed portion into a 100 percent
Federally-guaranteed obligation.
Beneficiary. Under the Federal credit program, the line of credit
runs to the Borrower (the project sponsor), leaving investors with
the risk of borrower bankruptcy or insolvency. In contrast, most
Federal loan guarantees run directly to the Lender, providing a
bankrupt-proof guaranty.
Rating. The line of credit is designed to enable a marginally sub-
investment grade project to attain a BBB (minimum investment
grade) rating. Even with the standby line, investors would
continue to bear the majority of credit risk with respect to the
project. In contrast, lenders under Federally-guaranteed loans
anticipate their portion to be AAA caliber securities.
Recoveries. The line of credit is structured with specific
repayment provisions for any draws made in future years. The
interest rate, repayment period, and security backing any draws
are pre-defined. It does not represent an event of default under
the project bonds for the line of credit to be drawn upon. In
contrast, Federal loan guarantees are invoked in the event of a
payment default on the borrower's loan obligation. The only
source of recoveries upon acceleration of the outstanding loan
balance is the liquidation of the loan's collateral.
In essence, the line is a limited and temporary source of contingent
loans from the Federal Government. It represent an indirect and
partial form of credit enhancement to help support debt service
requirements in the early years of a project financing. Under Federal
loan guarantees, the Federal role is much larger, and the Lender looks
to the Federal backing as the principal source of security.
Existing Standby Lines
Over the last several years, the Transportation Corridor Agencies
of Credit
(TCA) in Orange County, California, have issued two series of tax-
exempt bonds which were secured by Federal standby lines of credit.
In 1993, TCA issued $1.1 billion of bonds to finance the San Joaquin
Hills (SJH) toll road. Congress in 1993 had passed special legislation
providing the SJH project a $120 million standby line of credit which
could be drawn on over the ten year period following construction;
however, because of the Federal guarantee tax concern, TCA in its
bond offering documents had to inform investors that it would not use
the line of credit unless it was able to obtain an unqualified opinion of
B-3
bond counsel that the tax status of the bonds would remain
unaffected. Accordingly, the standby line had only limited value at
the time of the issuance of the bonds, since its availability was
uncertain.
In fiscal year 1996, Congress amended the SJH legislation to provide
that the line could be used for other purposes in addition to debt
service (such as operations and maintenance shortfalls or
extraordinary repairs). Broadening the permitted uses enabled bond
counsel to opine that the line could be drawn upon for debt service
without adversely affecting the bonds.
TCA's Foothills-Eastern toll road project benefited from special
legislation enacted by Congress in fiscal year 1995 that provided a
separate $120 million, ten year standby line of credit in connection
with $1.5 billion of tax-exempt debt financing. Based on the initial
tax difficulties with the SJH project, this bill provided from the outset
that the line could be used for other purposes. The broadened
language avoided the Federal guarantee issue, but also diluted
somewhat the financial benefit of the standby line to the project.
Tax Code Proposal
It would provide greater assistance to project sponsors (i.e., help
secure an investment-grade rating) if the line of credit could be used
exclusively for debt service on tax-exempt obligations. If the standby
line is limited to debt service support, it may be possible to induce
major bond insurance companies to back the issues. An insured issue
rated AAA would dramatically lower the project's borrowing cost. It
could also significantly reduce the amount of debt by lowering
amounts needed to be issued to fund capitalized interest.
The proposed tax code change would modify section 149 of the
Internal Revenue Code to provide that a standby line of credit
pursuant to DOT's Federal credit program would not be deemed a
Federal guarantee for tax purposes. The tax code must be amended
directly in order to effectuate this change. It is not sufficient to place
a provision in the transportation reauthorization bill dealing with
Federal credit.
Other Precedents
Congress recognizes that important public policy goals merit a waiver
from the blanket prohibition contained in section 149. It has provided
specific carve-outs for bonds that fund mortgage loans guaranteed by
government-sponsored enterprises and Federal agencies such as the
Federal Housing Administration, Veterans Administration, Federal
National Mortgage Administration, Federal Home Loan Mortgage
Corporation and Government National Mortgage Association. It has
also exempted bonds funding student loans guaranteed by the Student
Loan Marketing Association, certain bond-funded small business and
multi-family loans, and guarantees of electric power bonds by the
Bonneville Power Authority.
B-4
The proposed change simply would add to the enumerated list of
exceptions lines of credit provided by DOT pursuant to the
Transportation Infrastructure Credit Act of 1997.
Revenue Impact to the
The Treasury performs a fiscal impact analysis of all proposed tax
Federal Government
code changes, to determine their effect on the Federal deficit. Tax-
exempt bonds have a tax expenditure associated with them, since the
Treasury foregoes the receipt of income taxes on the interest received
by bondholders.
Allowing projects to use Federal standby lines of credit should make
it easier to finance large start-up transportation investments like toll
roads, transit facilities, etc. Under current tax law, most of these
facilities are financed with governmental purpose tax-free bonds in
any case, so there should not be a large induced volume of new tax-
exempt debt issued.
However, by facilitating the financing of such projects, the measure
may expedite the issuance date of tax-exempt bonds, which would
result in earlier tax expenditures to the U.S. Treasury. On the other
hand, a bond issue benefiting from a Federal line of credit would not
need to capitalize interest for as long a period as otherwise would be
the case, and may be able to reduce bond-funded reserves. Reduced
capitalized interest and reserve requirements would result in smaller
tax-exempt debt issues than is presently the case, resulting in
additional revenues to Treasury.
On balance, the proposal is likely to be largely revenue neutral to the
Treasury.
Legislative Text
Purpose: To amend the Internal Revenue Code of 1986 to clarify that
standby lines of credit provided by the Department of Transportation
pursuant to the Transportation Infrastructure Credit Act of 1997 will
not constitute Federal guarantees.
SECTION FEDERAL GUARANTEES. Section
149(b)(3) of the Internal Revenue Code of 1986 (relating to
certain exceptions to Federally guaranteed bonds not being
tax-exempt) is hereby amended by striking the word "or" at
the end of subsection (b)(3)(ii), and by striking the period at
the end of subsection (b)(3)(iii) and inserting
" , or (iv) lines of credit provided by the Department of
B-5
Transportation pursuant to title V of the (name of DOT
Reauthorization Bill)."
B-6
APPENDIX C*
ILLUSTRATIVE PROJECT CANDIDATES FOR FEDERAL CREDIT
(dollars in millions)
PROJECT
PROJECT DESCRIPTION
LOCATION
TOTAL
COST
Alameda Corridor
Consolidation and improvements for rail intermodal freight access to the Los
Los Angeles/Long
$2,050
Angeles and Long Beach ports. Related highway improvements and grade
Beach, CA
separation along this major 20-mile rail/highway freight corridor, serving the
country's largest concentration of intermodal container movements.
Miami Intermodal Center
Coordinated intermodal development and improvements to Miami's airport,
Miami, FL
$1,700
parking, highway, transit, commuter rail, and high speed rail facilities via
private concessions.
Woodrow Wilson Bridge
Replacement of the deteriorating Interstate 495 drawbridge across the Potomac
Virginia-Maryland
$1,700
River with an expanded capacity toll bridge facility consisting of twin six-lane
drawbridges spanning 70 feet above the Potomac
Midtown-Kennedy Airport Rail
Long-awaited rail/subway extension to JFK Airport from midtown Manhattan,
New York, NY
$800
Link
using design-build-operate-maintain concession approach.
Port of Seattle Intermodal
Development of expanded intermodal facility and access improvements serving
Seattle, WA
$300
Facility
the Port of Seattle using a container terminal concession
Farley/Penn Station Project
Relocation and improvement of Amtrak rail passenger terminal from Penn
New York, NY
$315
Station to a renovated NYC post office building.
Freight Rail
Modernization and expansion of existing rail lines and creation of third freight
Rhode Island
$246.8
Improvement/Access Road
dedicated line within a 22-mile section of the Northeast Corridor and proposed
Project
4.5-mile access highway to aid the Quonset Point-Davisville Industrial
Intermodal Center.
Route 168 Toll Road
Proposed nonprofit development of Battlefield Boulevard toll road that would
Chesapeake, VA
$110
connect Chesapeake, VA, with the North Carolina Outer Banks beaches,
alleviating the significant seasonal traffic congestion in the corridor.
TOTAL PROJECTS
$7,031.8
*Appendix C is a list of surface transportation projects whose scale, financial structure, accessibility benefits, and economic importance are
indicative of the types of projects the Federal credit program is designed to serve. With the exception of the Alameda Corridor project, which
recently received a $400 million Federal loan through special legislation, DOT has not performed any credit analysis of the candidates or undertaken
any specific research to determine the forms of Federal credit that would be most appropriate for individual projects. The list, which has been
obtained through industry sources and publications, is for illustrative purposes only.
C-1
Illustrative Project Candidates for Federal Credit (continued)
PROJECT
PROJECT DESCRIPTION
LOCATION
TOTAL
COST
Tacoma Narrows Bridge
Implementation of the approved public-private initiative to make staged improvements to the
Seattle-
$800
congested, 50-year old Tacoma Narrows Bridge, ultimately reconstructing to a double deck
Tacoma, WA
toll bridge.
Foothills-South Transportation
Implementation of planned Foothill/South extension of TCA's network of congestion reliever
Orange
$1,500
Corridor Agency
toll roads.
County, CA
SR 125 Toll Road
Enhancements for construction of planned 10-mile toll road east of San Diego, providing
San Diego, CA
$400
improved access to Mexico. Already under concession agreement via California's AB 680
public-private concession program.
SR 91 Extension
Assist with financing of 10-mile extension of existing SR-91 High Occupancy/Toll "HOT"
Orange
$125
Concession in highly congested Orange County.
County, CA
I-895 Connector
Enhancements for planned private design-build-operate-maintain concession for an eight-
Richmond, VA
$250
mile toll road bridge/connector to I-895 in the vicinity of Richmond, VA.
Route 1 Toll Road
Enhancements to implement planned toll road concession for extension of limited access
Delaware
$240
bypass routing for Delaware Route 1.
Southern Connector
17-mile four-lane toll road extending from I-385 south of Mauldin to intersection of I-185
South Carolina
$140
and I-85, south of Greenville, SC.
Hudson-Bergen Light Rail
Planned 10-mile light rail line between Hudson and Bergen Counties, NJ; expected to be the
New Jersey
$1,000
first design-build-operate-maintain transit project in the United States.
Conway Bypass
Credit enhancement for planned Route 501 Conway Bypass already under concession
Conway, SC
$200
agreement, to be financed in part by Horry County hospitality sales tax
Mon/Fayette Projects
Series of four transportation projects to improve and upgrade the north-south route between I-
West Virginia-
$1,800
68 near Morgantown and Pittsburgh. Funding sources for the projects include special Federal
Pennsylvania
funds, oil franchise taxes, bonds, and tolls
Hampton Roads Bridge-Tunnel
New toll bridge-tunnel connecting peninsula cities of Newport News and Hampton with
Virginia
$2,000
Portsmouth, Norfolk, and Virginia Beach to address growing congestion along the existing I-
64 Hampton Roads bridge-tunnel
TOTAL PROJECTS
$8,455
C-2
Illustrative Project Candidates for Federal Credit (continued)
PROJECT
PROJECT DESCRIPTION
LOCATION
TOTAL
COST
Florida Overland Express
A high speed rail passenger concession connecting Miami,
Miami-Orlando-Tampa FL
$ 5,300
Orlando, and Tampa, as part of Florida's private transportation
program.
Phoenix Metropolitan Roadway System
Proposed construction of several portions of the planned Phoenix
Phoenix, AZ
$2,000
roadway system emphasizing high occupancy/toll (HOT) lanes.
Minnesota Highway 212
Extension of Highway 212 from Eden Prairie to Cologne,
Minnesota
$195
Minnesota (MN) to relieve congestion in the Twin City area,
proposed under the MN toll facilities program
E470 Public Highway Phase IV
Phase IV of E-470 is the final link in a 30-mile circumferential toll
Denver, CO
$230
beltway under construction around the eastern half of metropolitan
Denver, connecting the new airport to I-25, a key north-south
Interstate.
Seminole Expressway II
The final six miles of a 56-mile eastern beltway (toll road) around
Orlando, FL
$206
Orlando, known as the Central Florida Greenway. The proposed
segment begins at US 17/92 and ends at I-4 in northern Seminole
County.
SH 99/The Grand Parkway
A newly-constructed outer loop around the city of Houston. SH 99
Houston, TX
$400
is being constructed in nine segments.
South Access Road
Construction of an access road connecting the existing North
Detroit Metro Wayne County
$143
Terminal and a newly constructed South Terminal at the Detroit
Airport. Romulus, MI
Metro Wayne County Airport. The South Access Road will
include tunnels under runways and taxiways. Anticipated revenues
include tolls and parking facility charges.
Texas SH 121
A 32-mile toll road extension of SH 121 from IH 35 to US 67.
Dallas/Fort Worth, TX
$330
Gowanus Tunnel
Reconstruction of the Gowanus Expressway to incorporate a 4-mile
Brooklyn, NY
$2,500
tunnel tollway
TOTAL PROJECTS
$11,304
C-3
Illustrative Project Candidates for Federal Credit (continued)
PROJECT
PROJECT DESCRIPTION
LOCATION
TOTAL
COST
North Duwamish Intermodal Facility
This intermodal project improves accessibility to a number of
Seattle, WA
$1,000
major regional and national/international transportation facilities
including King Street Station (existing Amtrak service and the site
of a proposed multi-modal center), the Washington State Ferry
Terminal, the Victoria Ferry, various rail yards, the Port of Seattle,
and the mainline tracks of both the Burlington Northern, Sant Fe,
and Union Pacific Railroads.
Meadowlands Rail Transfer Station
A public-private partnership to build and operate a rail and transfer
East Rutherford, NJ
$374
station at the Meadowlands Sports Complex, linking 4 NJ
commuter lines to Amtrak's Northeast Corridor. This project is
the final link to the NJ Urban Core project and will complete the
project's integration of all commuter rail lines in NJ.
Rickenbacker Parkway
Design, right-of-way acquisition and construction of a 4-lane
Columbus, OH
$150
parkway linking the Rickenbacker Airport cargo facilities and
adjacent warehouse/distribution development with I-71 to the west,
and US 33 to the east. The parkway provides essential access from
the airport to the area's major through-routes and provides
economic development opportunities to support the airport and
accommodate growth associated with the inland port concept.
