Alert January 28, 2010

BABs Go (Slightly) Private

The Franklin County Convention Facilities Authority in Ohio recently issued $160 million of taxable Build America Bonds (BABs) to finance the construction of a Hilton hotel in the City of Columbus.  The Authority will own the hotel, which is being constructed next to a convention center in an effort to boost attendance at the convention center and generally benefit the city’s economy.  Debt service on the BABs will be paid from a combination of hotel revenues and the hotel’s bed tax.

To date, most issuances of BABs have been utilized to finance public purpose infrastructure rather than projects that include a private use.  The IRS has confirmed, however, that BABs can be used to finance facilities that include a private use component so long as the bonds are not “private activity bonds” within the meaning of the Section 141(a) of the Internal Revenue Code.

A bond is considered a private activity bond if, with certain exceptions, it meets the “private business use test” (i.e., if more than 10% of the bond proceeds are used for a private business use) and the “private security or payment test” (i.e., if more than 10% of the bond proceeds are secured by or payable from property used for a private business use).  A bond is also considered a private activity bond if, again with certain exceptions, the lesser of (i) $5 million or (ii) greater than 5% of the bond proceeds are used to make loans to non-governmental borrowers (the “private loan financing test”).

Contrary to practitioners’ more conservative notions, the Hilton Hotel financing in Ohio clarifies that BABs may be utilized for a wider range of projects and may be secured by a broader range of revenue sources than previously thought.  For example, BABs may be utilized to finance a sports stadium or other project benefitting a non-governmental entity, so long as the project is owned by a public entity and not more than 10% of the debt service payments are derived from private revenues.  Assuming the yields on BABs stay competitive, an increasing number of issuers and developers are likely to use the security to finance public-private projects.