CHICAGO — Detroit hopes to come to market in early September with up to $100 million of federal capital grant-backed bonds to finance part of a light-rail system along the city’s main thoroughfare.

The junk-rated city would face a steep penalty to come to market using its own credit pledge, but the bonds will carry the backing of federal transportation grant dollars that have earned single-A ratings for other issuers that have used a similar structure.

The bonds won’t feature a backup pledge from the city or the state of Michigan.

Loop Capital Markets LLC is senior manager. The city has yet to select the co-managers. Clark Hill is bond counsel and Lewis & Munday is underwriters’ counsel. Robert W. Baird & Co. is the city’s financial advisor.

The Woodward Avenue light-rail project is a $528 million, high-profile, and long-planned project that features $75 million of private money donated by some of the city’s most influential businessmen. The City Council has authorized the city to issue up to $125 million of bonds for the rail line. The rest of the funding will come from federal grants.

One of Mayor Dave Bing’s priorities, the project is considered key to revitalizing the city, but has been at the center of ongoing political disputes, with recent reports suggesting some of the private investors are unhappy.

The bonds will be structured with a 15-year final maturity and a schedule of $10 million in annual, level debt-service payments, said a source close to the transaction who asked to not to be named.

The debt will be backed by Federal Transit Administration Section 5307 Urbanized Area grants. Section 5307 bonds provide capital funds for urban transit systems, and a handful of other cities have used them to finance capital transportation projects. It is the first time Detroit has leveraged the grant dollars to back bonds.

“They’re done infrequently and not many issuers have done them,” the source said of 5307-bond deals.

The Chicago Transit Authority in 2008 issued $100 million of 5307-backed bonds in 2008. The CTA bonds with a 5.25% coupon and 2026 maturity traded as recently as Thursday at 4.14%, according to the Municipal Securities Rulemaking Board.

Like other issuers, Detroit has chosen to craft the bonds with a 15-year final maturity to limit the reauthorization risk that accompanies most federal transportation-backed bonds. Congress typically reauthorizes a surface transportation funding bill every five years, and 15-year bonds limit the risk to three times that Congress will not reauthorize.

The current transportation funding law, the Safe, Accountable, Flexible, Efficient, and Transportation Equity Act: A Legacy for Users, or SAFETEA-LU, was to expire on Sept. 30, 2009, but Congress has extended it several times, most recently to Sept. 30, 2011.

Lawmakers are considering a new two-year $109 billion transportation bill called Moving Ahead for Progress in the 21st Century, or MAP-21.

Detroit receives about $30 million in 5307 program funds on average, though its 2011 apportionment totaled $43.7 million, according to the FTA.

The city decided to cap debt-service payments at $10 million annually to maintain coverage levels of at least 2.5 times. The dollars needed for debt service will flow directly to the city’s depository, which is also the trustee, the source said.

The 5307 program requires a 20% local match, which will come from the estimated $75 million in private investment.

The line will run from downtown Detroit to the city’s edge at Eight Mile Road and tentatively have 19 stops, including Cobo Center and the city’s two sports stadiums.

Construction is set to start early next year, with trains running by 2015.

Last week, a handful of suburban officials announced they were applying for federal funds to study the option of extending the line past the city’s border into adjacent suburbs. The move would likely require the creation of a regional transit authority and a new transit tax.

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