Broadway Extension
Connects Oklahoma City with Edmond. Project will add 2 lanes to
Oklahoma City, OK
$196
the existing 4-lane facility. It will also involve a redesigned
interchange with I-44. In addition, a 2-lane bridge will be built to
carry Santa Fe Avenue across I-44. Revenues will primarily
consist of lease payments.
TOTAL PROJECTS
$1,720
C-4
Proposed Meeting Agenda
SUMMARY OF KEY POLICY ISSUES ON THE
TRANSPORTATION INFRASTRUCTURE CREDIT PROGRAM
February 26, 1997
A. PURPOSE OF THE FEDERAL CREDIT PROGRAM
Key Issue: Develop a Program for assisting large projects of National Significance to
address demand from Project Sponsors
1. Promote Changes in Consumer Behavior (Tolling, Congestion Pricing)
2. Induce Majority Private Funding with Minority Federal Investment by filling
Market Gaps (Liquidity, Flexibility, Time Horizon)
3. Provide Meaningful "Ground Rules" for an Equitable, Prudent and Effective
Program (in lieu of current de facto program)
B. FLEXIBLE PAYMENT LOANS
Key Issue: Balance the Federal Requirement for Minimizing Risk with the Financing
Needs of Project Sponsors
1. Parity Claim on Assets in Event of Default
2. Parity Claim on Project Revenues from Years 10-30
3. Parity Claim on Project Revenues with Deferral from years 1-10
4. Loan secured by Rate Covenants and other Features unique to Infrastructure
Project Financings
C. CAPITAL RESERVE ACCOUNT
Key Issue: Ensure that Federal Credit does not create a larger Implied Liability on
Project Debt
1. Use of Reserve Fund rather than Line of Credit interposes an entity between
the Federal Government and the Investors
2. No evidence that Investors/Rating Agencies Perceive an implied Federal
Obligation beyond the Explicit Limits of the Federal Participation (TCA, SRF
Reserve Funds, WMATA, etc.)
3. Projects that have the ability to repay the Federal Contribution from Project
Revenues should do so
4. Projects are too big to fund the Reserve Account with Outright Grants from a
Budgetary viewpoint
Initial Comments on the Proposed
Transportation Infrastructure Credit Act of 1997
Projects to be assisted - free or tolled highways, bridges
and tunnels, mass transportation facilities and vehicles,
commuter and inter-city rail passenger facilities and
vehicles (including Amtrak), intermodal passenger terminals
and intermodal freight and port facilities.
General Comments. There is no requirement that Federal
assistance be limited to borrowers who are unable to obtain
credit elsewhere on reasonable terms and conditions and be
provided only if reasonable assurance of repayment has been
determined. Also, the interest rate formulas should be
amended to conform to standard Treasury language, including
provision for fees to cover administrative costs nd probable
losses. These and other A-129 standards should be met.
Flexible Payment Loans
The terms of the proposed direct loans could allow project
sponsors to apply net project revenues to other obligations
prior to paying principal or interest on the Federal loan,
which would result in a subordination of the Federal
interest and would be inconsistent with Government financial
policy and OMB-Circular No. A-129.
If such senior obligations were to include tax-exempt debt,
the subordination would provide an effective Federal
guarantee of a substantial portion of the debt service of
the senior tax-exempt debt.
Even if the senior debt consisted of taxable obligations, we
oppose subordination because of the increased risk. [Note:
The bill does prohibit the subordination of the Federal
claim on project assets in the event of default.]
Standby Lines of Credit
The Secretary of Transportation would be authorized to enter
into agreements to make direct loans at future dates (i.e.,
lines of credit), the proceeds of which would be used to pay
debt service on tax-exempt or taxable project obligations.
Draws upon the line of credit could be made
1) if revenues were insufficient to pay debt service
2) within ten years from the date of project completion
3) for up to 33 percent of eligible project costs
4) if a Flexible Payment Loan were not also received by
the project
A contractual right to borrow from the Federal Government in
order to pay debt service on a project's other obligations
would effectively guarantee such obligations, which could
include tax-exempt debt. (An amendment to sec. 149 (b) of the
IRS Code of 1986 is also proposed to provide an exemption
for obligations secured by this line of credit.)
Development Cost Insurance
The proposed insurance program should state that no Federal
payments may be pledged or used for the repayment of
principal or interest on tax-exempt debt.
This pilot program should have dollar limitations and a
sunset date established.
Funding
The bill should be amended to clarify that the Secretary of
Transportation's estimates of the subsidy costs of the
Federal credit programs is subject to review and revision by
OMB, in accordance with the Federal Credit Reform Act of
1990.
Use of the Highway Trust Fund to pay for the subsidy costs
of the proposed Federal credit programs should be subject to
appropriations control.
There should be annual appropriations control on all credit
extended under the proposed Act.
ATTACHMENT 1: CREDIT POLICY AND PROGRAM JUSTIFICATION
Federal policy for credit programs (as outlined in OMB Circular No. A-129) specifies that
credit assistance should be provided "only when it is necessary and the best means to
achieve clearly specified Federal objectives." When credit assistance is deemed necessary
for meeting Federal objectives, it should adhere to the policy guidelines set forth by OMB.
These guidelines are designed to protect the Government's interests and minimize costs to
the taxpayers.
This attachment examines several key OMB policies for credit programs, notes where
these policies may not be entirely consistent with those envisioned under the DOT
Transportation Infrastructure Credit Program, and explains why at least one guideline
should be waived in conjunction with the Federal credit assistance being proposed for
surface transportation projects.
Specific OMB Policies and DOT Analyses
OMB Policy: The Government's claims on assets should not be subordinated to the
claims of other lenders in the case of borrower default.
DOT Proposal: Comply with guideline relating to claims on assets, but allow
subordination of the Government's claims on revenues.
1. To the extent other lenders or debt investors have a claim on project assets in the
event of default, the Federal credit program would be secured on a parity level with
senior debt. This provision complies with current OMB policy.
2. Unlike other Federal credit programs, in which the Federal share is 80 percent or more
of the liability, DOT's program caps the Federal share at 33 percent. Flexible payment
loans and standby lines of credit under this program would facilitate projects' access to
additional capital, often from private sources. This key objective would be severely
impaired if DOT, as a minority investor, insisted on seniority in the flow of funds.
3. DOT's credit program differs from other credit programs in that the principal security
backing the credit is not asset-based collateral. Rather, it is the cash-flow-generating
potential of the project that secures the loan. According to an authoritative analysis of
credit risk performed by one of the major bond rating agencies, there is only an
extremely small (1 percent) expectation of loss associated with long-term obligations
for startup toll roads: "Almost all do get built, begin operations, and pay off their
debts, including interest" (See report by Fitch Investors Service in Attachment 2).
Based on historical financial portfolios of toll road projects, the long-term patient
lender is relatively secure. Indeed, Fitch has concluded that, over the long-term, a
1
Executive Office of the President, Office of Management and Budget, Circular No. A-129, Policies for
Federal Credit Programs and Non-Tax Receivables, January 1993, p. 3.
1
flexible payment loan with a junior claim on revenues has the same credit risk as that
of senior debt holders.
OMB Policy: Agencies shall not subordinate direct loans to tax-exempt obligations.
DOT Proposal: Federal credit should be subordinate to senior debt, which may be tax-
exempt.
1. Subordination of the Federal Government's claims on revenues is a market-based
necessity to induce a larger amount of private capital investment capable of obtaining
investment-grade ratings. The financial markets will not accept a senior position that
is artificially co-equal with a junior lender.
2. Based on current project activity, it seems probable that most projects requiring
assistance under this program would be eligible to issue tax-exempt debt, whether by
State and local partners or by other nonprofit entities. Barring such issuers from
gaining access to the majority of their financing from the lower-cost municipal market
would offset entirely the intended funding benefit of the Federal credit program.
3. Taxable interest levels place a greater burden on the long-term economic viability of
capital-intensive infrastructure projects. Granting a waiver to allow project sponsors to
issue tax-exempt debt in conjunction with a Federal loan will improve the credit-
worthiness of DOT's investment by reducing the project's senior debt service burden.
4. OMB has no prohibition against State or local governments receiving outright Federal
grants in conjunction with financing their non-Federal share with tax-exempt debt. In
fact, that is the prevailing practice of State and local agencies for financing
environmental and transportation infrastructure. From a Federal budgetary
perspective, it would be counterproductive to impose policies that discourage the use
of Federal credit in favor of more costly outright grants that will never be recovered.
OMB Policy: Loan guarantees should be favored over direct loans.
DOT Proposal: Provide direct loans in the form of flexible payment loans and standby
lines of credit.
1. Fixed-income investors, such as insurance companies and pension funds, are
accustomed to predictable periodic payments on their investments.
2. Typically, project revenues are uncertain in the early years, but grow over time. The
unpredictability of semi-annual cash flows for junior lien obligations will exact a yield
premium from institutional investors. The higher yield requirement adds an
unnecessary cost to project sponsors.
2
3. The program draws on the unique ability of the Federal Government to be a patient
investor with long-term horizons, lower liquidity requirements, and fewer funding
constraints than private investors. Over time, investors may gain greater familiarity
with the payment prospects of junior loans based on the Federal credit program
experience. It may eventually be possible to convert the direct loan program into a
loan guarantee program that would be well suited for major institutional buyers, such
as pension funds, which have lower liquidity requirements and a longer term
orientation than other classes of investors.
Conclusion: DOT's proposed credit program requires explicit waiver of at least one
OMB policy, that regarding subordination.
DOT's proposed Federal credit program is designed to complement other government
financing tools and encourage private investment in transportation infrastructure. Federal
credit would increase capital investment in the Nation's transportation infrastructure,
improve resource allocation by relying on market discipline, and foster public-private
partnerships in transportation investment.
The credit proposal is consistent with most OMB directives on credit assistance, including
the requirement of parity in the event of default. DOT, however, will require a waiver of
the provision that prohibits subordination of direct loans to tax-exempt obligations' claim
on annual project revenues. Subordination in the form of a minority lending position is
mandated by the private marketplace and, in the opinion of a major rating agency, does
not increase the long-term risk associated with extending credit to transportation facilities.
The DOT flexible payment loan proposal will, in many cases, result in direct loans being
made side-by-side with tax-exempt obligations issued by State and local governments. It
does not, however, involve the direct or indirect guarantee of tax-exempt obligations, as
loan proceeds are applied to pay project costs, not debt service.
The DOT standby line of credit proposal involves direct loans to be made on a deferred
basis to a project borrower to provide it with a contingent source of funds to meet
revenue shortfalls. In this respect, it is similar to a secondary reserve fund. Proceeds from
the line will be available to pay a portion of debt service, and, in many cases, the project
sponsor's obligations will be tax-exempt.
The security of a standby line of credit, however, differs from Federal loan guarantees in a
number of key respects: (1) the agreement runs to the borrower, not the lender; (2) it
covers only a limited period and amount of debt service (generally less than 15 percent of
total payments to be made over the life of the bonds); (3) it is structured with specific
repayment provisions for any draws made in future years; and (4) it is not primarily relied
on by investors in their credit analysis of the obligation. On this basis, the line of credit
should not be construed as a Federal guarantee of tax-exempt debt. (See Appendix B of
the Federal credit draft report for a more complete discussion.)
3
ATTACHMENT 2: RISK ASSESSMENT MODEL FOR DOT'S
PROPOSED FEDERAL CREDIT PROGRAM
DOT is considering a Federal credit program as a more cost effective alternative to its
current use of grants to finance startup toll roads and other transportation infrastructure
projects. The program may include direct loans and standby lines of credit repayable on a
junior lien basis with flexible repayment terms. As part of this study, Fitch Investors
Service L.P. (Fitch) was asked to develop a model for evaluating the default risk for such
a credit program. This attachment critiques the current approach for scoring
transportation loans and proposes a new approach adapted from Fitch's model for
evaluating the capital adequacy of private, for-profit bond insurance companies. Fitch also
recommends specific scores or capital charges for projects that are rated differently.
Critique of Current Methodology for Scoring Transportation Loans
The Alameda Corridor loan was scored using a yield premium approach to assess potential
default cost. The loan was assumed to be made at an interest rate equal to the U.S.
Treasury bond yield. The net present value of loan repayments on the project was then
calculated, discounted at both the Treasury yield and the assumed market yield, based on
the project's preliminary rating (105 basis points above the Treasury yield). The
difference in net present values was deemed to represent the cost of the default risk. In
our opinion, the yield spread approach is not a valid measure of the expected default risk.
The yield spread takes into account other factors beside default risk, such as liquidity risk
and call risk. Since liquidity risk and call risk are not relevant factors in the cost of the
program to the Federal Government, the yield premium results in a cost estimate that is
too high.
The fact that market yield spreads overestimate default risk is evidenced by the existence
of a private, for-profit bond insurance industry that guarantees the principal and interest
on municipal bonds, as well as asset-backed and mortgage-backed securities. Bond
insurers guarantee municipal bonds that have mostly A and BBB underlying ratings; the
insurance raises the bonds' public ratings to AAA. The premiums on these policies, which
are usually paid by the issuer, amount to about half of the issuer's interest cost savings as
a result of the higher credit rating.
The yield spread between the insured AAA and the uninsured bonds is sufficient to
support premiums that cover the bond insurers' default risk plus an adequate profit
margin. From January 1, 1992, through June 30, 1996, the bond insurers guaranteed a
total of $544.4 billion in par. Premiums written over this period totaled $4.5 billion, or
0.8 percent of par insured. Losses from bond defaults over this period totaled $129.9
million, or 5.7 percent of premiums earned and 0.03 percent of average par outstanding
(premiums for municipal bonds are typically written in the form of a one-time, up-front
payment, but income is earned over the outstanding life of the bond). Bond insurers incur
other costs besides losses, such as underwriting, surveillance, and administration;
however, during the period from 1992 to mid-year 1996, bond insurers averaged 13.1
1
percent return on equity (income after expenses and taxes, divided by average
shareholder's equity).
