Rev. Rul. 83-7

1983-1 C.B. 21, 1983-2 I.R.B. 6.

                       Internal Revenue Service
                                 Revenue Ruling

       INDUSTRIAL DEVELOPMENT BONDS;  EXEMPT FACILITY;  SUBSTANTIAL USER

                          Published: January 10, 1983

26 CFR 1.103-1: Interest on bonds to finance certain exempt facilities

(Also Section 61; 1.61-7.)

  Industrial development bonds;  exempt facility;  substantial user.  A city issued industrial development bonds to finance an exempt facility.  The nonexempt original owner continued to occupy the facility temporarily after the bonds were issued because of delays in construction of its new facilities.  For purposes of section 1.103-8(a)(5)(iv) of the regulations, the original owner is not considered to be a substantial user during the temporary period, therefore, the bonds qualify as obligations issued to provide exempt facilities under section 103(b)(4) of the Code, the interest on which is excludable from gross income.

ISSUE

  Do industrial development bonds qualify as obligations issued to finance exempt facilities described in section 103(b)(4) of the Internal Revenue Code under the circumstances described below?

FACTS

  Corporation X, which is not an exempt person within the meaning of section 103(b)(3) of the Code, owned and operated an exempt facility described in Section 103(b)(4).  The exempt facility is located in city CI.  X purchased the facility with its own funds.

  Corporation Y, a nonexempt person, decided to purchase and use X's exempt facility.  Y requested CI to issue industrial development bonds to finance such purchase.  The governing body of CI subsequently on February 1, 1982, adopted a resolution expressing its intent to issue industrial development bonds for the purpose of financing Y's purchase of X's facility.  CI issued the bonds on April 1, 1982.  CI treated the bonds as obligations to provide exempt facilities described in section 103(b)(4) of the Code.  The bonds are not arbitrage bonds within the meaning of section 103(c)(2).

  Y borrowed and used all of CI's bond proceeds to immediately purchase X's exempt facility.  However, because the new facilities to which X was to move were not yet completed, X leased the exempt facility from Y for a 30-day period and continued to occupy and use the facility.  X leased the facility for its fair rental value.  Because of further construction delays in completing X's new facilities, Y extended X's lease for an additional 90 days.  At the end of the extended term, X moved into its new facilities, and Y occupied the exempt facility.

LAW AND ANALYSIS

  Section 103(a)(1) of the Code provides that gross income does not include interest on the obligations of a state or its political subdivisions.

  Section 103(b)(1) of the Code provides that, except as otherwise provided in section 103(b), any industrial development bond will be treated as an obligation that is not an obligation described in section 103(a)(1).

  Section 103(b)(4) of the Code provides that section 103(b)(1) will not apply to industrial development bonds if substantially all of the bond proceeds will be used to provide certain exempt facilities.

  The "substantially all" test in section 103(b)(4) of the Code is satisfied if 90 percent or more of the proceeds of an issue of governmental obligations are used to provide an exempt facility.  Section 1.103-8(a)(1)(i) of the Income Tax Regulations.

  Section 1.103-8(a)(5)(i) of the regulations provides, in part, that to qualify under section 103(b)(4) of the Code and section 1.103-8 as an exempt facility, the facility must be one described in subdivision (iv) of subparagraph (5) if construction, reconstruction, or acquisition of the facility commences on or after September 2, 1972.

  Subdivision (iv) of section 1.103-8(a)(5) of the regulations provides that if the original use of a facility commences prior to the date of issue of the obligations issued to provide such facility, the facility will be described in subdivision (iv) if no nonexempt person or a related person (a) who was a substantial user of the facility at any time during the 5-year period preceding the date of issue of the obligations, and (b) who receives proceeds of the issue of obligations is an amount equal to 5 percent or more of the face amount of the issue (in payment for the nonexempt person's interest in the facility) will be a substantial user of the facility at any time during the 5-year period following the date of issue.

  Section 1.103-11(b) of the regulations provides, in general, that a substantial user of a facility includes any nonexempt person who regularly uses a part of such facility in a trade or business.  However, unless a facility or a part of a facility, is constructed, reconstructed, or acquired specifically for a nonexempt person or persons, such nonexempt person will be considered to be a substantial user of a facility only if (1) the gross revenue derived by the user with respect to the facility is more than 5 percent of the total revenue derived by all users of the facility, or (2) the amount of area of the facility occupied by the user is more than 5 percent of the entire usable area of the facility.

  The general purpose of section 1.103-8(a)(5) of the regulations is to prevent the proceeds of an issue of obligations described in section 103(a)(1) of the Code from being used to refinance a facility.  Such refinancing would result in providing working capital to the owner or users of the facility rather than providing the facility as required by section 103(b)(4).  Rev. Rul. 79-321, 1979-2 C.B. 37.

  In this case, X used the facility acquired by Y with bond proceeds during the 5-year period preceding the date of issue of the bonds.  X also received more than 5 percent of the face amount of the bonds in payment for its interest in the facility.  Further, X remained a tenant of the facility for 120 days after the date the bonds were issued.  The continued use of the facility by X after the bonds were issued was caused by X's inability to move to its new facilities because they were not completed until after the bonds were issued.  Because X's use of the facility was temporary, X was not considered to be a substantial user of the facility during the period following the issuance of the bonds. Therefore, the facility is described in section 1.103-8(a)(5)(iv) of the regulations, and none of the bond proceeds used to acquire the facility are considered to provide working capital to X.  Substantially all of the bond proceeds were used to provide exempt facilities described in section 103(b)(4) of the Code.

HOLDING

  The bonds issued by CI qualify as obligations issued to provide exempt facilities described in section 103(b)(4) of the Code.   Therefore, the interest on the bonds is excludable from gross income under section 103(a)(1).

Rev. Rul. 83-7, 1983-1 C.B. 21, 1983-2 I.R.B. 6.