BURLINGTON, Vt. - A new federal public-private partnership program designed to spur school construction, which took effect this year, may be thwarted by an unintended glitch in the new law, a bond lawyer said yesterday.
Neil Arkuss, a bond counsel with Palmer & Dodge in Boston, said the program -- which allows for-profit companies to build schools using tax-exempt financing -- has run into an unexpected difficulty unearthed by various tax counsel.
"I see a problem, and I think others have seen a problem as well," Arkuss said, speaking at the Council of Development Finance Agencies' annual conference here.
The program, which was part of the $1.35 trillion tax package signed into law a year ago by President Bush, would allow private companies to use the proceeds of tax-exempt bonds to build and repair schools and then lease the facilities to school districts. Each state is authorized to issue the greater of $10 per capita, or $5 million, in private-activity debt annually for this purpose, which adds up to an annual bond capacity of about $2.8 billion nationwide. The program took effect Jan. 1.
The potential problem discovered by Arkuss and other tax lawyers revolves around a provision in the law that mandates that the locality take over ownership of the facilities -- at no cost -- upon maturity of the lease and the debt.
Typically in tax law, Arkuss said, when one entity is predetermined in a contract to take over a property for free at a later date, the other entity is not deemed to ever be the owner for full tax purposes. As a result, if that conclusion stands for these school transactions, it would mean that, for tax purposes, a company would be unable to deduct the depreciation of the facilities' value -- a deduction that is "absolutely crucial to this working on an economic basis," Arkuss said.
"If it doesn't own the facility it is not entitled to the depreciation deduction," he said. "That's where the rub is."
Although tax lawyers see this as a major concern, Arkuss said, he added he thinks the problem will eventually be solved.
"Tax counsel have been discussing how to deal with this kind of situation," he said. "Congress wanted this to work. They didn't set up something ... to make it impossible for you to do this transaction, and I think we're going to work it all out. We're going to have to wait and see how this all develops."
But Arkuss did not list any possible solutions to the problem.
"When you're talking to your local bond counsel about this kind of transaction, you should be prepared for them to raise this issue," he urged the audience, which consisted mostly of officials from state and local economic development agencies. "Perhaps they will have a solution."
The school program has been off to a slow start anyway, and the new concern now raised could mean that its usage will be further delayed, or even ruled out altogether, in many states. Only a handful of localities, including Fairfax County, Va., are believed to have started to seriously consider using the program.
Asked about whether they are planning to use the program, several conference participants here expressed skepticism.
For instance, Robert Lenna, executive director of the Maine Bond Bank, said the logistical problems involved in getting the program launched in his state would probably be too big to justify, considering the relatively small amount of bonds that could be issued there. Since Maine has about 1.2 million people, it would only be able to issue $12 million annually under the program, he noted.
One problem in Maine would be that any for-profit company able to build these schools would probably be located outside the state, he said. Another concern is that it is unclear exactly what state agency would issue the bonds under the program -- a question that probably would need clarification by the Maine Legislature, he said.
"I don't see it fitting in Maine," Lenna said. "But I've been wrong before."