Bond insurers do not currently insure startup toll roads because they tend to avoid stand-
alone projects with construction risk and ramp-up risk. In our opinion, however, the
shortcomings of the yield premium approach also apply to these risks as well. In other
words, it should be possible for the Federal Government to provide credit for startup toll
road projects at a lower cost than the yield premium would imply.
The fact that the yield premium method overestimates the expected default cost means a
different methodology is required. We propose a method derived from that used by the
rating agencies to determine how much capital bond insurers need to allocate for their
insurance policies. This will result in a more direct measure of the default risk on the
projects.
Fitch's Bond Insurance Capital Adequacy Model
Fitch rates the claims-paying ability of the bond insurers. A large part of this analysis
focuses on the insurers' capital adequacy. To measure capital adequacy, Fitch uses a
stress test model that subjects a bond insurer's portfolio to an economic downturn that
produces an extraordinary level of bond defaults. For an insurer to receive a AAA claims-
paying ability rating, it must be able to pay all projected claims through the peak years of
the stress period and be left with sufficient resources to write new business when more
stable economic conditions resume.
Claims during the stress period are forecast using capital charges that Fitch developed
based on bond defaults experienced during the Great Depression of the 1930's. Fitch has
adjusted the capital charges to reflect regulatory changes and the relative probability and
severity of defaults for the types of insured risks in today's market. For example, current
banking laws enacted after the Great Depression reduce the potential severity of another
depression. However, in the 1930's all municipal bonds were backed by a general
obligation pledge; most municipals today are revenue bonds which have potentially greater
risk. For this reason, Fitch has developed different benchmark capital charges for various
types of insured bonds. For example, transportation bonds on existing facilities are more
risky and, therefore, have higher benchmark capital charges than tax-backed and water and
sewer bonds. They are, however, less risky and have lower benchmark capital charges
than private higher education and hospital bonds. These benchmark capital charges are
then adjusted further based on Fitch's evaluation of the actual credit quality and diversity
of the bonds within each sector of the individual insurer's portfolio.
Capital Charges for Start-Up Toll Roads
Bond insurers do not currently insure startup toll roads. Fitch developed capital charges
for this category specifically for this report. Our methodology for developing these
charges is described in the following paragraphs.
2
Based on historical evidence, while some startup toll road projects experience late
payment delinquencies in years 1 through 5, and less frequently in years 6 through 10,
almost all do get built, begin operations, and eventually pay off their debt, including
interest on interest. Subordinate lenders to projects of investment-grade quality should
get paid as well, although perhaps over a somewhat longer time frame than the senior
bondholders. It is estimated that only about 1 percent of the loans rated BBB will not be
recovered within a reasonable time frame, which for discussion purposes is defined as 30
years.
A project is rated below investment grade (lower than BBB-) if there is a foreseeable risk
that it will not be successfully completed on time or generate sufficient revenues to fully
pay creditors. Indeed, default rates are much higher for unrated and below investment-
grade municipal bonds than they are for investment-grade bonds. Because startup toll
roads have only recently started getting ratings, there is little empirical data on default
rates specifically for this sector. Based on the default experience in other sectors of the
municipal market, Fitch estimates that a portfolio of loans on startup toll road projects
rated BB will experience a 4 percent loss rate and startup toll road projects rated B an 8
percent loss rate (net of recoveries).
Highly rated financial institutions not only require enough capital for an expected level of
losses, but for a multiple of such losses. Fitch has concluded that for startup infrastructure
projects, a multiple of 4 to 5 times expected losses is needed to provide our highest credit
standard of AAA. Multiplying the expected losses by 5 produces the capital charges that
should be used on loans to start-up toll road projects; these charges (expressed as a
percentage of original principal) are shown in Table 2-1. The capital charges can also be
expressed as annual cash flows for inclusion in the OMB credit model, as shown in Table
2-2.
Table 2-1
Capital Charges for Startup Infrastructure Projects
Capital Charge
Expected
AAA
Project Rating
Loss (%)
Multiplier
Scenario (%)
BBB
1.0
5
5.0
BBB-
1.6
5
8.0
BB+
2.6
5
13.0
BB
4.0
5
20.0
BB-
5.0
5
25.0
B+
6.4
5
32.0
B
8.0
5
40.0
Fitch recognizes that, in many cases, the Federal loan will be junior to the senior debt, but
believes the same capital charges are applicable for subordinate, flexible payment debt.
The flexibility in the Federal credit program reduces the demands on a project to make
timely payments; however, full repayment is still required. An important element in
3
Fitch's capital charge calculation is that most loan defaults that occur during the initial 10-
year period will be recovered. Fitch assumes that interest on delinquent loan payments is
equal to the U.S. Treasury rate, so timing defaults will not affect the net present value cost
of the loan credit program. The same analysis should hold true whether the Federal credit
takes the form of a direct loan, a guaranteed loan, or a contingent standby line of credit.
It should also be noted that the capital charge methodology for private, for-profit bond
insurers applies to a large and diversified portfolio of loans. If an insurer were to
guarantee loans to only a handful of projects, and one of these projects defaulted, then the
overall cost could conceivably be higher than the weighted average capital charge. Fitch
would require considerably more capital to assign a rating of AAA to a private company
insuring only a small, non-diversified portfolio of loans. Considering the fact that the
Federal government has no liquidity constraints and these transportation loans would be
only one piece of a $300 billion existing diversified portfolio of Federal government loans
and guarantees in a wide range of industry sectors, this capital charge method is
considered appropriate.
Suggested Rating Category for the Federal Credit Program Portfolio
The capital charges Fitch recommends are consistent with AAA security. For an ongoing
Federal credit program that encompasses a portfolio of loans and guarantees, the
likelihood of underestimating default cost is remote. In other words, the capital reserves
should absorb all anticipated default risk, in essence representing a proxy for Federal
subsidy cost. This makes it a useful and conservative tool for budgeting purposes.
4
TABLE 2-2
STRESS SCENARIO CASH FLOWS (BBB Project)
Loan Amount
$1,000,000
Term (Years)
30
Coupon Rate
7.00%
(A)
(B)
(C)
(D)
(E)
(F)
(G)
(H)
(I)
(J)
Repayment of
Total
7.00%
NPV of
NPV of
Scheduled
Delinq.
Timely
Recoverables
Payments
Discount
Scheduled
Actual
Year
Payments
Rate
Payments
Shortfall
Recoverable
(Incl. Int.)
Received
Factor
Payments
Payments
1
80,586
5%
76,557
4,029
0
0
76,557
0.93458
75,314
71,549
2
80,586
10%
72,528
8,059
4,029
0
72,528
0.87344
70,387
63,349
3
80,586
20%
64,469
16,117
12,088
0
64,469
0.81630
65,783
52,626
4
80,586
30%
56,410
24,176
20,147
0
56,410
0.76290
61,479
43,035
5
80,586
45%
44,323
36,264
32,235
0
44,323
0.71299
57,457
31,601
6
80,586
42%
46,740
33,846
29,817
703
47,443
0.66634
53,698
31,613
7
80,586
39%
49,158
31,429
27,399
2,811
51,969
0.62275
50,185
32,364
8
80,586
36%
51,575
29,011
24,982
6,325
57,900
0.58201
46,902
33,699
9
80,586
33%
53,993
26,594
22,564
11,947
65,940
0.54393
43,834
35,867
10
80,586
30%
56,410
24,176
20,147
17,148
73,558
0.50835
40,966
37,393
11
80,586
26%
59,634
20,952
16,923
21,927
81,561
0.47509
38,286
38,749
12
80,586
22%
62,857
17,729
13,700
26,284
89,142
0.44401
35,781
39,580
13
80,586
18%
66,081
14,506
10,476
30,220
96,301
0.41496
33,440
39,961
14
80,586
14%
69,304
11,282
7,253
33,734
103,038
0.38782
31,253
39,960
15
80,586
10%
72,528
8,059
4,029
36,686
109,213
0.36245
29,208
39,584
16
80,586
8%
74,139
6,447
2,418
38,372
112,512
0.33873
27,297
38,112
17
80,586
5%
76,557
4,029
0
38,091
114,648
0.31657
25,512
36,295
18
80,586
5%
76,557
4,029
0
35,842
112,399
0.29586
23,843
33,255
19
80,586
5%
76,557
4,029
0
30,923
107,480
0.27651
22,283
29,719
20
80,586
5%
76,557
4,029
0
26,144
102,701
0.25842
20,825
26,540
21
80,586
5%
76,557
4,029
0
21,365
97,922
0.24151
19,463
23,649
22
80,586
5%
76,557
4,029
0
17,007
93,565
0.22571
18,189
21,119
23
80,586
5%
76,557
4,029
0
13,072
89,629
0.21095
16,999
18,907
24
80,586
5%
76,557
4,029
0
9,558
86,115
0.19715
15,887
16,977
25
80,586
5%
76,557
4,029
0
6,606
83,163
0.18425
14,848
15,323
26
80,586
5%
76,557
4,029
0
4,217
80,774
0.17220
13,877
13,909
27
80,586
5%
76,557
4,029
0
2,389
78,947
0.16093
12,969
12,705
28
80,586
5%
76,557
4,029
0
1,124
77,682
0.15040
12,120
11,683
29
80,586
5%
76,557
4,029
0
422
76,979
0.14056
11,327
10,820
30
80,586
5%
76,557
4,029
0
0
76,557
0.13137
10,586
10,057
Nominal
Total
2,417,592
2,048,506
369,086
248,206
432,917
2,481,423
1,000,000
950,000
Notes:
Column A is the level annual repayment required for $1,000,000 borrowed for 30 years at an interest rate of 7.00%.
Column B is based on Fitch estimates of start-up toll road delinquencies and recoveries under a stress scenario.
Column C = Column A X (1 - Column B).
Column D = Column A Column C.
Column E = Column D less 5% of Column A, which is not recoverable (capital charge for 'BBB' project).
Column F is the amount received from recoverables in each year. Recoverables are assumed to be deferred for
four years with payments amortized over a ten year period.
Column G = Column C + Column F.
Column I = Column A X Column H.
Column J = Column G X Column H.
5
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U.S. Department
Office of the Administrator
400 Seventh St., S.W.
of Transportation
Washington, D.C. 20590
Federal Highway
Administration
February 24, 1997
Dear Mozelle:
Per our productive discussion on Friday and Paula Farrell's helpful written comments, we have
revised the credit proposal (Title V of the ISTEA reauthorization bill) and are faxing it to you for
your review. Perhaps we can meet again Tuesday morning to discuss further?
We have "boxed in" the flexible/forbearance aspects of the flexible payment loan more
tightly to alleviate subordination concerns: unique to this type of infrastructure financing,
security features such as rate covenants and coverage requirements are used to pledge
project revenues to repay the loan; as before, the loan cannot be subordinated to other
claims in the event of default; repayments can be made from user fees such as tolls but not
from Federal sources; and allowance of deferrals is limited to the 10-year "ramp-up"
period following substantial completion, and the borrower must demonstrate that it is
acting under the necessary covenants and other required terms and conditions to become
current in its payments.
We have also developed the reserve account deposit concept you raised on Friday, in lieu
of the standby line of credit: the deposit would be in the form of a loan that would be
repaid with interest after the 10-year ramp-up period following substantial completion; any
draws on the reserve deposit would be repaid with interest within 5 years from the end of
the ramp-up period; and the amount of the deposit would be limited to 15% of project
costs.
Other changes include: a new eligibility criterion that the project cannot otherwise obtain
adequate financing on more reasonable terms and conditions; a requirement for security
features such as rate covenants to assure repayment; a provision for establishing fees to
help cover subsidy costs; and clarification that estimation of subsidy costs and
authorization of annual subsidy appropriations and credit limits are in accordance with the
Federal Credit Reform Act.
Garvey
Acting Administrator
02/24/97 MON 17:57 FAX 202 366 7493
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003
TITLE V--INFRASTRUCTURE CREDIT
1
SEC. 5001. SHORT TITLE.
2
This title may be cited as the "Transportation Infrastructure Credit Act of 1997".
3
SEC. 5002. FINDINGS.
4
Congress finds that--
5
(a) The economic vitality of the Nation and the quality of life of its citizens depend upon
6
continued investment in surface transportation infrastructure for the movement of both people and
7
goods.
8
(b) The Nation's needs to maintain, reconstruct, and provide additional transportation
9
infrastructure investment in both rural and urban areas exceed available resources under
10
traditional programs.
11
(c) While recent Federal initiatives have equipped States with new financing tools, certain
12
large infrastructure projects of national significance cannot be adequately funded through existing
13
grant programs or private capital markets and would benefit from new forms of Federal
14
assistance.
15
(d) A capital investment program for constructing, reconstructing, and expanding
16
transportation infrastructure will create both direct and indirect jobs.
17
(e) Investing in trade corridors will stimulate exports and enhance the Nation's
18
competitiveness in the world economy.
19
(f) Providing new, innovative ways to finance transportation infrastructure will leverage
20
limited Federal resources and meet critical investment needs.
21
(g) Fostering public-private partnerships will attract private capital, advance necessary
1
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1
projects through the development stage, control costs during construction, and improve the
2
management of transportation facilities.
3
(h) Taking advantage of the public's willingness to pay user fees to receive the benefits
4
and services of transportation infrastructure sooner than would be possible under traditional
5
grant-based financing will result in a more efficient and equitable allocation of the Nation's
6
resources.
7
SEC. 5003. DEFINITIONS.
8
As used in this title, unless the context requires otherwise--
9
(a) The term "Direct Loan" means any flexible payment loan or capital reserve deposit
10
provided to an Obligor in connection with the financing of a Project under sections 5005 or 5006
11
of this title.
12
(b) The term "Eligible Project Costs" means all amounts paid by or for the account of an
13
Obligor in connection with a Project, including--
14
(1) development phase activities, including planning, feasibility analysis,
15
environmental review, permitting, preliminary engineering and design work, and other pre-
16
construction activities;
17
(2) construction, reconstruction, rehabilitation, replacement, and acquisition of real
18
property, and the acquisition of equipment; and
19
(3) interest costs, reasonably required reserve funds, and issuance expenses.
20
(c) The term "Local Servicer" means a State infrastructure bank established under title 23,
21
United States Code, or a State or local government or any agency thereof that is responsible for
22
servicing a Direct Loan on behalf of the Secretary.
