1 Build America Bonds and Recovery Zone Bonds 1611 Pond Road Suite 300 Allentown, PA ● ● (fax) presented by John F. Lushis, Jr. and John J. Eagan

2 Background On February 17, 2009, President Obama signed into law the “American Recovery and Reinvestment Tax Act of 2009”, commonly referred to as the “Stimulus Bill” (the “Stimulus Act”). The Stimulus Act created two categories of Bonds 1. Build America Bonds 2. Recovery Zone Bonds a. Recovery Zone Economic Development Bonds b. Recovery Zone Facility Bonds

3 Background The Build America Bonds are similar to traditional tax-exempt bonds with one critical distinction. Rather than bearing a tax-exempt rate, the Bonds bear interest at a taxable rate but carry special tax credits and federal subsidies for either the bond issuer or the bondholder. The Recovery Zone Economic Development Bonds bear a taxable rate, with a tax payment to the issuer. The Recovery Zone Facility Bonds are tax exempt. There is a $15 billion nationwide allocation for Build America Bonds, a $10 billion allocation for Recovery Zone Economic Development Bonds and a $15 billion allocation for Recovery Zone Facility Bonds.

4 Build America Bonds ‘BABs’ BABs offer governmental entities a new source of funds for projects such as public buildings, courthouses, schools, roads, transportation infrastructure, water and sewer projects and energy projects. Eligible issuers are state and local governments. The purpose of BABs is to reduce the cost of borrowing for state and local government issuers. BABs can be issued in place of traditional governmental bonds but may be issued only for those purposes for which governmental bonds may be issued under existing law. BABs cannot be used for private activities or for 501(c)(3) purposes.

5 Build America Bonds ‘BABs’ The Stimulus Act provides that until a state legislature provides otherwise, interest and credits attributable to BABs are treated as exempt from federal income tax for purposes of state income tax. BABs must be issued prior to January 1, No volume cap allocation. BABs are subject to the arbitrage rules in Section 148 of the Internal Revenue Code. There are two types of BABs: 1. Tax Credit BABs 2. Direct Payment BABs

6 Tax Credit BABs Bondholders receive a non-refundable federal tax credit in the amount of 35%of the interest paid on the Bonds. The credit applies to taxable year of interest payment but may be carried forward. Credit counts as taxable income. Can be used to finance new capital expenditures AND funding of prior issues, current and advance refunding, and cash flow borrowings.

7 Direct Payment BABs The issuer of the bonds receives a direct payment from the federal government in the amount of 35% of the interest paid to the bondholders in lieu of the tax credit to the bondholder. The payment is made by the U.S. Department of Treasury directly to the issuer or to the paying agent, contemporaneously with interest payment date. Only available for new money bond issues where 100% of the available project proceeds are used for capital expenditures. “Available project proceeds” are the bond proceeds less reasonably required reserve funds and the costs of issuance (not to exceed 2%). Payment Procedures-- issuers must submit IRS Form 8038-CP, Return for Credit Payments to Issuers of Qualified Bonds, to the IRS to request a payment of the credit. Payment will be made within approximately 45 days of filing the form.

8 BAB Examples Issuer decides to issue Tax Credit BABs paying 6% interest. The bondholder will receive a tax credit of 2.1% (35% x 6%) for an effective yield of 8.1% Issuer decides to issue Direct Payment BABs paying 8%. The issuer receives a direct payment of 2.8% (35% x 8%), resulting in a net effective payment by the issuer of 5.2%.

9 Recovery Zone Bonds There are two types of Recovery Zone Bonds: 1. Recovery Zone Economic Development Bonds 2. Recovery Zone Facility Bonds

10 Recovery Zone Economic Development Bonds (RZEDBs) Used for “Qualified Economic Development Purposes”, which include public projects and programs (including capital expenditures, expenditures for job training and educational programs) in “recovery zones”; bond proceeds cannot be used for private activity or 501(c)(3) purposes. A recovery zone is an area designated by counties/large municipalities (cities with a population of 100,000 or more) as having: 1.Significant poverty 2.Significant unemployment 3.Significant home-foreclosure rates 4.Significant general distress 5.Any area that has been designated as an empowerment zone or a renewal community 6.Any area affected by military closure or realignment.

11 Recovery Zone Economic Development Bonds (RZEDBs) Bonds are direct payment bonds – the payment is made to the issuer and is 45% of the interest paid to bondholders. Can be issued by all cities with a population of over 100,000 and all counties. Federal Davis-Bacon prevailing wage rules apply. Bonds must be issued prior to January 1, 2011.

