REVENUE RULE 90-51

1990-1 C.B. 22, 1990-26 I.R.B. 4.

Internal Revenue Service
Revenue Ruling

PRIVATE ACTIVITY BONDS; ISSUANCE COSTS

Published: June 25, 1990

26 CFR 1.103-8: Interest on bonds to finance certain exempt facilities.

(See Also Sections 103, 141; 1.103-1.)

Private activity bonds; issuance costs. The payment of issuance costs for an issue of private activity bonds from proceeds of the issue is not a qualifying use of bond proceeds for purposes of section 142(a) of the Code. Rev. Rul. 80- 171 obsoleted.

ISSUE

If issuance costs with respect to an issue of private activity bonds are paid from proceeds of the issue, how are the issuance costs treated for purposes of determining, under section 142(a) of the Internal Revenue Code, whether 95 percent or more of the net proceeds of the bonds are used to provide a facility described in section 142(a) (exempt facility)?

FACTS

A state issued private activity bonds with a face amount of 100x dollars that were sold to the general public at par. The state immediately loaned all 100x dollars of proceeds to Y, a for-profit corporation. Y used 85x dollars of bond proceeds to acquire a newly constructed exempt facility and 3x dollars of bond proceeds to acquire property that is not part of an exempt facility. Y also used 2x dollars of bond proceeds to pay issuance costs and 10x dollars of bond proceeds to establish a reasonably required reserve or replacement fund within the meaning of section 148(d) of the Code.

If 95 percent or more of the net bond proceeds were used to provide an exempt facility as required by section 142(a) of the Code, then interest on the bonds would be tax exempt because the bonds satisfied all of the other requirements for tax exemption under section 103(a).

LAW AND ANALYSIS

Section 103(a) of the Code provides that, except as provided in section 103(b), gross income does not include interest on any state or local bond. Section 103(b)(1) provides that section 103(a) shall not apply to any private activity bond that is not a 'qualified bond' within the meaning of section 141. Section 141(e)(1)(A) provides that the term 'qualified bond' includes any private activity bond if such bond is an exempt facility bond.

Section 142(a) of the Code provides that the term 'exempt facility bond' means any bond issued as part of an issue 95 percent or more of the net proceeds of which are to be used to provide any exempt facility described in section 142(a).

Section 150(a)(3) of the Code provides that the term 'net proceeds' means, with respect to any issue, the proceeds of such issue reduced by amounts in a reasonably required reserve or replacement fund.

Rev. Rul. 80-171, 1980-2 C.B. 44, holds that, for purposes of determining whether substantially all (90 percent or more) of bond proceeds are used to provide exempt facilities described in former section l03(b)(4) of the Code, bond proceeds are reduced by both the amount of the issuance costs and the amount of the reserve fund.

The Tax Reform Act of 1986, 1986-3 (Vol. 1) C.B. 519, reorganized and amended the law governing tax-exemption for interest on obligations issued by or on behalf of governmental units. As part of these amendments, the Act changed the requirement concerning the percentage of bond proceeds which must be used to provide an exempt facility in order for the bond to be considered a qualified bond. Former section 103(b)(4) of the Code required that 'substantially all of the proceeds' of an issue of bonds (defined in section 1.103-8(a)(1)(i) of the regulations as 90 percent or more) be used to provide an exempt facility described in section 103(b)(4). Section 142(a) now requires that 95 percent or more of the 'net proceeds' of a bond issue be used to provide an exempt facility.

The Conference Report for the Tax Reform Act of 1986, 2 H.R. Conf. Rep. No. 841, 99th Cong., 2nd Sess. II-697, -729 (1986), 1986-3 (Vol. 4) C.B. 697, 729, states that the term 'net proceeds' as defined in section 150(a)(3) of the Code means proceeds of the bonds less proceeds of the bonds deposited in a reasonably required reserve or replacement fund, and that therefore, bond proceeds used to pay issuance costs must be treated as paid from the 5 percent 'bad money' portion of the issue.

In the present situation, 85x dollars of bond proceeds was used to acquire the newly constructed exempt facility. That is a qualifying use of the bond proceeds. The 2x dollars of the bond proceeds used to pay issuance costs and the 3x dollars of bond proceeds used to acquire property that is not part of an exempt facility were not used for a qualifying use. The net proceeds of the bonds for purposes of the 95 percent requirement under section 142(a) of the Code equal 90x dollars (100x dollars less 10x dollars of bond proceeds deposited in the reasonably required reserve or replacement fund). Because the 85x dollars used to provide the exempt facility does not equal or exceed 85.5x dollars (95 percent of 90x dollars), the 95 percent requirement under section 142(a) is not satisfied.

HOLDING

Bond proceeds used to pay issuance costs are not used for a qualifying use. Accordingly, less than 95 percent of the net bond proceeds was used to provide an exempt facility described in section 142(a) of the Code. The bonds are not exempt facility bonds within the meaning of sections 141(e)(l)(A) and 142, and the interest on the bonds is not excludable from gross income under section 103(a).

EFFECT ON OTHER REVENUE RULINGS

Rev. Rul. 80-171 is obsolete with respect to exempt facility bonds issued after August 15, 1986 (subject to transitional rules contained in sections 1312-1318 of the Tax Reform Act of 1986, as amended by section 1013 of the Technical and Miscellaneous Revenue Act of 1988, Pub. L. No. 100-647, 102 Stat. 3537).

DRAFTING INFORMATION

The principal author of this revenue ruling is Hervey H. Kornegay of the Office of Assistant Chief Counsel (Financial Institutions and Products). For further information regarding this revenue ruling contact Mr. Kornegay on (202) 566-3458 (not a toll-free call).

Rev. Rul. 90-51, 1990-1 C.B. 22, 1990-26 I.R.B. 4.