GOP tax plans threaten P3 sector by removing tax-exempt financing
DALLAS – One version of congressional tax reform could send public-private partnership costs soaring and make some projects impractical, experts said.
Adopted as an alternative to traditional government funding, public-private partnerships, or P3s, have financed some of the largest infrastructure projects in the nation, including the $4 billion redevelopment of New York’s LaGuardia Airport and multi-billion-dollar highway and rail projects around the country.
Many transportation P3s use tax-exempt private activity bonds for part of the financing.
Gary Hall, partner and head of national banking at Siebert Cisneros Shank & Co., said that tax-exempt private activity bonds can typically shave about 300 basis points off the cost on a P3 project.
“Infrastructure will still be built -- it’s just going to cost more,” said Hall, whose firm helped underwrite the LaGuardia project. “With P3s, you’re allowing these projects to be built more cost effectively.”
Between 1989 and 2011, 24 states and the District of Columbia used a P3 process to help finance and build at least 96 transportation projects worth a total of $54.3 billion, according to the American Road and Transportation Builders Association.
In 2016 five major P3 transportation projects in Arizona, Washington, Georgia, Texas and Virginia worth more than $3.3 billion came to financial close, ARTBA reported.
Before the tax reform was introduced, ARTBA estimated the private market would increase from $58.9 billion in 2016 to $62.5 billion in 2017, “and will continue to grow over the next five years as overall construction activity increases in those sectors.”
The P3’s have also financed billions of dollars of seaport expansions, hospitals, jails, water projects and university housing projects, among others.
Now, P3 projects face the risk of losing their tax-exempt financing under Republican tax-reform legislation.
In defense of the proposal to eliminate tax-exemption for private activity bonds, Republican proponents said “the federal government should not subsidize the borrowing costs of private businesses, allowing them to pay lower interest rates while competitors with similar creditworthiness but that are unable to avail themselves of PABs must pay a higher interest rate on the debt they issue.”
According to Congress’ Joint Tax Committee, eliminating the tax-exemption would add about $39 billion in federal revenue over 10 years.
On the downside, eliminating the tax exemption on qualified private activity bonds would “likely lower the interest in and feasibility of public-private partnerships,” according to Fitch Ratings.
“Eliminating PABs would raise airport financing costs and possibly cause a reduction in private participation in water projects,” Fitch analysts said. “Eliminating the use of these bonds would also mean an incremental increase in borrowing costs.”
P3s also lower the cost of projects by speeding construction, Hall said.
“The reason that’s important is because time is money,” he said. “It’s not just the cost of borrowing, it’s the cost of construction. Being able to have financing secure allows you to lock in construction costs. Otherwise, you’re riding the roller coaster of construction costs.”
In Dallas, for example, Southwest Airlines estimated the $519 million P3 remodeling of Love Field Airport in 2014 delivered the project two to three years earlier than would have been possible using traditional government methods, saving 50% in cost.
While a Senate version of the tax reform would preserve the PAB tax exemption, the House bill already approved by Ways and Means would eliminate it to offset tax cuts for corporations and individuals.
House Speaker Paul Ryan, R-Wis., said he expects the bill to clear the House by Thanksgiving, with reconciliation between the House and Senate versions by mid-December. President Trump and Congressional leaders plan to sign the bill into law by Christmas.
"We're going to keep people here 'til Christmas if we have to,” Ryan told an audience at the Heritage Foundation last week. “We've got to get this done. I mean it's that important."
That fast-track approach limits the muni market’s chance to influence the legislation and forces some quick adjustment to the new law, according to experts.
“It’s like drinking water from a fire hose,” said Hall. “The most important thing is how do we get the message out that this is going to impact public-private partnerships?”
The proposed change in the tax law catches some billion-dollar P3s in mid-stride.
In Colorado, the template for a $1.2 billion P3 redevelopment of a 10-mile section of Interstate 70 through north Denver was already approved when the tax-reform plan was announced.
The Colorado Department of Transportation is negotiating with developer Kiewit Meridiam Partners chosen last August to design, build, operate and maintain the project for 30 years.
In its request for proposals, CDOT contemplated up to $725 million of private activity bonds. However CDOT made no promises on the availability of PAB financing.
Colorado's I-70 project would use a private activity bond program created by 2005's federal SAFETEA-LU transportation bill, which authorized $15 billion of PABs, to be allocated by the Secretary of Transportation outside of state volume caps.
As of Jan. 23, some $6.6 billion of those bonds had been issued, according to the DOT, with authorization granted to another $4.3 billion, including the I-70 project.
"Right now we are working with our private partner to reach financial close for the Central 70 project as quickly as possible so construction can begin next year," said Rebecca White, spokeswoman for CDOT. "PABs are a part of the Preferred Proposer's financing structure for the Project. Given that the Senate version of the tax bill differs with respect to treatment of PABs, we we will continue to track and analyze both pieces of proposed legislation as they evolve."
The I-70 project is operating under CDOT’s High Performance Transportation Enterprise (HPTE), a new division designed to handle P3 projects. HPTE recently oversaw its first bond issue for redevelopment of the C-470 highway south of Denver.
"Public-private partnerships are an important tool for CDOT in delivering large and complex projects; along with Central 70, our nationally recognized US36 multimodal project was delivered through the P3 delivery method," White said.
As the I-70 project develops, Denver is planning to use the P3 model to expand the convention center, renovate the performing arts center and convert the National Western Center, home of the annual livestock show, into a campus for food and agriculture research and development.
Another project that could be affected is the planned $1 billion remodeling of the Kansas City, Mo., Airport approved by voters on Nov. 7. Financing plans for the project call for a P3 structure that could include tax-exempt PABs.
In Virginia, funding for the 22-mile I-66 Express beltway includes $1.23 billion from a Federal Transportation Infrastructure Finance and Innovation Act (TIFIA) loan, $737 million in PABs under the federal DOT program, and $1.523 billion in private equity from investment partners. The project reached financial close on Nov. 10 after the PABs were nearly five times oversubscribed.
Congressional Republicans contend that P3 projects will remain viable without tax-exempt financing, but Robert Poole, analyst at the Reason Foundation, is skeptical.
On toll projects, Poole says, “the higher interest cost of taxable bonds would mean higher toll rates would have to be charged to achieve the same bond rating. But higher toll rates would mean lower toll revenues, which might make the project no longer feasible.”
Furthermore, Poole says, the corporations that participate in P3s would have to pay income tax when projects become profitable.
“In short, PABs for P3 infrastructure are not a subsidy,” Poole said. “Repealing the tax-exemption for this category of PABs would harm the continued growth of private capital investment in America’s infrastructure.”
On highway P3’s, private equity is often paired with federal loans under the 1998 Transportation Infrastructure and Innovation Act. TIFIA leverages limited federal resources by providing low-cost loans, typically on a subordinate basis, for up to 49% of project costs.
Earlier this year, President Trump floated the idea of lifting the cap on tax-exempt PABs to speed infrastructure construction. However, Congress must find a way to pay for the proposed tax cuts that Trump favors or risk raising the deficit beyond the $1.5 trillion threshold that would require a 60-vote majority in the Senate.
“Open threats to the tax exemption have hurt the municipal bond market in the past and continue to undermine the ability of issuers to generate revenue for projects,” the Community Development Finance Agencies said in its most recent private activity bond report. “Clearer signals from Washington, and a commitment to protecting municipal and private activity bonds would go a long way toward fortifying the strengthening bond market.”