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Private-Activity Bonds

PABs See 1st Jump In 3 Years

WASHINGTON — Private-activity bond issuance rose in 2010 for the first time in three years because of a big jump in bonds spurred by a two-year housing recovery program that was enacted during the financial crisis, according to an annual survey and market participants.

Volume Cap Allocations and Issuance of Private-Activity Bonds in 2010

Another housing program, rolled out by the Obama administration in 2009 and extended through the end of this year, is likely to result in continued high rates of housing bond issuance this year, sources said.

Forty-seven states and the District of Columbia issued at least $14.6 billion of PABs last year, up 22.2% from 2009, according to the results of a survey released Monday by the Council of Development Finance Agencies.

The total for 2010 actually is closer to $17.7 billion because the survey does not include $3.1 billion of resource recovery facility bond issuance, a new category of PABs created by the American Recovery and Reinvestment Act to finance businesses in areas hard hit by job losses, home foreclosures and other forms of economic distress.

Issuance slumped 12.7% in 2009 and 51% in 2008. The PAB volume represented 3.4% of the $433.3 billion of total municipal bond issuance last year, according to Thomson Reuters.

Private-activity bonds are issued by public entities to provide low-cost financing for the projects of nonprofit organizations or companies that serve a public purpose. They include housing, manufacturing, student loan, airport, solid waste, highway, high-speed rail and other tax-exempt bonds.

Their issuance is limited and subject to state volume caps based on a formula. In 2010, state volume caps were the greater of $90 per capita or $273.8 million. Unused cap can be carried forward for up to three years but must be abandoned after that.

The trends in PAB issuance typically mirror the overall U.S. economy. Record demand for rental housing across the country led to a doubling of the issuance of multifamily housing bonds, which totaled almost $2.4 billion last year.

Meanwhile, cautious manufacturing businesses were reluctant to take on debt for expansion projects, pushing the sale of small-issue industrial development bonds down 30% to $666 million. In fact, apart from housing, issuance in most other categories of private-activity bonds was down, the survey showed.

Issuance of exempt facility, manufacturing, and student loan bonds all fell by double-digit percentages, even though Congress, in the ARRA, exempted private-activity bonds from the alternative minimum tax and provided other incentives for the bonds through the end of 2010.

The ARRA, which took effect in early 2009, also loosened restrictions for small-issue IDBs, allowing them to be sold for “intangible property,” such as copyrights, patent software, and intellectual property associated with biotechnology and pharmaceutical businesses.

In addition, the law created and authorized $15 billion for recovery zone facility bonds.

However, sources said it took time for market participants to familiarize themselves with the ARRA initiatives and that in many cases the Internal Revenue Service had to issue guidance or allocation figures. Also, with demand already weak for manufacturing deals in general, the RZFBs failed to catch fire like Build America Bonds.

The issuance figures reflect that. Issuers sold $3.1 billion of RZFBs in 2010 after offering only $56 million in 2009, according to Thomson Reuters. That’s roughly the same amount that the CDFA said 30 states reported issuing in 2009 and 2010, though these numbers were not included in the survey.

“It took a long time” for issuers and underwriters “to grasp the concept” of RZFBs, according to Steve Eikenberry, senior vice president with First American Bank in Elk Grove Village, Ill. “Demand for projects just wasn’t there for the first year and a half,” he said.

HOUSING BONDS

The Housing Economic Recovery Act of 2008 added $11 billion of PAB volume cap solely for housing bonds. Additionally, it laid the foundation for the New Issue Bond Program, which the Treasury Department created in late 2009 to revitalize bond issuance among state and local housing agencies.

Under the program, the Treasury agreed to buy $15.3 billion of securities from Fannie Mae and Freddie Mac that were backed by new mortgage revenue bonds or multifamily housing bonds issued by the housing finance agencies.

John Murphy, executive director of the National Association of Local Housing Agencies, called the NIBP the Obama administration’s most successful housing crisis program.

As a result of the NIBP, issuance of mortgage revenue bonds, the largest category of PABs under the cap, increased 27.5% to $4.6 billion. Multifamily housing bond issuance doubled to $2.4 billion.

The NIBP was supposed to have expired at the end of last year, but the Treasury extended it through the end of this year. Housing Finance Agencies have until the end of this year to issue bonds for funds that were escrowed in 2009. The federal government allocated $17.7 billion to more than 90 participating state and local HFAs, Standard & Poor’s said in a March report.

Sources said they expect housing bond issuance to stay strong this year. Through February less than 40% of the escrowed NIBP proceeds have been released, according to Standard & Poor’s.

“There’s only one story for 2010 and 2011 from the standpoint of housing bonds,” said Patricia Hippe, deputy commissioner for the Minnesota Housing Finance Agency, referring to the NIBP.