2
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(d) The term "Obligor" means any party primarily liable for payment of the principal of or
2
interest on any Direct Loan made under sections 5005 or 5006 of this title, whether a corporation,
3
partnership, joint venture, trust, or governmental entity or instrumentality; provided that if such
4
entity is not a State or local government or any agency thereof, the project it is undertaking shall
5
be publicly sponsored, as provided in paragraphs 5004(a)(3) and (4) of this title.
6
(e) The term "Project" means any surface transportation facility eligible for Federal
7
assistance under title 23 or chapter 53 of title 49, United States Code.
8
(f) The term "Project Obligation" means any note, bond, debenture, or other evidence of
9
indebtedness issued by an Obligor in connection with the financing of a Project other than a Direct
10
Loan provided under this title.
11
(g) The term "Secretary" means the Secretary of Transportation.
12
(h) The term "State" shall have the meaning such term has in 23 U.S.C. 101.
13
(i) The term "Substantial Completion" means the time at which a Project opens to
14
vehicular, passenger, or freight traffic.
15
SEC. 5004. DETERMINATION OF ELIGIBILITY AND PROJECT SELECTION.
16
(a) ELIGIBILITY. For a Project to receive financial assistance under this title, it must
17
meet the following criteria.
18
(1) The Secretary shall determine that the Project is nationally significant, based on
19
the extent to which the Project will transport passengers or freight at lower costs or higher
20
efficiency, will advance multi-state corridors, will otherwise promote metropolitan,
21
regional, interstate, or international commerce, or other factors.
22
(2) The Project sponsor shall demonstrate to the Secretary that the Project cannot
3
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1
otherwise obtain adequate financing on more reasonable terms and conditions.
2
(3) The Project shall satisfy the applicable Statewide planning requirements of 23
3
U.S.C. 135 and the metropolitan planning requirements of 23 U.S.C. 134 at the time any
4
loan or deposit agreement is entered into under this title.
5
(4) The Project application shall be submitted to the Secretary by a State or a
6
Local Servicer.
7
(5) Eligible Project Costs shall equal or exceed the lesser of $100,000,000 or 50
8
percent of the most recent annual amount of Federal-aid highway funds apportioned under
9
title 23, United States Code, to the State in which the Project is located.
10
(6) Project financing shall be payable in whole or in part by user charges, such as
11
tolls, or other dedicated revenue sources.
12
(b) SELECTION AMONG ELIGIBLE PROJECTS.--The Secretary shall establish criteria
13
for selecting among Projects that meet the eligibility criteria of subsection (a) of this section.
14
Such selection criteria shall include--
15
(1) the credit-worthiness of the Project, including a determination by the Secretary
16
that any financing for the Project has appropriate security features, such as a rate
17
covenant, to assure repayment;
18
(2) the extent to which assistance under this title would foster innovative public-
19
private partnerships and attract private capital investment;
20
(3) the likelihood that assistance under this title would enable the Project to
21
proceed at an earlier date than would be the case otherwise;
22
(4) the extent to which user fees will be collected using new technologies that
4
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1
enhance the flow of commerce; and
2
(5) the amount of budget authority required to fund any Direct Loan provided
3
under this title.
4
(c) FEDERAL REQUIREMENTS.- All requirements of titles 23 and 49, United States
5
Code, shall apply to funds made available under this title and Projects assisted with such funds
6
unless the Secretary determines that any such requirement, other than 23 U.S.C. 113 and 49
7
U.S.C. 5333, is inconsistent with any provision of this title. Nothing in this subsection shall affect
8
any responsibility or obligation of the Secretary under any other Federal law, including the
9
National Environmental Policy Act of 1969 (42 U.S.C. 4321 et seq.), title VI of the Civil Rights
10
Act of 1964 (42 U.S.C. 2000d et seq.), and the Uniform Relocation Assistance and Land
11
Acquisition Policies Act of 1970 (42 U.S.C. 4601 et seq.).
12
SEC. 5005. FLEXIBLE PAYMENT LOANS.
13
(a) IN GENERAL. The Secretary is authorized to enter into agreements with one or
14
more Obligors to make Direct Loans the proceeds of which are used either to finance Eligible
15
Project Costs or refinance interim construction financing of such costs of any Project selected
16
under section 5004 of this title, provided that no loan agreement shall refinance interim
17
construction financing later than one year after the date of Substantial Completion.
18
(b) TERMS AND LIMITATIONS.-
19
(1) A loan agreement under this section shall be on such terms and conditions and
20
contain such covenants, representations, warranties, and other requirements (including
21
requirements for audits) as the Secretary determines.
22
(2) A Direct Loan under this section shall not be subordinated to the claims of
5
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1
other lenders in the event of Obligor default.
2
(3) A Direct Loan under this section shall be payable from revenues generated by
3
any rate covenant, coverage requirement, or similar security feature supporting other
4
Project Obligations.
5
(4) The Secretary shall make a Direct Loan under this section for not more than 33
6
percent of Eligible Project Costs.
7
(5) The final maturity date of a Direct Loan under this section shall be not more
8
than 30 years after the date of Substantial Completion.
9
(6) The Secretary shall charge interest on a Direct Loan under this section equal to
10
the average interest rate on marketable United States Treasury securities of a similar
11
maturity to such Direct Loan on the date of obligation of the loan agreement.
12
(7) The Secretary may establish fees on any Direct Loan under this section at a
13
level sufficient to cover the costs to the Federal government of making the Direct Loan.
14
(c) REPAYMENT.--
15
(1) The Secretary shall establish a repayment schedule for each Direct Loan under
16
this section based on the projected cash flow from Project revenues and other repayment
17
sources.
18
(2) Scheduled loan repayments of principal or interest on a Direct Loan under this
19
section shall commence not later than 5 years after Substantial Completion of the Project.
20
(3) The sources of funds for scheduled repayments shall be tolls, user fees, or other
21
dedicated revenues, and shall not include Federal funds.
22
(4) In the event that the Project initially is unable to generate sufficient revenues to
6
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pay scheduled principal and interest, the Secretary may, for a period not to exceed 10
2
years after the date of Substantial Completion, allow the Obligor to add unpaid principal
3
and interest to the outstanding balance of a Direct Loan under this section, provided that
4
the loan terms and conditions established under paragraphs (b)(1) and (b)(3) of this
5
section require the Obligor to increase revenues or decrease costs so as to become current
6
in its payments.
7
(5) Any payments deferred under paragraph (4) shall continue to accrue interest in
8
accordance with paragraph (b)(6) of this section until fully repaid.
9
SEC. 5006. CAPITAL RESERVE DEPOSITS.
10
(a) IN GENERAL. The Secretary is authorized to enter into agreements with one or more
11
Obligors to make deposits, by means of Direct Loans, to fund capital reserve accounts for any
12
Project selected under section 5004 of this title. Any such deposit shall be available to pay debt
13
service costs on Project Obligations other than Direct Loans.
14
(b) TERMS AND LIMITATIONS.-
15
(1) A deposit agreement under this section shall be on such terms and conditions and
16
contain such covenants, representations, warranties, and other requirements (including
17
requirements for audits), as the Secretary determines.
18
(2) The repayment of a deposit shall not be subordinated to the claims of other lenders
19
in the event of Obligor default.
20
(3) Draws on a deposit shall only be made if other funds available for such purposes,
21
including any other reserve funds, are exhausted.
22
(4) Deposits shall be invested in United States Treasury securities, bank deposits, or
7
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1
such other financing instruments as the Secretary may approve to earn interest to enhance the
2
account.
3
(5) Any interest earned on deposits shall be credited to the capital reserve account.
4
(6) The total amount of a deposit shall be not more than 15 percent of Eligible Project
5
Costs.
6
(7) A deposit shall be available for draws during the period beginning on the date of
7
Substantial Completion and ending no later than the day that is 10 years following such date.
8
(8) The Secretary shall charge interest on a deposit equal to the average interest rate
9
on marketable United States Treasury securities of a similar maturity to such deposit on the
10
date of obligation of the deposit agreement.
11
(9) The Secretary may establish fees on any deposit at a level sufficient to cover the
12
costs to the Federal government of making the deposit.
13
(10) No third party creditor of the Obligor shall have any right against the Federal
14
Government with respect to any draw on a deposit.
15
(11) A deposit shall not be made for a Project that is also the recipient of a flexible
16
payment loan under section 5005 of this title.
17
(c) REPAYMENT.--
18
(1) The principal amount of a deposit shall be repaid, with interest, by the end of the
19
availability period established under paragraph (b)(7) of this section, except that any draw on
20
the deposit shall be repaid, with interest, by no later than 5 years after the end of such
21
availability period.
22
(2) The sources of funds for scheduled repayments shall be tolls, user fees, or other
8
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dedicated revenues, and shall not include Federal funds.
2
SEC. 5007. PROJECT SERVICING.
3
The State in which a Project receiving financial assistance under this title is located shall
4
identify a Local Servicer to assist the Secretary in servicing any Direct Loan provided under this
5
title. Such Local Servicer shall act as the agent for the Secretary, and may receive a servicing fee,
6
subject to approval by the Secretary. Such Local Servicer shall not be liable for the obligations of
7
the Obligor to the Secretary.
8
SEC. 5008. RULES AND REGULATIONS.
9
The Secretary is authorized to make such rules and regulations as deemed necessary or
10
appropriate to carry out the purposes and provisions of this title.
11
SEC. 5009. STATE AND LOCAL PERMITS.
12
The provision of financial assistance under this title shall not--
13
(a) relieve any recipient of such assistance of any obligation to obtain any required State or
14
local permits and approvals;
15
(b) limit the right of any State or local governmental unit to approve or regulate rates of
16
return on private equity invested in a Project; or
17
(c) otherwise supersede any State or local law or regulation applicable to the construction or
18
operation of such Project.
19
SEC. 5010. FUNDING.
20
(a) DETERMINATION OF BUDGET COSTS.--The Secretary shall estimate the subsidy
21
costs of providing financial assistance to Projects under sections 5005 and 5006 of this title in
22
accordance with the Federal Credit Reform Act of 1990 and, in so doing, may require each
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1
Project sponsor to provide a preliminary rating opinion letter from a nationally-recognized bond
2
rating agency.
3
(b) AUTHORIZATION OF APPROPRIATIONS.
4
(1) SUBSIDY COSTS.--For the subsidy costs of Direct Loans made under this title,
5
there are authorized to be appropriated from the Highway Trust Fund (other than the Mass
6
Transit Account) $99,400,000 for each of fiscal years 1998, 1999, 2000, 2001, 2002, and
7
2003, to remain available until expended.
8
(2) ADMINISTRATION.- For administering the provisions of this title, there are
9
authorized to be appropriated from the Highway Trust Fund (other than the Mass Transit
10
Account) $600,000 for each of fiscal years 1998, 1999, 2000, 2001, 2002, and 2003.
11
(d) LIMITATIONS ON CREDIT AMOUNTS.- Principal amounts of Direct Loans provided
12
under this title shall be limited to $2,000,000,000 for each of fiscal years 1998, 1999, 2000, 2001,
13
2002, and 2003.
2/23/97//9:50pm
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TITLE V--INFRASTRUCTURE CREDIT
Sec. 5001. Short Title
This section identifies a new Federal credit assistance program for surface transportation as the
Transportation Infrastructure Credit Act of 1997.
Sec. 5002. Findings
This section recites Congressional findings that current public sector resources, including Federal
grants, are insufficient to meet the Nation's transportation infrastructure investment needs in both
urban and rural areas. These include building new facilities as well as renovating or expanding
existing facilities. The funding gap is particularly acute for large projects of national significance,
due to their scale and complexity. A new Federal credit program for transportation will help
address these projects' special needs by supplementing existing Federal programs and leveraging
private capital investment.
This title is designed to encourage the development of large, capital-intensive infrastructure
facilities through public-private partnerships consisting of a State or local governmental project
sponsor and one or more private sector firms involved in the design, construction or operation of
the facility. The Federal credit program is targeted to those projects which are payable in whole
or in part by user charges, such as tolls, or other non-Federal dedicated funding sources. By
taking advantage of the public's willingness to pay user fees to receive the benefits and services of
transportation infrastructure sooner than would be possible under traditional grant-based
financing, the program will result in a more efficient and equitable allocation of the Nation's
resources.
The program should result in additional surface transportation facilities being developed more
quickly and at a lower cost than would be the case under conventional public procurement,
funding and ownership. In addition to the benefits of enhanced accessibility in moving goods and
people, such transportation facilities should provide benefits to the Nation in terms of stimulating
job creation and enhancing the Nation's economic competitiveness overseas.
Sec. 5003. Definitions
This section sets forth the definitions for terms used in this title. Key terms are listed below:
A "Project" is defined as any surface transportation facility eligible under the expanded provisions
of title 23 as well as chapter 53 of title 49, United States Code. Permitted Projects would include
free or tolled highways, bridges and tunnels; mass transportation facilities and vehicles; publicly
owned inter-city passenger rail facilities and vehicles (including Amtrak); publicly owned freight
rail facilities; privately owned surface transportation facilities that are publicly sponsored and
serve a public benefit; and various intermodal facilities.
The term "Eligible Project Costs" is defined to include those costs of a capital nature incurred by
a sponsor in connection with developing an infrastructure Project. These costs fall into three
categories: (i) pre-construction costs relating to planning, design, and securing governmental
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02/24/97 MON 18:01 FAX 202 366 7493
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permits and approvals; (ii) hard costs relating to the design and construction (or rehabilitation) of
a project; and (iii) related soft costs associated with the financing of the project, such as interest
during construction, reserve accounts, and issuance expenses. It would not include operation or
maintenance costs.
An "Obligor" is defined as any entity (whether a State or local governmental unit, a private entity
authorized by such governmental unit to develop a Project, or a public-private partnership) that is
a borrower involving a direct loan, under either the flexible payment loan program set forth in
section 5005 or the capital reserve deposit program set forth in section 5006, under this title.
A "Local Servicer" is defined as a State infrastructure bank or other designated State or local
governmental agency which services the credit program on behalf of the Department of
Transportation within that State.
"Substantial Completion" is defined as the date when a Project opens to vehicular, passenger, or
freight traffic.
Sec. 5004. Determination of Eligibility and Project Selection
This section defines the threshold eligibility criteria for a Project to receive Federal credit
assistance and outlines the basis upon which the Secretary will select among potential candidates.
