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Monday, October 1, 2012

Tax Credit Bonds: Overview and Analysis

Steven Maguire
Specialist in Public Finance

Almost all state and local governments sell bonds to finance public projects and certain qualified private activities. Most of the bonds issued are identified as tax-exempt bonds because the interest payments are not included in the investor’s federal taxable income. In contrast, Tax Credit Bonds (TCBs) are a type of bond that offers the investor a federal tax credit or the issuer a direct payment. This report explains the tax credit mechanism and describes the market for the bonds. Build America Bonds, which are no longer issued, are a type of TCB.

There are a variety of TCBs. Qualified zone academy bonds (QZABs), which were the first tax credit bonds, were introduced as part of the Taxpayer Relief Act of 1997 (P.L. 105-34) and were first issued in 1998. Clean renewable energy bonds (CREBs) were created by the Energy Policy Act of 2005 (P.L. 109-58) and “new” CREBs by the Emergency Economic Stabilization Act of 2008 (P.L. 110-343). Gulf tax credit bonds (GTCBs) were created by the Gulf Opportunity Zone Act of 2005 (P.L. 109-135), but authority to issue GTCBs has expired. Qualified forestry conservation bonds (QFCBs) were created by the Food, Conservation, and Energy Act of 2008 (P.L. 110-246). Qualified energy conservation bonds (QECBs) and Midwest Disaster Bonds (MWDBs) were created by the Emergency Economic Stabilization Act of 2008 (P.L. 110-343).

The American Recovery and Reinvestment Act of 2009 (P.L. 111-5, ARRA) included several bond provisions that use a tax credit or issuer direct payment. Specifically, ARRA created Qualified School Constructions Bonds (QSCBs), Build America Bonds (BABs) and Recovery Zone Economic Development Bonds (RZEDBs). Unlike other tax credit bonds, the interest rate on the BABs and RZEDBs is a rate agreed to by the issuer and investor and the issuers receive direct payments from the Treasury. In contrast, the Secretary of the Treasury sets the credit rate for the other TCBs. The authority to issue BABs and RZEDBs expired after 2010.

Each TCB, with the exception of BABs, is designated for a specific purpose, location, or project. Issuers use the proceeds for public school construction and renovation; clean renewable energy projects; refinancing of outstanding government debt in regions affected by natural disasters; conservation of forest land; investment in energy conservation; and for economic development purposes. All of the TCBs are temporary tax provisions.

The QZAB and QSCB credit rate is set at 100% and the “new CREB” and QECB credit rate is set at 70% of the interest cost. In contrast, the BAB tax credit rate is 35%. There were several bills introduced in the 111th Congress that would have extended all of the tax credit bond programs including BABs. Only QZABs were extended for the 2011 tax year with $400 million of capacity (P.L. 111-312).

The President’s FY2013 budget proposes extending BABs permanently with a 30% credit through 2013, dropping to 28% thereafter. In the 112th Congress, several bills have been introduced to extend and expand a modified version of BABs, including H.R. 11, H.R. 736, H.R. 747, and H.R. 992. In the Senate, S. 796 would extend QZABs and QSCBs and S. 727 would require all municipal bonds to be issued as tax credit bonds. S. 3521 would extend QZABs with $400 million for each of 2012 and 2013. Another bill, S. 1436, would provide $50 billion of bond capacity for state and local government investment in transportation infrastructure.

Date of Report: September 20, 2012
Number of Pages: 17
Order Number: R40523
Price: $29.95

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