Economy design
Bedrock Tools
Bond Finance - Overview
Bond use dates back over 100 years with the tax reform act of 1986 shaping
today’s use
A bond is a loan
A loan is a promise to pay
Loans have two components – Principal & Interest
Principal = Amount borrowed
Interest = Amount it costs to borrow the principal
Projects value low interest capital….enter bond financing!!
Bond Finance – How it Works
Units of government (ISSUERS) borrow regularly in the tax-exempt bond
market by pledging revenues to pay back the bonds
Remember a bond is just a loan
Investors (BOND BUYERS) fund these loans and provide the principal capital
The bond buyer sets the terms and interest rate for the bond
As a tax-exempt bond, the bond buyer is afforded exemption from income
tax on interest income earned on this investment
Meaning, the investor does not pay income tax on interest earnings
As such, the bond buyer offers a lower interest rate to the borrower
Bonds – Two General Types
Government (GO) Bonds – are tax-exempt, used for public projects
Private Activity Bonds (PABs) – are tax-exempt, utilized for economic development
What can they finance?
Roads, bridges, sewers, water treatment plants, dams
City halls, prisons, schools, hospitals, libraries, YMCAs, museums
Parks, swimming pools, community centers, universities,
Stadiums, theaters, music halls, clinics
Recycling plants, energy generation facilities, solar fields
Small manufacturing facilities, first-time farmers, non-profits, affordable housing
And much more
Bond Finance – Simplified Process
1. Project – Issuer identifies a project and determines if it qualifies for
tax-exempt financing
2. Legal & Finance – Counsel and underwriters prepare documents,
legal opinions and offering statements to price and sell bonds in
capital markets
3. Placement – Underwriter places (sells) bonds with investors (bond
buyers) raising principal for project
4. Pledge – Issuer pledges revenues (taxes, fees, appropriations,
proceeds, etc.) to pay back the bond
Bond Finance – Simplified Process
4. Repayment – The bond is paid back over prescribed timeframe with
regular principal and interest payments
5. Trustee – Acts as fiduciary agent on behalf of bond holders (bond
buyers) and manages payments
Benefit to Borrower – Lower cost capital for public purpose investment
Benefit to Investor – Bond buyer receives relief from federal and state
income taxes on interest earnings on bonds
Borrowers, Issuers & Conduit Bonds
The issuer and borrower are not always the same entity
An issuer can be a borrow (such as a city, county, etc.)
Issuing bonds for their own public benefit purpose
However, a borrower does not have to be an issuer
Certain borrowers (non-profits, first time farmers, manufacturers, hospitals, etc.)
may use an issuer to access bond financing
This type of issuance is called conduit bond financing
Borrowers, Issuers & Conduit Bonds
Bonds issued on a conduit basis are not backed by the issuer
Conduit bond debt is solely the responsibility of the borrower
Issuer has no responsibility to pay back the bonds
This type of bond is called a non-recourse conduit bond
Private Activity Bonds are typically issued on a conduit basis
Types of Private Activity Bonds (PABs)
Exempt Facility Bonds – Can be used for airports, docks, wharves, mass-
community facilities, etc.
Qualified Redevelopment Bonds – Infrastructure projects that do not meet
the requirements of GOs may qualify for tax-exemption if they meet several
tests of "qualified redevelopment bonds; " e.g., proceeds used for
redevelopment purposes in designated blighted areas, etc.
Qualified 501(c)(3) Bonds – Bonds used to finance projects owned and used
by 501(c)(3) organizations. Two types - hospital bonds and nonhospital bonds
Types of Private Activity Bonds (PABs)
Qualified Exempt Small Issues – IDBs for qualified manufacturing projects
including purchase, construction, extension and improvement of warehouses,
distribution facilities, industrial plants, buildings, fixtures and machinery.
Aggie Bonds - Support beginning farmers and ranchers with eligible purchases
of farmland, equipment, buildings and livestock.
Other Revenue Bonds – Allow revenue-generating entities to finance a
project and then repay debt generated revenue. Toll roads and bridges,
airports, seaports and other transportation hubs, power plants and electrical
generation facilities, water and wastewater (sewer).
Why Communities Use Bonds
Opportunity to invest in projects and businesses that are critical the
health of the local economy and community
Ability to directly influence ROI for development projects
Easy to promote and monitor with performance measures
Low cost and secure source of financial support and alterative to
industry and non-profit borrowers
Can issue on conduit basis without backing (PABs)
Why Borrowers Use Bonds?
Alternative lending choice (conventional loans vs. tax-exempt borrowing)
Potentially lower interest rates and cost of capital (conventional loans
vs. tax-exempt)
Tax-exempt status to buyers of bonds – attractive investment security
Access to capital that may not otherwise exist for some borrowers (non-
profits, first time farmers, small manufacturers)
Bond Players
Issuers – 55,000+ nationwide, must have authority to issue
Bond Counsel – legal public finance experts
Underwriters – sells and/or places the bonds in market
Trustee – fiduciary agent for the bondholders
Investors – those who actually purchase the bonds
Financial Advisor – independent reviewer for issuer
Rating Agencies – independent credit review entities
Notes on Bonds
Market forces at play – when traditional interest rates are low, bond
use tails off, when traditional interest rates go up, bond issuance
tends to go up
Need good bond counsel on transactions – don’t risk an issuance going
taxable if it is not a qualified PAB
Many rules and regulations – learn the programs before making any
determinations