The Secretary's determination of a Project's eligibility will be based on both quantitative and
qualitative factors.
Of prime importance, the Project must be deemed by the Secretary to be "nationally significant" in
terms of facilitating the movement of people and goods in a more efficient and cost-effective
manner, resulting in major economic benefits.
Also, the Project sponsor must demonstrate that it cannot obtain adequate financing on more
reasonable terms and conditions from other sources in order to be eligible for Federal credit
assistance. The Federal government must be the lender of last resort whose assistance in funding
a portion of Project costs is necessary for the Project to access the private capital markets to
obtain the balance of its required financing.
To ensure that the Project enjoys both State and local support, it must be included in the State's
transportation plan and program and, if the Project is in a metropolitan area, it must satisfy all
metropolitan planning requirements of 23 U.S.C. 134. The State or State-designated entity will
be responsible for forwarding the Project application to the Secretary.
In terms of size, the Project must cost at least $100,000,000 or an amount equal to 50 percent of
the State's annual Federal-aid highway apportionments, whichever is less. This two-fold test is
designed to allow small and rural States to accommodate Projects otherwise too large for their
transportation programs. Based on fiscal year 1997 apportionments, 18 States could qualify
Projects costing less than $100 million, with the minimum amount equaling approximately $40
million.
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In addition, a Project must be supported at least in part by user charges, such as tolls, to
encourage the development of new revenue streams and the participation of the private sector. In
keeping with long-standing Federal policy, the credit assistance could not be repayable with future
year Federal-aid highway apportionments.
Project applicants meeting the threshold eligibility criteria then will be evaluated by the Secretary
based on a number of other factors. Among them are: The likelihood that the Federal assistance
will enable the Project to proceed at an earlier date; the degree to which the Project leverages
non-Federal resources, including private sector capital; the Project's overall creditworthiness,
including assurance of repayment through a rate covenant or other security features; and the
amount of budget authority (subsidy cost) required.
This section also provides that all requirements of titles 23 and 49, United States Code, shall
apply to funds made available under this title and Projects assisted with such funds unless the
Secretary determines that any such requirement is inconsistent with any provision of this title.
This section provides, however, that the Secretary cannot waive 23 U.S.C. 113, the provision that
applies Davis Bacon Act wage requirements to title 23 projects. This section does not affect the
Secretary's responsibilities under any other Federal law.
Sec. 5005. Flexible Payment Loans
This section establishes a lending program whereby the Secretary may make direct Federal loans
to help finance the costs of constructing Projects. The loans are contemplated to be made up
front as combined construction and permanent financing, although the title allows them to be
made up to a year after construction is completed for those Projects that have arranged interim
construction financing.
Each loan would conform to the provisions contained in the Federal Credit Reform Act of 1990.
A direct loan could be in an amount up to 33 percent of the cost of a Project, and could have a
final maturity as long as 30 years after the date the Project opens (Substantial Completion). The
interest rate would be established at the time the loan agreement was executed (obligated), and
would equal the prevailing yield on comparable term U.S. Treasury securities. Fees may be
established to help cover the costs of providing the loan, and loan repayments would be required
to start within five years after the date of Substantial Completion.
The terms and conditions of each direct loan would be negotiated between the Secretary and the
borrower; however, in the event of default, the Federal claim on Project assets would not be
subordinated to the claims of other lenders. The loan would be repaid from the revenues
generated by rate covenants, coverage requirements, and other security features supporting the
Project's debt obligations.
The loan agreement could also allow some interest and principal payments to be deferred in the
event annual Project revenues were insufficient to meet current debt service on the Federal loan.
Such deferrals could be allowed only during the 10-year "ramp-up" period following Substantial
Completion of the Project, and the loan agreement would have to provide that the borrower
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02/24/97 MON 18:02 FAX 202 366 7493
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demonstrate to the Secretary's satisfaction that it was using due diligence to become current in its
payments. Any deferred payments would be added to the outstanding loan balance, and continue
to accrue interest until repaid.
These two features (a participating lien on revenues and a flexible payment schedule) should assist
Projects in obtaining "investment grade" bond ratings (i.e., BBB or higher) on their capital
markets indebtedness.
Sec. 5006. Capital Reserve Deposits
This section authorizes the Secretary to enter into agreements to make deposits to fund capital
reserve accounts used to support projects' debt service costs. The deposits would be in the form
of direct loans conforming to the provisions of the Federal Credit Reform Act of 1990.
In contrast to the flexible payment loan, the capital reserve deposit would not be for the purpose
of funding construction costs as part of the Project's initial capitalization. Rather, the deposit
would seed a capital reserve account that could be drawn upon if needed to pay debt service on
the Project's other obligations during the 10-year "ramp-up" period after the facility has opened.
The deposit is designed to facilitate a Project's access to private capital by assisting it in obtaining
investment grade ratings on its other debt.
The flexible payment loan and the capital reserve deposit are intended to address Projects with
different financial needs based on their pro-forma capital structures. The flexible payment loan
will be more useful to those Projects that must demonstrate to private lenders or capital markets
debt investors that there is adequate coverage "going in" based on annual debt service, and where
the cost of the Federal loan compares favorably with the cost of other borrowing alternatives. A
capital reserve deposit is more likely to be used by Projects that are able to issue capital markets
debt on favorable terms, but need to demonstrate access to contingent sources of capital to
support debt service in the event revenues initially do not grow as quickly as annual payments of
principal and interest. In the final analysis, a Project sponsor will seek the form of assistance
which will provide it with the overall lowest cost of capital.
This section sets forth various limitations on the availability of capital reserve deposits. The
deposit could only be drawn upon after the Project had used up other available revenues and
reserves. It would only be available for a period of up to 10 years after Substantial Completion of
the Project. The principal amount of the deposit could not exceed 15 percent of Eligible Project
Costs.
The principal amount of the deposit must be repaid, with interest, by the end of the 10-year
availability period following Substantial Completion. However, to the extent any draws were
made from the capital reserve account, such draws would have to be repaid, with interest, within
5 years after the end of the 10-year availability period following Substantial Completion. The
interest rate charged to the borrower would equal the prevailing yield on comparable term U.S.
Treasury securities (i.e., the average rate on Treasury securities of 10-20 years) at the time of
execution (obligation) of the deposit agreement. The Secretary may establish fees to help cover
4
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017
the costs of providing the capital reserve deposit.
To avoid "double-dipping," a borrower could not combine a capital reserve deposit with a flexible
payment loan for any given project.
Sec. 5007. Project Servicing
The program will use State or local governmental agencies to assist the Secretary in servicing
each loan. The State may designate its State infrastructure bank or some other public agency to
serve as the local servicing agent for the credit instrument.
The local servicing agent would function as a financing conduit, much like a mortgage company,
and with the Secretary's approval it could charge a servicing fee. It would not be financially liable
in any way for the credit provided; rather, it would assist in the disbursement and collection of
funds. It would be required that the local servicing agent set up a separate account from its other
activities to receive the Federal credit proceeds for disbursal to the borrower, and to receive loan
repayments for remittance to the Secretary.
Sec. 5008. Rules and Regulations
Program guidelines will be established by the Secretary in order to ensure the program operates
prudently and efficiently, including requiring Obligors to provide annual audits.
Sec. 5009. State and Local Permits
This section states that this title in no way supersedes any existing State or local laws, regulations,
or Project approval requirements.
Sec. 5010. Funding
The budgetary cost associated with the program is the "subsidy cost" of the credit provided, as
defined in the Federal Credit Reform Act of 1990. The subsidy cost represents the present value
of expected cash flows for each loan, taking into account the default risk as well as any interest
rate subsidy. Since all direct loans under this title are required to be made at a rate equal to the
comparable term U.S. Treasury rate, there should be no interest subsidy element.
The title authorizes the Secretary to determine the risk of default with respect to a direct loan
based on an independent credit analysis of the loan by a nationally-recognized bond rating agency
(i.e., Fitch Investors Service, Moody's Investors Service, or Standard & Poor's Corporation).
Such an analysis would enable the subsidy cost to be calculated using as a guideline the capital
reserve requirements imposed by rating agencies on major municipal bond insurers guaranteeing
infrastructure loans of similar quality to the direct loan.
Once a Project had been approved, its subsidy cost would be funded by obligating a like amount
of budget authority provided under this section. Obligations of budget authority to fund a
Project's subsidy cost would be liquidated from the Highway Trust Fund.
The title authorizes the appropriation of $99,400,000 each year to fund the subsidy costs of any
5
02/24/97 MON 18:03 FAX 202 366 7493
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J.
018
flexible payment loans or capital reserve deposits made under sections 5005 and 5006, to remain
available until expended. It also authorizes the appropriation of $600,000 each year to fund the
administrative costs of the credit program. The title limits the nominal amount of credit assistance
that can be provided each year to $2,000,000,000.
6
JUN-05-1996 09:56
P.01/01
Tax-Exempt Bonds for Private Toll Roads
Current Law
Tax-exempt bond financing is not available for a toll highway, bridge or tunnel that is owned
and/or operated (using anything other than certain types of short-term management contracts¹)
by an entity other than a State or local government and where a stream of toll receipts is
available to pay debt service on the bonds. Any bond issued to finance such a facility would
be termed a taxable, private activity bond. There are a variety of exceptions to the general
prohibition of tax-exempt private activity bonds provided for in the Internal Revenue Code, but
none of the current law provisions for exempt facility bonds cover toll roads. Most of the
excepted types of private activity bonds must be issued in amounts limited by State-by-State
volume caps.
Reasons for Change
Public/private partnerships in the construction and operation of major highway transportation
projects offer opportunities for cost savings and efficient operation. Private involvement is likely
to be limited to cases where tolls can be charged to recover capital costs over time. Tolls may
also be necessary to ration use of certain facilities; private operators would have more operating
flexibility, such as setting peak load tolls and implementing technologically advanced methods
of toll collection. Private financing is more expensive than public financing using tax-exempt
bonds and, as a result, public/private partnerships in the provision of highway facilities are
unlikely to materialize, despite the efficiencies in design, construction and operation offered by
such arrangements.
Possible Proposal
A new category of exempt facility bonds would be created for qualified highway facilities on
publicly-owned rights of ways (including tunnel bores), defined to mean roadways, bridges and
tunnels for the use of motor vehicles licensed for highway use. [Note: this definition is
designed to exclude an Alemeda Corridor-type project or a passenger car only project. Is
this what is intended?]
To be qualified. the highway facilities would have to be described in an application from a State
or local government, approved by the Secretary of Transportation. The Secretary would be
authorized to approve no more than 10 such projects during the 1997-2002 period with an
allowable exempt facility bond issuance for approved projects of no more than $15 billion in the
aggregate. The Secretary would include the following criteria in selecting among proposed
projects:
1 The new private activity bond regulations may allow longer term management contracts
so long as management fees are essentially fixed up front (though they might be indexed).
TOTAL P.01
JUN-05-1996 10:00
P.02/03
1. The contribution made by the project to the enhanced efficiency of the nation's
transportation system.
2. The demonstration by the project of innovative design, construction, and
management.
3. The reasonable expectation that a similar public project (not necessarily involving the
use of tolls) would be undertaken and financed with tax-exempt bonds if the
public/private partnership is not undertaken.
Facility or substantial rehab of
Revenue Considerations:
existing Facility
- rate of regulation
1. Nine of the ten projects would have been financed with tax-exempt bonds in the absence of
the proposal.
2. Bonds for the nine "displaced" projects would be issued two years later than they will be
under the proposal.
3. Bonds for the displaced projects, but issued under the proposal, will be issued at a rate of
$3 billion per year beginning in 1999.
4. $1.5 billion of bonds for the "new" project will be issued in 2001.
5. A 200 basis point spread between the interest rate on these tax-exempt bonds (6%) and
comparable corporate bonds(8%).
6. 25 year bonds are assumed. No bond principal is repaid in the first five years after date of
issue. Principal is retired beginning in year 6 on a level debt service basis.
7. The annual revenue loss from outstanding tax-exempt bonds has several components:
a. no tax collected on the interest on an equal amount of displaced corporate debt
b. interest deducted at the corporate level is reduced by the substitution of tax-exempt
for taxable debt.
c. two-thirds of the assets financed with displaced corporate debt would have been
depreciated on average over 10 years using accelerated depreciation beginning with the
year of issuance; the other third would have been depreciated on a straight-line basis over
39 years (the rule for commercial real estate) beginning 2 years after date of issue.
d. assets financed with the new class of bonds will be depreciated on a straight-line basis
over 20 years (the rule for tax-exempt bond financed land improvements) beginning two
years after date of issue.
JUN-05-1996 10:00
P.03/03
e. no depreciation claimed with respect to assets financed with the displaced tax-exempt
bonds.
f. no difference in debt/equity ratios between projects financed with the new class of
bonds and displaced tax-exempt bonds, where the "equity" is assumed to come from gas
tax money.
g. equity in private toll road (assumed to be 20% of debt) generates a 15% pre-
tax rate of return, taxed at a 35% rate. Somehow, e.g., through reduced State
taxes necessary to come up with the State portion of the equity in the bond
financed roads displaced by the private toll roads, the equity shifts from the
public to the private sector in all of this.
TOTAL P.03
From Steve Martin (DOT)
5/21/96
Public-Private Toll Highways
Goal: Foster the development of toll facilities which have a substantial private
sector component in how they are designed, constructed, financed and operated.
Two positive outcomes from this would be: (1) Promoting user fees and
managing demand for highway, since this is more likely to succeed through the
private sector and (2) Attract equity and lower construction costs which
decreases the amount of debt to be issued for any particular project. These
results are unlikely to be achieved if taxable debt must be used since State and
local governments have available and are accustomed to the general obligation
tax-exempt "free road" alternative.
Bince Devie will look
I this yest to us (":
in couple weeks
An Option to Achieve Goal
Add to Sec 142 of the tax code an additional "Exempt Facility" along with airports, docks,
wharves, etc.
a)
Possible Definition factors for a Public-Private Toll Highway (some or all):
-State owns the right of way
-Rate of return ceiling is imposed by the state
-Facility -Financing reverts should to not the preclude to state after variable a pricing stated Recid of time exceed (ruito
b)
It is desirable that this not be subject to the existing State volume caps
so years!
particularly during transitional years. The following are potential alternatives.