12 Recovery Zone Economic Development Bonds (RZEDBs) The Stimulus Act earmarked $10 billion nationwide allocated among the States in proportion to their relative job losses; sub-allocations have been made within the States to counties and to large cities based on relative job losses. Allocation to Pennsylvania - $154,008,000 Allocation to Allentown - $2,274,000 Allocation to Lehigh County - $5,743,000 Allocation to Northampton County – $6,929,000 By contrast, Michigan was allocated $773,050,000

13 Recovery Zone Economic Development Bonds (RZEDBs) Each county or large municipality may waive its allocation to the State. A State may re-allocate volume to any issuer. A county may allocate its volume to any issuer e.g., development authorities, within the county.

14 Recovery Zone Facility Bonds (RZFBs) A form of tax exempt “exempt facility” bonds that can be used to finance depreciable property used in a trade or business in a recovery zone that: –Was acquired, constructed, reconstructed, or renovated after the designation of the recovery zone; –The original use of which occurs in the recovery zone; and –Substantially all of the use of the property is in the active conduct of a “qualified business”. “Qualified business” includes any trade or business such as office buildings, warehouses and hotels, but excludes residential facilities and “bad projects” such as golf courses, massage parlors, gambling facilities. 95% or more of the rest of the proceeds must be used for “recovery zone property”, which is depreciable property that is located and first used in the active conduct of a “qualified business” in a recovery zone.

15 Recovery Zone Facility Bonds (RZFBs) RZFBs can be issued in place of conventional financing. Tax-exempt interest rates are lower than conventional financing rates. As with RZEDBs, RZFBs can be issued by cities with a population of over 100,000 and all counties must be issued by January 1, Volume cap is not required. Federal Davis-Bacon prevailing wage rules do not apply.

16 Recovery Zone Facility Bonds (RZFBs) The Stimulus Act earmarked $15 billion nationwide on the same basis as the allocation for RZEFBs. Allocation to Pennsylvania - $231,012,000 Allocation to Allentown - $3,411,000 Allocation to Lehigh County - $8,615,000 Allocation to Northampton County – $10,394,000 By contrast, Michigan was allocated $1,159,575,000 Allocations can be waived or re-allocated in the same manner as with RZEDBs

17 Establishment of Recovery Zones The County or the large municipality designates a certain area as a recovery zone. Factors to consider: –Political –Reasons for designation e.g., distress County or large municipality selects projects based on factors such as job creation. County or municipality selects the issuer of the Bonds – County or large municipality – IDA or other authority – Local municipality

18 Establishment of Recovery Zones Issuer adopts an Inducement Resolution. County or large municipality works with Underwriter and Bond Counsel. Closing For RZEDB’s, County or large municipality must file IRS Form 8038-CP in order to receive the credit from the Federal Government.

19 Case Study Two years ago, a developer purchased a 40-acre commercial office complex that had been owned by a corporation that moved its headquarters to a warmer climate. The complex has substantial road and utility infrastructure but none of this infrastructure has been dedicated to public use. The developer has decided to make substantial renovations to the complex, including lead paint removal, other safety improvements, and HVAC upgrades, and build an additional facility or facilities for lease or sale.

20 Case Study Ultimately, the developer desires to dedicate the roads, water and sewer facilities to the local municipality for public use. The total cost of the development is $40 million. Although the developer has procured some preliminary lease commitments, the challenging economic climate has precluded the procurement of adequate conventional financing on terms and conditions satisfactory to the developer.

21 Case Study Alternatives available: 1. The developer can seek to have the area where the project is located designated as a recovery zone and assuming an allocation has been made, the County then can issue RZEDBs to pay for the costs of the roads, water and sewer facilities, (public facilities). Even if no allocation has been made, the County can issue Tax Credit BABs or Direct Payment BABs. 2. If the project is in a designated recovery zone and an allocation has been made, the commercial development, even though primarily private, can be financed via the issuance by the County of RZFBs, with the bond proceeds loaned to the developer.

22 Recovery Zone Facility Bonds (RZFBs) Authority BANK BorrowerBond Trustee Bondholders Project Construction Fund Letter of Credit Assign Loan Agreement and Note Note Loan Agreement Reimbursement Agreement Owns Project $ $ $ RZFB Bond

23 Conclusion Build America Bonds and Recovery Zone Economic Development Bonds provide a new source of funds for public projects. Recovery Zone Facility Bonds provide a new source of funds for private projects. The Bond program has a limited life and issuers need to act promptly to tap into their allocations.

24 Thank You! 1611 Pond Road Suite 300 Allentown, PA ● ● (fax) presented by John F. Lushis, Jr. John J. Eagan