The Budget released by the White House on Feb. 2 includes a proposal to create Qualified Public Infrastructure Bonds ("QPIBs") so as to expand the availability of tax-exempt financing in public private partnership ("P3") arrangements. The proposal is a further step in the Administration's Build America Investment Initiative.

P3s are an important tool in addressing many of our country's most pressing infrastructure needs.  However, P3s have yet to have a significant impact in the US because, in part, they have had limited access to tax-exempt financing.  Under the federal tax code's "private business tests," if more than 10% of the proceeds of a state or local bond issue is used by a non-state or local governmental entity in its business and debt service on more than 10% of the proceeds of the bond issue is secured by private business use property or derived from payments in respect of such property, the state or local bonds financing the project are generally taxable private activity bonds.  Except in rare instances, P3s cause the state or local bonds that finance public infrastructure assets to satisfy the private business tests and, thus, to be taxable private activity bonds.

Although state or local bonds involved in the vast majority of P3 structures are taxable private activity bonds, bonds issued for certain specified categories of projects, including qualified highway or surface freight transfer facilities, among others, may constitute tax-exempt private activity bonds ("Qualified PABs").  However, there is a $15 billion cap on the amount of Qualified PABs that can be issued for highway and surface freight transfer facilities and a general volume cap limitation apportioned to the states on an annual basis applies to the issuance of many other categories of Qualified PABs.  The Budget proposes to increase the annual cap to $19 billion.  Moreover, the interest payments on most Qualified PABs are subject to the federal alternative minimum tax ("AMT"), which narrows the market of potential purchasers and increases borrowing costs relative to tax-exempt bonds that are not Qualified PABs.

The White House proposal seeks to "level the playing field" for state and local governments seeking to use P3s.  QPIBs would be a new category of Qualified PABs that could be used in P3 structures to finance the construction or improvement of airports, docks and wharves, mass commuting facilities, solid waste disposal facilities, sewage facilities, facilities for the furnishing of water, and qualified highway or surface freight transfer facilities.  The facilities financed by QPIBs must be owned by a state or local governmental entity, but these facilities could be leased to or operated and maintained  by a private party in a P3 structure as long as the lease or P3 contract: (1) includes a binding, irrevocable election by the private party not to claim depreciation or investment credits in respect of the financed facility for federal tax purposes; (2) the term of the lease or P3 contract does not exceed 80% of the reasonably expected economic life of the financed facility; and (3) the private party has no option to purchase the financed facility other than at the facility's fair market value at the time the purchase option is exercised.  Further, a project financed by QPIBs must either serve a general public use or be available on a regular basis for general public use.  QPIBs would be especially attractive compared to other Qualified PABs, because the interest payments on QPIBs will not be subject to the AMT, there will be no volume cap on the issuance of QPIBs, and no expiration date will apply to the issuance of QPIBs.

U.S. infrastructure has been ranked by the World Economic Forum as just 12th best in the world. Significant spending is needed just to get our infrastructure to a state of good repair, and the American Society of Civil Engineers estimates that our deteriorating infrastructure costs the economy close to $200 billion a year. The Administration is not alone in seeking tools to increase infrastructure investment.

Leading up to the debate over renewing the Highway Trust Fund, which expires in May 2015, there is likely to be increasing bi-partisan attention on the poor state of our Nation's infrastructure.  The Senate Committee on Environment and Public Works held a hearing on January 28th to discuss the future of the Highway Trust Fund.  Separately, the House Committee on Transportation and Infrastructure will undertake efforts this year, following up on its report released in September 2014 about the role of P3 structures in infrastructure development. Finally, Representative John Delaney (D-MD) and Senator Bernard Sanders (I-VT) have put forth separate proposals regarding infrastructure investment and the need for solvency of the Highway Trust Fund going forward, and Senators Barbara Boxer (D-CA) and Rand Paul (R-KY) also have issued a joint proposal on these matters.

Attention to this unquestioned need is welcome and the policy behind the Administration's QPIB program is compelling. However, the program will not be viewed in isolation. Rather, it will be evaluated in light of the ongoing debate over tax reform (including the fate of tax exemption for interest on state and local debt) and the role of the federal government in infrastructure financing. The White House focus on innovative ideas like QPIBs is only a first step. More bi-partisan support for ideas that pair funding for long-term infrastructure development with tax reform are needed in order to make QPIBs a reality in this Congress.

Mike Cullers is a partner and Roderick Devlin and Carolyn Walsh are of counsel at Squire Patton Boggs (US) LLP