-
Not subject to the volume limitation for a five year period, after which
these facilities would be subject to State-wide volume limits.
-
National volume limit (some sort of annual allowance) administered by
the Secretary of Transportation with approval of Treasury.
-
As a pilot program: a fixed number of projects (10?) with some
C-dbe tied to
maximum aggregate debt allowance with the project selected through a
competition run by DOT in consultation with Treasury.
ELLEC
policy
compotition should
wed t, "bether" project
being relected
- cold base selection
on benefit/cost ratio;
pricing; sustandability
of
use of road
- sale fexistip
reads (unless
there -s cibstantial
chab)
Other Related Issues:
a)
Design-build turnkey projects where the private sector develops and constructs
public use projects and delivers them to a public agency lose their tax
exemption. Examples: SR-125 Toll Road in southern California, Hudson-
Bergen Transit in New Jersey. Issues: ownership during construction;
management contracts, which are actually designed to protect states; contingent
private equity.
b)
Allocation rules for highway projects which, if modified, might allow a portion
of a project to be taxable and another part tax-exempt which would overall,
make projects more feasible.
May. 23. 1995 2:28PM
No. 3842 P. 1/16
T/E Bouiss FOR
Town 20955
U.S. Department of
400 Seventh SI, SW
Transportation
Washington, DC 20590
Office of the Secretary
of Transportation
U.S. DOT TELECOPIER COVER SHEET
Date
Time
Number of pages (including this page)
To:
Mark MAZLR
From:
Steve Martin
CEA
Phone: (202)366-6092
FAX:
(202)366-6031
Phone: 395 6809
J3
SUBJECT:
Mark: I called Dan Corbett this morning to see if he would sponsor a meeting between
himself, you, Bruce Davie and me in order to achieve a series of things. First, I know that
after the congestion pricing meeting, we were charged with doing something on the tax
side. Second, I would like to re-start the discussions on tax that I was having with Bruce
before the SIB proposal got narrowed, and then cleared. Third, as the budget realities set
in for transportation, interest in user fee alternatives should grow, and I would like to be
partially prepared. (A good example of this is that the Senate EPW Committee included in
its mark up of the NHS bill a repeal of the provision that Federal-aid highways be free,
including for the interstate.)
So for what it is worth, two things are attached. (1) DOT's comments on Treasury's Private
Activity Bond NPRM (this is the best articulation of goals that we have, although I will admit
that the comments related to airports are disposable and mere constituent tokens) and (2)
My last fax to Bruce about a volume cap for transportation, which was designed to keep
the negotiation moving. It appears as though it did not succeed. For reference I have
included Treasury's prior proposal.
Give me a call if you have comments or questions. Hopefully a meeting will occur.
Steve
May. 23. 1995 2:28PM
No. 3842 P. 2/16
DEPARTMENT or TRANSPORTATION
THE DEPUTY SECRETARY OF TRANSPORTATION
WASHINGTON, D.C. 20590
UNITED STATES of AMERICA
April 28, 1995
Mr. William P. Cejudo
Office of Assistant Chief Counsel
Financial Institutions and Products
1111 Constitution Avenue, NW.
Washington, D.C. 20004
Dear Mr. Cejudo:
The enclosed comments are the Department's written comments to the
private activity bond regulations proposed by the Internal Revenue Service
on December 30, 1894. As transportation infrastructure needs increase,
Federal funds are becoming more inadequate to meet these needs.
Pursuant to Congressional mandates and Departmental initiatives, the
Department has Identified various financial devices to better use limited
Federal funds. In particular, the Department is considering ways to provide
options to States to finance revolving funds with Federal funds and ways to
encourage the addition of private capital to Federal and State funds for
publicly accessible transportation projects.
These devices are affected by the Federal tax laws. The enclosed
comments detail the Department's initiatives and raise certain concerns
with the application of the Federal tax laws to the initiatives.
We will continue to work with the Treasury Department and Congress to
conform the Federal tax laws with these innovative programs. We look
forward to working with the Treasury Department to address our Nation's
initial transportation needs.
Sincerely,
(caldbary Mortimer L. Downey
Enclosures
May. 23. 1995 2:29PM
No. 3842 P. 3/16
COMMENTS OF THE DEPARTMENT OF TRANSPORTATION ON
PROPOSED TREASURY REGULATIONS REGARDING
PRIVATE ACTIVITY BONDS
The disparity between the funding needed for transportation infrastructure and the
amount of Federal funds available has grown in the last several years. The Department
reports regularly to Congress on the conditions of the Nation's highways, bridges, and transit
systems and the investment needed to maintain existing facilities. In its most recent report,
the Department noted that the annual shortfall of investment capital required to simply
maintain existing facilities exceeded $10 billion and has been growing with each passing
year. At the same time, funding available from Federal sources for transportation
infrastructure has decreased and is projected to continue to do so in real dollar terms due to
fixed per gallon fuel taxes, increased fuel efficiency of vehicles, use of alternative fuels.
(which are taxed at lower rates than gasoline), and Federal budgetary limitations.
The bi-partisan Infrastructure Investment Commission, which was created pursuant to
Section 1081 of the Intermodal and Surface Transportation Efficiency Act of 1990 (ISTEA)
and which included appointees by both Houses of Congress and by the Executive Branch,
filed a report to Congress, dated February 23, 1993, that confirmed the findings of the
Department. The Commission's report identified an increasing gap between capital needs
and investment across all modes of transportation.
In response to the problem, the Department has committed itself to finding better
ways to use existing funds from the Aviation and Highway Trust Funds. The Department
has implemented innovative financing programs in each of its infrastructure agencies, the
Federal Highway Administration, the Federal Transit Administration, the Federal Aviation
Administration and the Federal Railroad Administration. The purpose of these programs is
to review present regulations and guidelines in order to identify and eliminate any
unnecessary impediments to modern financing techniques, to find creative uses of trust fund
dollars and ways to leverage private dollars for public benefit projects, and to propose
statutory changes where necessary to accomplish these goals. The programs are not
intended, however, to serve as a substitute for the traditional Federal funding programs.
The Department is committed to developing and promoting user fee financing
techniques, as a state option to the traditional "pay-as-you-go" federally grant funded
projects. In implementing Executive Order 12893 Principles for Federal Infrastructure
Investment, dated January 26, 1994, the Department has dedicated significant resources to
identifying and developing innovative financing concepts and techniques advocated by the
State and local governments, the entities responsible for actually building the Nation's
infrastructure, that conform to the Department's goals.
May. 23. 1995 2:29PM
No. 3842 P. 4/16
Congress gave the Department a considerable amount of flexibility in ISTEA. It
permitted the use of Federal funds, which prior to the adoption of ISTEA were solely
available to fund grants, to make loans to finance transportation projects. In addition, it
permitted a more expansive use of Federal funds to finance toll facilities and made private
sector developed projects eligible for Federal financial assistance. ISTEA also provided
States with more flexibility in the use of Federal funds. The challenge now is to utilize these
statutory provisions to meet the changing world of infrastructure finance and to stretch the
authorized Federal funds as far as possible.
To alleviate the shortfall in available infrastructure capital, the Department is
advocating the development of State Infrastructure Banks, a mechanism through which States
could focus their innovative financing efforts. Under this initiative, States would be
permitted to deposit existing Federal transportation grant monies to fund a reserve and
provide credit enhancement for a State-level revolving loan program. Using grant moneys to
fund a loan program, rather than as equity for a project, will increase the amount of
available project funding. The State Infrastructure Bank proposal emanates directly from
recommendations included in the National Performance Review and also was included as a
line item in the President's budget.
The Department also has discussed the use of private funds to supplement government
funds for infrastructure projects. Governmental funds could go further if they were
supplemented by private capital. The concept also could result in improved operations of
infrastructure facilities if the private entity were also to operate the new facility, charging a
toll or fee to recover the private entity's investment in the project. This type of financing
structure, however, would require careful oversight and control by the State to ensure that
the rate of return to the private entity is reasonable, the tolls are not confiscatory and the cost
savings are passed on to the users.
In addition, the Department also has reviewed several possible additional uses of
Federal funds in order to reduce borrowing costs incurred in financing infrastructure
projects, including permitting grant funds to be used to fund debt service reserve funds and
purchase credit enhancements and using Federal funds to establish an insurance fund or
Federal guaranty program.
As will be discussed below, all of these concepts are affected by the Federal tax laws.
For these concepts to result in financially feasible and political acceptable programs, they
must be able to be integrated with tax exempt financing. The Department is supportive of
permitting tax exempt financing for projects that benefit the public as a whole, in order to
preserve the traditional savings that result from the use of tax exempt debt for governmental
and other approved purposes and projects.
2
May. 23. 1995 2:29PM
No. 3842 P. 5/16
Below is an outline of the general tax issues that are affected by the Department's
initiatives, followed by detailed comments on certain of the proposed private activity bond
rules that relate directly to the Department's desire to find the most efficient and effective
ways to raise and use funds to finance the Nation's transportation infrastructure.
General Tax Issues
1.
As an overriding matter, the Department believes that restricting private
participation in the funding of publicly accessible transportation and public infrastructure
projects will not have the desired effect of reducing the overall amount of tax exempt debt
issued to finance such projects. Given the infrastructure needs and the natural advantage
represented by tax exempt financing, such restrictions have caused and will continue to cause
these projects to be financed on a purely State and local governmental basis, with the use of
tax exempt governmental bonds. Accordingly, continued restrictions on private participation
will not reduce tax exempt bond volume, but will impede the use of private funds,
private/public partnerships and similar arrangements critical to the success of innovative
financing techniques.
2.
Under current tax law, private activity bond restrictions focus on private
business use of facilities financed with bond proceeds and the source of security or payment
for the bonds. The Department believes that, at least with respect to public transportation
and infrastructure projects, the focus instead should be on the ultimate public use and benefit
of the financed facilities. While the Department recognizes that without legislation the
Treasury's ability to accomplish such a shift in focus is limited, where possible the
regulations should provide for equal treatment for tax exempt financing for public
transportation facilities, regardless of the form of capitalization of the facility.
3.
The current tax rules regarding management contracts, equity interests and
developer incentives generally run counter to the implementation of modern financing
techniques to meet infrastructure needs. Again, while the Department recognizes that there
are certain limits to what Treasury can do without legislation, the Department believes that
rulemaking can provide more flexibility in this area as well.
4.
The Department does not propose that a private entity participating in funding
a public project should be able to "double-dip," i.e., benefit from the low cost of tax exempt
financing and at the same time take advantage of other tax benefits, such as depreciation.
The Department believes, however, that liberalization of the private activity bond rules to
encourage private participation in the area of public transportation and infrastructure projects
could provide for an allocation of the tax exempt financed portion of the project to limit any
undue benefits to the private participants.
Proposed Rules Regarding Definition of Private Activity Bonds
1.
Allocation Rules. Private equity participation in a publicly accessible
transportation project should not preclude the use of tax exempt debt for an otherwise
governmental project. At a minimum, governmental units should be permitted to finance the
portion of a project with respect to which there is no private use. For example, if a private
3 -
May. 23. 1995 2:30PM
No.
3842
P.
6/16
contractor for a toll road retains a 20% interest in the toll receipts, the governmental unit
should be permitted to issue tax exempt bonds for 80% of the project costs.
To accomplish this result, the basic definition of private activity bonds in Prop.
Treas. Reg. $1.141-2(c) should be modified to permit the private activity bond tests to be
avoided with respect to portions of a project. The mixed use rules contained in Prop. Treas.
Reg. $1.141-6(b) similarly would have to be redrafted to permit allocations between non-
discrete portions of a project.
In addition, the de minimus exceptions set forth in Prop. Treas. Reg. $1.141-3(f), and
in particular the "temporary use by developers" rule in -3(f)(2) should be recast consistent
with the foregoing. Again, some flexibility is needed to permit the tax-exempt financing of
the governmental portion of public/private collaborations. For example, if a contractor
constructs a transportation project under a turnkey contract and owns and operates the project
for an initial period before turning it over to the governmental entity, the allocation rules
described above should allow the governmental remainder interest to be financed on a tax
exempt basis.
2.
Management Contract Rules. A number of innovative financing techniques
that the Department would like to encourage for transportation projects involve "design-
build-operate" contracts, where the contractor is involved in all aspects of a project. Such
arrangements contemplate that the governmental entity will enter into a management contract
with the contractor for the operation of the project. Such contract will necessarily provide
for certain incentives as well as allowing for some protection to the contractor if it is
permitted to have a continuing equity investment.
The rules under Prop. Treas. Reg. 141-3(c) relating to management contracts
provide several categories of permissible arrangements. While the Department appreciates
the expansion of these categories to accommodate a substantial number of recurring
situations, it prefers the former regulatory approach, which created safe-harbors rather than
absolute limitations. The Department is unable to anticipate the precise provisions that will
be included the design-build-operate contracts, but is desirous of maintaining as much
flexibility as possible.
Another approach would be to use the concepts set forth in Code $142(b)(1)(B) that
are specifically applicable to management contracts for airports, docks, wharves and mass
commuting facilities to other transportation projects financed with governmental bonds, as
opposed to private activity bonds. Thus, if a management contract met the requirements of
$142(b)(1)(B)(i)-(iii), the manager's use could be ignored for purposes of the private activity
bond tests.
3.
Mixed Use Facilities Rules. Prop. Treas. Reg. $1.141-6(b) dealing with
mixed use facilities is workable for certain types of transportation facilities and poses
problems for others. These rules focus on allocations between discrete portions of integrated
facilities and permit tax-exempt financing for qualified, discrete portions. These rules as we
understand them would permit the financing of significant portions of intermodal rail
terminals.
- 4
May. 23. 1995 2:30PM
No. 3842 P. 7/16
The requirement that allocations between and among qualified and non-qualified
portions of a facility will only be permitted where the portions are discrete is an unnecessary
deterrent to certain other types of transportation facilities. Airport parking facilities, for
example, would be difficult to finance with governmental bonds under this rule, since the
qualified and non-qualified uses typically would overlap rather than occur in discrete portions
of the facility. The Department urges a more liberal allocation rule for the benefit of all
transportation facilities.
4.
Exceptions for General Public Use. Certain of the examples in the $1.141-
3(e) regulations reach results that the Department feels are unnecessarily restrictive to
transportation financings.