“By taking the cost of the longest-term and most expensive bonds, and essentially giving [HFAs] below-market pricing through the Treasury, that was the story,” she said. The program “suddenly enabled the issuance of a lot of mortgage revenue bonds that otherwise weren’t very valuable,” she added.

The program requires that no more than 60% of the bonds be issued to the Treasury, meaning 40% of a housing agency’s NIBP bonds must be sold to the public.

The Minnesota HFA in June issued $42 million of NIBP bonds, according to Hippe. The agency expects to do two more deals this year to complete its obligations under the bond program, she said.

The smaller sector for multifamily housing deals more than doubled in 2010 to $2.4 billion. As effects linger from the burst to the housing bubble, more Americans are looking for rental housing than for single-family homes, sources agreed.

Housing issuers saw “record volumes” for ­multifamily housing projects last year, said Ted Fellman, executive director of the Tennessee Housing Development Agency.

“The big reason is there’s such a demand for rental housing right now” and states “have taken advantage” of the NIBP to get financing for multifamily projects, he said.

Eleven states issued more in multifamily housing bonds than single-family bonds last year, according to the CDFA survey.

“We would have signed on for multifamily capacity had we known [the New Issue Bond Program] would have been extended through 2011,” Hippe said.

Additionally, some issuers are also hoping the Treasury will allow HFAs to exchange single family capacity for multifamily financing, she said.

Bonds issued for mortgage-credit certificates, which provide a tax credit to first-time homebuyers, jumped 56% last year to $2.1 billion. Sixteen states issued mortgage-credit bonds, up from 12 in 2009, the survey found.

The strength in housing issuance compensated for declines in the manufacturing sector.

Industrial development bonds, issued for manufacturers, fell 30% last year. Exempt facility bonds, sold for airport, solid waste, water and sewer, highway and other projects, dropped 23.3%.

The decline in issuance of small-issue IDBs came despite the incentives in the ARRA because businesses were unwilling to take on new expansion projects amid the nascent economic recovery, sources said.

But they said they expect to see more of the bonds issued this year, even though the stimulus incentives have expired.

“Now that demand has gotten a little better, you don’t have the toolbox that you did,” said First American’s Eikenberry.

He said last year the manufacturers he worked with were seeing revenues decline between 15% to 20%. This year, revenues have stabilized or are increasing. But IDB deals “get so restrictive without the stimulus benefits,” he said.

In New Jersey, manufacturing deals will be one of the success stories for 2011, according to Caren Franzini, chief executive officer of the New Jersey Economic Development Authority and a CDFA board member.

The manufacturing borrowers “are more tied to what’s happening to the economy,” she said. “They have to have the cash flow to pay back the debt.”

The NJEDA was the third-largest municipal issuer in the first half of 2011, with $2.1 billion of bonds in 11 deals.

Franzini said the exemption from the PAB cap for 501(c)(3) issuers should be expanded to the manufacturing sector to spur development.

“We would see stronger interest from manufacturing in the U.S.,” she said.

Issuance of student loan bonds fell 18.9% as a result of legislative changes from President Obama’s health care reform law, sources said. The law requires all federally guaranteed student loans to be originated by the federal government. Now, state and local higher-education agencies are restricted to issuing private, non-guaranteed loans, even though the bulk of the market had always been for guaranteed loans.

The law “cut the private lenders out of the federally supported student loan market,” said Michael Decker, managing director and co-head of the muni securities group at the Securities Industry and Financial Markets Association. “It’s not surprising that there was a drop-off [in issuance] as student-loan issuers are kind of adapting to the new environment,” he said.

PAB issuers are allowed to “carry forward” their capacity allowance for up to three years. The survey showed states were carrying forward $43.5 billion of allocations from the past two years into this year, up 5.6% from the $41.2 billion carried forward into 2010.

CDFA officials pointed out that the amount actually carried forward $365.1 million more into 2010 than they expected to carry forward in 2009.

States carried forward $6.2 billion in the extra housing cap provided by Congress to 2010, down 15.7% from what they carried forward into 2009.

States had to abandon a significant amount of their PAB allocations — $4.26 billion — because they were unable to use it over a three-year period. That compares to $2.32 billion of abandoned PAB allocations reported for 2009.

THREAT TO TAX EXEMPTION

Looming large over all PAB issuers is the threat to tax-exemption. CDFA members said they fear federal deficit-reduction negotiations in Washington or tax reform discussions could eliminate the tax exemption for PABs.

“Right now, we’re kind of running scared,” said Eikenberry.

“We’re concerned with, not only trying to get some of [the stimulus] stuff back, but keep what we already have, in terms of tax exemption,” he said. “You hear a lot of comments on the Hill that there are no sacred cows and everything’s up for grabs. It makes you a little bit nervous.”

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