(a) Example 7 would appear to overrule PLR 8926043 (a ruling that the
Department supports), although it is sufficiently ambiguous to cause even larger concerns.
The Department does not understand why the airport parking facility in example 7 satisfies
the private business use test. Is the use by customers of the airlines private business use? If
so, do all airport parking facilities (and likewise airport access roads) therefore satisfy the
private business use test? The Department believes that a municipally-owned airport garage
or access road used by everyone who comes to an airport should not satisfy the private
business use test unless there are arrangements between private businesses, such as the
airlines, and the municipal owner that are tantamount to a use by the private businesses.
(b) Example 10 concludes that a public road is "used" by a private port simply
because at the time the road was financed the port was the only developed property near it.
It appears that the only use is by the highway authority. It constructed the road; it
presumably has to maintain it and may grant development rights appurtenant to it. This
regulatory interpretation could discourage innovative ways to finance construction and
improvements for all types of roads and has the potential to undermine Congressional support
for intermodal transportation facilities, such as the highway-to-port structure cited in the
example.
(c)
Example 6 deals with an airport runway and states that the bonds issued to
finance it satisfy the private trade or business use test. This conclusion is predicated on the
expected "use" of the runway by private carriers. The Department believes that in cases
where carriers are treated equally with respect to use and charges related to runways, and
where carriers entrance and exit from the airport is not hindered by long term leases and
other arrangements, that there is not a sufficiently strong proprietary interest in the runways.
Again, the benefit to the public from the use of the runways should be the primary factor in
determining private use.
5
May. 23. 1995 2:31PM
No. 3842 F. 8/16
T8DAN
4-18
Bruce:
4-27
I have had a series of discussions regarding the proposal that
you sent over on 3-17 and have tried to work out some concepts
based upon the numbers provided in the 4-3 meeting.
As expected, I am not exactly popular among the airport
protectors in DOT, but I was not told to quit either. A fair
description of the reaction of the staff in the Office of the
Secretary is "divided".
Importantly, nobody has suggested that DOT should ignore the tax
expenditure concerns associated with some parts of our proposals.
Please treat the proposal as very flexible.
I think that we both recognize that there are some mechanical
(and probably political) problems in implementing a "hard" State-
by-State TIVC. so, the attached is an attempt to balance all of
these issues. In order to provide background rationale, a
discussion document precedes the draft alternative. --- Also, I
should mention that I have not run the attached by the folks in
the Secretary's office yet. I will wait to see if I am off the
mark by a little or a lot.
I will be travelling on Wed and Thursday but will call in for
messages. If you want to discuss this in the next two days leave
a voice mail at 366-6092 and I will call you back.
Thanks
Steve
May. 23. 1995 2:31PM
No. 3842 P. 9/16
Comments related to the attached DOT proposal.
DOT's proposal reflects a number of constraints that exist. If these are not reflected in the
proposal and it fails, the alternative is that there are few if any aggregate issuance limitations
on transportation project tax-exempt debt issuance.
The attached seeks to treat the issue of "volume" with a longer run strategy than the proposal
of March 17. It is recognized that this does not cauterize us against potential short run
increases in issuance, but no more than if there is no proposal to address these issues.
Besides, it may be that current market conditions, especially interest rates, may be enough to
provide short run comfort about the volume issue.
The following are things that seem unresolved. The attached language proposes a framework
under which they might be incorporated into the proposal.
Larger transportation projects which would potentially cause a State to exceed any
limit are more likely to be providing benefits beyond the proponent-State's jurisdiction.
(We should discuss whether a High-Speed-Rail-like portion [50%?] of the bonds
issued for hub airports and Interstate-NHS roads should be partially exempt from State
volume caps.)
A "hard" state-by-state volume limit for transportation would bias construction to
local-benefit projects only. A national pool is needed. The attached includes a $1
billion number that needs an explanation of it source.
There is extreme deviation in the average per capita volume of issuance of
transportation tax-exempt private activity bonds among the States. The proposal needs
to reflect that the overwhelming majority of States do not contribute to any significant
volume problem or potential growth in volume. We do not want to alarm these States
with a widespread solution to a problem that is not theirs. (Given the range of
average issuance, I am not sure that we can come up with any proposal that works
reasonably among all 50 States after looking over the numbers provided.)
We do not know if adding facilities to Sec. 142 would actually lead to greater issuance
of aggregate tax exempt debt (for example the previous addition of high speed rail did
not) so a "triggered" concept might be more sellable. Also, there could merely be a
substitution of projects from Sec. 103 to Sec. 142 under certain public-private
partnership initiatives that results in no greater issuance.
Highways and transit facilities and equipment serve the general public and, effectively,
always have the option of issuing government purpose bonds which are not subject to
Federally imposed volume limits. Adding them to Sec 142 with strict limitations may
May. 23. 1995 2:31PM
No. 3842 P. 10/16
merely perpetuate the government-exclusive development of these facilities. --- DOT's
only interest in adding these facilities to Section 142 is to allow more creative
construction financing and capital formation (such as equity). It is not to allow
double-dip depreciation in addition to the use of tax exempt debt for the same dollar.
I think (but I am not sure) we are merely trying to employ the concepts reflected in
Sec 142(b)(1)(B) for these facilities to accommodate alternative financing structures.
There may be other ways of achieving these goals.
Given the available alternatives, there may be an Output Facilities-like option of how
to marginally measure highways and transit under the TIVC.)
The airports stand to fear or lose the most in any proposal. This needs to be mitigated
to some extent by providing alternative. We should discuss the following potential
options:
o
The following airport facilities would not be defined as a private business use
under the 12/29/94 NPRM for Sec 141: access roadways, circulation roadways
among and between passenger terminals, and free-standing parking facilities
whose revenue is not credited directly to airline cost centers. The remaining
airport facilities would be subject to the TIVC.
or
o
Limiting to 50% the airport's bonds that would be subject to the TIVC and let
each airport work out how to divided it up.
May. 23. 1995 2:31PM
No. 3842 P. 11/16
Proposed edits to 3-17-95 paper.
Item 2
A national-TIVC would be established. It would equal the average issuance over the 1990-
92 period or $7.2 billion. [Although we need to discuss this number given that there
would likely be substitution for government purpose issuance if highways and transit
equipment are added to Sec. 142]
Each State would have a TIVM [M=measure] equal to $20 per person [the average without
NY and CO] or the average per capita issuance in the period from 1990-1992 period,
which ever is greater.
o If the national TIVC is exceeded in any year after 1997, those States exceeding their
TIVM would be subject to a State-specific TIVC, if notified by Treasury [i.e. Treasury
could choose not to do it if there is an anomaly or a better jawboning alternative].
a) For the notified State, the State-specific TIVC would be equal to the $20 per person or
the per capital average issuance in the period from 1990-1992 period (i.e. its TIVM).
In order to exceed its TIVC in any future year the State could:
-
transfer amounts from its private activity bond volume cap into its TIVC.
-
have to apply unused allowance remaining from the preceding three years,
-
receive a volume allowance to be distributed by he Secretary, and/or
-
receive unused allowance transferred from other States.
b) Any State below its TIVM would be not subject to any TIVC until the year after
exceeding its TIVM (and only if the national TIVC had been triggered). [Admittedly
there is a one year escape of volume under this trigger.] Until subject to a TIVC, these
States may transfer unused allowances below their TIVM to other States but such
amounts would be counted in the transferring State's TIVM.
o The Secretary would have a discretionary TIVC allowance of $1 billion per year. States
requiring an allowance would request allocation from the Secretary who would allocate the
allowance to issuers in a State base upon projects of national significance that leverage the
Federal dollar most effectively. Treasury and OMB should be allowed a veto if criteria is
not employed.
a) The Secretary could carry forward any unused allowance for up to three years the
national-TIVC has been exceeded and Treasury has notified States in excess of their
State-specific TIVC.
May. 23. 1995 2:32PM
No. 3842 P. 12/16
THE ARE
THE
ASURT
1789
DEPARTMENT OF THE TREASURY
OFFICE OF TAX ANALYSIS
1500 PENNSYLVANIA AVENUE, NW
WASHINGTON, DC 20220
Number of Pages: 5
Date: 3/17/95
TO: Steve Martin
Name
FAX number
Confirmation no.
FROM: Brue Davie
622-2976
Name
Phone до.
Sender's FAX Number: (202) 622-0236
Location: Room 4112 MT
Sender's Confirmation Number: (202) 622-2659
Comments/Special Instructions: Here itl
bond proposal. Setting State-State
volume Cups will be a problem.
NOTE: THIS MESSAGE IS INTENDED ONLY FOR THE USE OF THE INDIVIDUAL OR ENTITY TO WHOM
IT IS ADDRESSED AND MAY CONTAIN INFORMATION THAT IS PRIVILEGED CONFIDENTIAL AND/OR
RESTRICTED AS TO OR EXEMPT FROM DISCLOSURE UNDER APPLICABLE LAWS. If the recipient of this
message 15 not the addresses (1.0.) the intended recipient. you are hereby nouthed that you should not read this document
and that any dissemination. distribution, or copying of this communication except insofar " necessary to deliver this
document to the intended recipient, is surietly probibited. If you have received this communication in error. please notify
the sender immediately by telephone, and you will be provided further instruction about the return or destruction of the
this document. Thank you.
UNCLASSIFIED
May. 23. 1995 2:32PM
No. 3842 P. 13/16
Transportation Infrastructure Bonds
Current Law
In general, the interest paid on bonds issued by State and local
governments is not exempt from Federal income tax if the bonds
are private activity bonds. A bond is a private activity bond if
it is part of an issue more than 10 percent of the proceeds of
which are to be used for any private business use and if debt
service payments on more than 10 percent of the issue are secured
by any interest in, or are to be derived from payments in respect
of, private use property. Additionally, if more than 5 percent
of the proceeds of an issue are to be used to make loans to
persons other than State or local governments the bonds are
private activity bonds. Bonds issued by State and local
governments that are not private activity bonds are "governmental
bonds."
As exceptions to the general rule making the interest on private
activity bonds taxable, bonds that are "qualified bonds" may be
issued as tax-exempt bonds. Most qualified bonds are subject to
annual caps on the volume of issuance in each State. The volume
cap equals the greater of $150 million or $50 per capita.
One type of qualified bond is an "exempt facility" bond. Two of
the four categories of transportation-related exempt facility
bonds, those for airports and for docks and wharves, are not
subject to any limitation on volume of issuance. Bonds for mass
commuting facilities are subject to the private activity bond
volume cap. Bonds for high-speed intercity rail facilities are
not subject to the volume cap if the facilities are owned by a
State or local government (even if used by a private person). If
such facilities are privately owned, 25 percent of any bond
issued to finance them is subject to the private activity bond
volume cap.
To be treated as an exempt facility, airports, docks and wharves,
and mass commuting facilities must be owned by a State or local
government but may, under specified conditions be leased to or
managed by private persons. All of these transportation-relatad
exempt facilities are subject to statutory limitations regarding
the extent to which they may contain storage, training, office
space, and retail facilities. These exempt facilities cannot
contain any lodging, industrial park or manufacturing facilities.
Transportation-related exempt facility bonds are subject to rules
relating to arbitrage that apply universally to tax-exempt bonds.
Tax-exempt bonds generally may not be issued for the purpose of
acquiring higher-yielding assets. Earnings in excess of bond
yields on investments held in certain reserve accounts or for
temporary periods must be rebated to the Federal government,
1
May. 23. 1995 2:32PM
No. 3842 P. 14/16
subject to various de minimis and other exceptions. Where the
purpose of a tax-exempt bond issue is to make loans to other
government entities or for a qualified private use, the spread
between the interest rate on the loans and the bond yield
generally can be no more than one-eighth of one percentage point.
Funds dedicated to the payment of interest or principal on bonds
(such as a sinking fund) are treated as bond proceeds for
purposes of the arbitrage rules.
Special rules apply to "pooled financing bonds." For such bonds
to be tax exempt, it must be reasonably expected at the time of
issue that at least 95 percent of the net proceeds of the issue
(less proceeds, if any, used to pay issuance costs or interest
during the three-year period) will be used to make or finance
loans to ultimate borrowers.
In general, State and local government bonds guaranteed by the
Federal government are not tax-exempt. In addition, exempt
facility bonds, like other qualified private activity bonds
generally, are subject to limitations regarding financing of the
costs of issuance with bond proceeds, the maturity of the bonds,
and the use of proceeds to acquire land or used property. Public
approval is also required.
Reasons for Change
The Department of Transportation intends to set aside $2 billion
per year to distribute to States as a contribution to the funding
of State Infrastructure Banks (SIBs). States would be encouraged
to leverage these Federal grants by contributing other funds,
including the proceeds of tax-exempt bonds, to the SIB. SIBs
would use these capital funds to make loans to Local governments
and private entities for transportation-related projects.
Allowable uses of such loans under current law tax-axempt bond
rules may not be consistent with State priorities for improving
and expanding transportation infrastructure. Allowing States the
flexibility to reallocate bond issuance toward their highest
transportation-related priorities should improve the safety and
efficiency of the nation's entire transportation system without
increasing the total amount of tax-exempt bonds issued. Current
law tax-exempt bond provisions will have to be amended to permit
this flexibility.
Proposal
1. Bonds issued by a State to leverage Federal contributions to
a SIB would be tax-exempt under the current law exempt facility
bond rules so long as the loans made by the SIB are for
transportation purposes qualifying for tax-exempt bond financing
under current law or are for one of three new categories of
exempt facilities:
2
May. 23. 1995 2:33PM
No. 3842 P. 15/16
mass commuting vehicles - any bus, subway car, rail car,
ferry or similar equipment used in providing a system of
mass commuting services that serves the general public.
toll transportation facilities - any toll road, bridge,
tunnel, or ferry boat serving the general public.
intermodal transportation facilities - any road, rapid
transit system, or railroad connecting the terminus of one
mode of transportation with that of another, for example, a
port to a railhead or an airport to a mass transit system.
such a facility need not serve the general public. The
governmental ownership, limitations on office space, and
other rules currently imposed on airports, docks and wharves
and mass commuting facilities by section 142 (b) and (c)
would apply.
Current law rules applicable to exempt facility bonds, including
arbitrage rebate, restrictions on depreciation, limitations on
bond-financed cost of issuance, etc., would apply to this new
category of exempt facility bonds, unless indicated to the
contrary below.
2. A transportation infrastructure volume cap (TIVC) would apply
to the annual issuance in each State of private activity
transportation bonds, defined to include the four categories of
transportation-related exempt facilities permitted under current
law and the three new categories.
The aggregate TIVC for all States would equal the average
volume of issuance of the four current law categories of
transportation-related exempt facility bonds issued during
the 1987 - 1994 period, without regard to refunding issues.
Each State's TIVC would be based on its share of the
average issuance of transportation-related exempt facility
bonds issued over the 1987 - 1994 period, as determined in
regulations.
Each year after 1996, each State's TIVC would be adjusted
for population change in the same manner as the current law
private activity bond cap is adjusted.
A State could elect to transfer amounts from its private
activity bond volume cap into the TIVC.
A State could transfer its TIVC to another State.
A State could carry unused TIVC forward for up to three
years without identifying the specific project for which the
carry-forward amount is to be used.
3
May. 23. 1995 2:33PM
No. 3842 P. 16/16
Transportation-related exempt facility bonds issued
without the involvement of a SIB would be subject to the
TIVC.
A SIB loan for a qualified transportation-related exempt
facility would be counted against the TIVC at the time the
loan was made.
Loans made by a SIB for governmental purposes, e.g., a
loan to a local government to improve its road or publicly
owned and operated transit system, would not be subject to
the TIVC. Similarly, governmental bonds for transportation
purposes issued by a State or local government without SIB
involvement would not be subject to the TIVC.
The 5 percent unrelated use test of section 141 (b) (3)
would be raised to 10 percent for bonds subject to the TIVC.
3. Funds granted by the Federal government to a SIB would not be
considered bond proceeds. Thus interest earned on those funds
would not be subject to arbitrage restrictions or arbitrage
rebate. Temporary investment of such funds would be limited to
U.S. Treasury securities and bank deposits. Federal
contributions to a SIB would not trigger the prohibition against
Federally guaranteed tax-exempt bonds.
Effect on Revenues
The TIVC will be set so as to have no material effect on
revenues.
4
TOTAL P.05
JUN-02-1995 11:14
P.02/07
Bruce F. Davie
DRAFT-June 2, 1995
Tax-Exempt Bonds for Private Toll Roads
Introduction
This paper responds to a request from CEA and OMB staff to
develop some options for legislative changes to the tax-exempt
bond rules that would allow bonds to be issued for a privately
owned and/or operated toll road (including a highway bridge or
tunnel) available for use by the general public.' The request
was for a set of options that would not result in an increase in
the aggregate amount of tax-exempt bonds expected to be issued,
thus making any of the options revenue neutral.
This paper does not present the arguments for and against toll
roads in general or private toll roads subsidized through tax-
exempt bond financing in particular. The paper takes as given
the desirability of fostering private toll roads.
Current Law
In general, the interest paid on bonds issued by State and local
governments is not exempt from Federal income tax if the bonds
are private activity bonds. A bond is a private activity bond if
it is part of an issue more than 10 percent of the proceeds of
which are to be used for any private business use and if debt
service payments on more than 10 percent of the issue are secured
by any interest in, or are to be derived from payments in respect
of, private use property. Additionally, if the lesser of $5
million or 5 percent of the proceeds of an issue are to be used
to make loans to persons other than State or local governments
the bonds are private activity bonds. Bonds issued by State and
local governments that do not violate the private activity bond
tests are "governmental bonds."
As exceptions to the general rule making the interest on private
activity bonds taxable, bonds that are "qualified bonds" may be
issued as tax-exempt bonds. Most qualified bonds are subject to
annual caps on the volume of issuance in each State. The volume
cap equals the greater of $150 million or $50 per capita.
One type of qualified bond is an "exempt facility" bond. Two of
the four categories of transportation-related exempt facility
bonds, those for airports and for docks and wharves, are not
1
"Available for use by the general public" is a term of
art in the tax-exempt bond rules. Its use here means that a toll
road serving a single private facility, for example, a toll road
where the only destination was a privately owned and operated ski
resort, would not qualify but a Dulles toll road-like facility
would qualify.
JUN-02-1995 11:14
P.03/07
subject to any limitation on volume of issuance. Bonds for mass
commuting facilities are subject to the private activity bond
volume cap. Bonds for high-speed intercity rail facilities are
not subject to the volume cap if the facilities are owned by a
State or local government (even if used by a private person). If
such facilities are privately owned, 25 percent of any bond
issued to finance them is subject to the private activity bond
volume cap.
To be treated as an exempt facility, airports, docks and wharves,
and mass commuting facilities must be owned by a State or local
government but may, under specified conditions be leased to or
managed by private persons. All of these transportation-related
exempt facilities are subject to statutory limitations regarding
the extent to which they may contain storage, training, office
space, and retail facilities. These exempt facilities cannot
contain any lodging, industrial park or manufacturing facilities.
In general, State and local government bonds guaranteed by the
Federal government are not tax-exempt. In addition, exempt
facility bonds, like other qualified private activity bonds
generally, are subject to limitations regarding financing of the
costs of issuance with bond proceeds, the maturity of the bonds,
and the use of proceeds to acquire land or used property.
Public approval of the bond issue is also required.
Privately owned depreciable property financed with tax-exempt
bonds is not eligible for accelerated depreciation. If this
general rule were applied to bond-financed roads, private owners
would have to depreciate roads over 20 years, on a straight-line
basis.
Option 1: Create a Separate Private Activity Bond Volume Cap for
Transportation Facilities and Allow Tax-Exempt Bonds for Private
Toll Roads Within That Volume Cap
Proposal. Toll roads would be listed as a new category of exempt
facility bonds, subject to the rules of sections 141 (b) (2),
2 The latter constraint is significant in this regard. It
means that, if a new category of exempt facility bonds were
created for toll roads, tax-exempt bonds could not be issued
simply for a private person to buy an existing facility (e,g, the
Golden Gate Bridge). The general rule for private activity bonds
is that structures (other than buildings) cannot be acquired with
tax-exempt bonds unless an amount equal to 100 percent or more of
the tax-exempt bond proceeds used to acquire the structure is
used to rehabilitate it. Similarly, no more than 25 percent of
an issue can be used to acquire land. The whole idea behind
these rules is to prevent the value of the interest rate subsidy
from merely being capitalized into the value of existing assets.
2
JUN-02-1995 11:15
P.04/07
regarding limits on office space, 141 (c) (1), allowing related
storage and training facilities, and 141 (c) (2), ruling out
certain retail and commercial facilities as part of an exempt
activity bond financed project. The governmental ownership rule
of section 141 (b) (1) would not apply, thus allowing the private
owners to depreciate the road and other property (but not, of
course land). 3
Note: This definition of toll road bonds as a type of exempt
facility bonds would also be used in the context of options 2 and
3.
All private activity bonds for transportation purposes permitted
under current law (airports, docks and wharves, mass commuting
facilities, and high-speed rail facilities) as well as private
activity bonds for toll roads would be put under a State-by-State
volume cap such that aggregate issuance is unaffected. State
shares would be based on population. To accommodate projects of
importance to more than one State, States would be allowed to
issue bonds for projects in adjoining States as well as in their
own. Unused cap amounts could, under rules similar to the
private activity bond cap, be carried forward for up to three
years.
The proposal could be made more elaborate by setting aside $1-2
billion per year from what would otherwise be the revenue neutral
volume cap for the Secretary of DOT to allocate to projects of
national importance, say another major airport. Private activity
bonds for other transportation facilities not permitted under
current law could be permitted within this cap, such as mass
commuting vehicles, intermodal facilities, rail passenger
facilities or high-speed rail vehicles.4 States could be allowed
to transfer private activity bond volume cap authority to augment
the transportation cap (but no transfers from the transportation
cap to the private activity bond cap would be permitted).
Advantages. Because, under current law, tax-exempt bonds can be
issued without limit for airports and docks and wharves, they are
issued to finance projects where there is arguably little or no
public benefit, e.g., package handling facilities for individual
air freight companies, dock facilities to serve a single
importer, airplane repair facilities for a single airline. The
private companies involved in these projects encourage
3 For airports, docks and wharves, mass commuting
facilities, and high-speed rail facilities to qualify for tax-
exempt bond financing, the property must be governmentally owned,
meaning in part that no private person can claim depreciation
deductions with respect to the property.
4
Any new use would require a careful definition.
3
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governments to offer them the best deal in return for locating in
a particular place. The best deal often includes issuing bonds.
This practice is thought to lead to overcapacity, particularly in
port facilities. Under the proposal, States would be able to use
bonds for toll roads at the expense of some of these lower
priority uses without any expansion in aggregate volume.
Disadvantages. Because transportation facilities are inherently
lumpy and may provide benefits to persons outside the State in
which the facilities are located, a State-by-State volume cap
based on population is hard to defend. Airlines and airports
will vigorously oppose such a cap because their open-ended access
to tax-exempt bond financing would be cut off. Since localities
generally control airports, they will oppose transferring the
keys to bond access to the States. There are no strong interest
groups pushing on the other side for bond-financed toll roads.
More generally, opening up the tax-exempt bond sections of the
Code will bring forth a variety of proposals to liberalize the
rules. For example, the Public securities Association and other
groups have called for increasing the volume cap because so many
states are constrained by it. This disadvantage applies to the
other options as well.
Option 2: Allow Tax-Exempt Bonds for Private Toll Roads Within
Private Activity Bond Volume Cap
Proposal.
Exempt facility toll road bonds would be subject to
the private activity bond cap. To off-set the minimal revenue
loss that may result from states not fully using their volume cap
issuing some toll road bonds, the use of tax exempt bonds to
finance airplane repair facilities and cargo handling facilities
at airports would be disallowed.
5
Any other method of dividing up a limited aggregate
volume would also be contentious. For example, basing State
shares on actual volume of issuance over a period of years would
reward those that just happen to have been heavy issuers (such as
Colorado with the Denver airport) during the base period. The
alternative of allowing the Secretary of Transportation to
allocate the entire amount runs counter to basic American notions
of fiscal federalism.
6 This provision is subject to further analysis to
determine the amount of toll road bonds that may be expected to
be issued in states that do not currently use their entire volume
cap and whether that amount is matched by expected (uncapped)
issuance of bonds for airport maintenance and cargo handling
facilities. The use of tax-exempt bonds to finance such
facilities benefits individual corporations rather than the
public at large, as in the case of terminals, and hence may be
4
JUN-02-1995 11:16
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Advantages. Because many states, particularly the larger ones,
use their cap completely, there would be little revenue loss
involved in allowing a new category of bonds to come within the
cap. If states who use their cap fully view toll road bonds as a
higher priority use of their volume cap, they would simply
allocate less of the cap to lower priority uses, e.g., mortgage
revenue bonds, leaving aggregate issuance unaffected.
Disadvantages. Some states do not use their entire volume cap
and might issue bonds for private toll roads or bridges thus
leading to a revenue loss attributable to the increased volume.
Opposition will arise to any provision designed to reduce the
volume of some other type of bonds in order to offset the revenue
loss. Other users of the volume cap may oppose the measure
because their issuance is threatened by the possibility of being
judged a lessor priority.
option 3: Allow Tax-Exempt Private Activity Bonds for Toll Roads
Without Being Subject to a Cap and Offset Expected Revenue Loss
with Other Constraints on the Use of Tax-Exempt Bonds
Proposal. Exempt facility toll road bonds would be allowed to be
issued without limit and the resulting expansion of bond issuance
offset by disallowing certain categories of tax-exempt bonds,
including some categories currently treated as governmental
bonds. The following menu of tax-exempt bonds is offered as
potential offsets without the analysis having as yet been done to
identify the expected incremental volume of resulting from
unconstrained issuance of private activity toll road bonds and
hence the magnitude of the offset needed.
1. Bonds for manufacturing facilities issued outside the
context of small issue IDBs that are not private activity
bonds because the security interest test is not met. Debt
service on the bonds is paid from some source other than a
stream of revenue resulting from use of the bond-financed
property. (Alabama is set to do a $147 million deal to
regarded as a lesser priority use of tax-exempt bonds.
Restrictions on some other use of tax-exempt bonds, unrelated to
transportation, could also be used as an off-set.
7 To some extent bonds for private toll roads may
substitute for governmental highway bonds and not directly expand
volume. There can be an indirect effect, however. If the State
is constrained by its own debt limitations shifting general
obligation highway debt to private activity bonds may free up
authority under State law to issue for some other purpose. In
other cases the ability to issue private activity toll road bonds
may accelerate issuance that would otherwise take the form of
governmental bonds.
5
JUN-02-1995 11:16
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finance the mew Mercedes plant, using receipts from a trust
fund created from exploitation of off-shore oil rights.)
Note: The list of such prohibited uses could be expanded to
include hotels and sports teams, (two uses where deals are
pending) and more generally commercial property.
2. Bonds for stadiums used by professional sports teams
where the security interest test is broken because the debt
service is paid out of a dedicated tax, such as a hotel tax,
rather than rent payments for use of the stadium. Several
stadium deals have been done on this basis and more are in
the offing, often to finance movement of a team from some
other city.
3. Bonds for electric generating facilities. As the nation
moves toward the deregulation of electric generation, it
will be increasingly tempting for cities to try to "make
money" by using bonds to finance generating facilities used
principally to sell power to a grid. some municipalities do
this now. Taxpayers generally should not have to help pay
for the electricity consumed by those served, a result of
historical accidents, by public power systems.
4. Airport bonds for package handling, maintenance
facilities, fuel storage facilities and other "non-public"
uses.
5. Port bonds used to build facilities for a single
importer.
Advantages. This approach reduces the complexity of introducing
toll roads as a permissible form of exempt facility bonds and
minimizes opposition to the proposal by finding the offsetting
volume in abusive or low priority uses of tax-exempt bonds.
Disadvantages. Any category of bonds has its defenders who will
vigorously oppose any attempt to disallow that category. Given
the uncertainties of estimating what the volume of private
activity toll road might be, it will be difficult to defend the
precise extent to which other uses of tax-exempt bonds would be
cut back.
6
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DEPARTMENT OF THE
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DATE: June 2, 1995
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