Healthy Demand for Build America Bonds
Build America Bonds (BABs) are proving a good alternative to traditional tax-exempt bonds because they appeal to a larger market that typically invests in government bonds, the interest rates are usually 20 percent lower than tax-exempt bonds, and BABs increasingly make up a growing percentage of municipal bonds issued by state and local governments. According to Evan Gold, National Utility Contractors Association (NUCA) government relations intern, the growing investor demand surrounding BABs continues to drive down the rate of interest payments.
But what exactly does a BAB do?
A BAB provides much-needed funding for state and local governments at lower borrowing costs, thus allowing for the construction of necessary capital projects, including public buildings, courthouses, schools, roads, transportation infrastructure, government hospitals, public safety facilities, water and sewer projects, environmental projects, energy projects, governmental housing projects and public utilities. Typically, state and municipal governments depend on tax-exempt bonds for capital to put towards the public works projects, but the recession has rendered a precipitous decline in the number of tax-exempt bonds being purchased. Thus, the drafters of the stimulus package devised BABs in order to raise capital with which state and local governments can fund capital projects.
There are two types of BABs. In the first version, the bond issuer receives a subsidy from the federal government equal to 35 percent of the interest paid to investors for purchasing the bonds; this subsidy permits government entities to issue bonds that pay interest rates competitive with rates paid by corporations. In the second version, BAB holders receive a tax credit from the federal government equal to 35 percent of the interest on the bond each year; the tax credit carries over to future years if the bondholder’s tax liability is not enough to cover the entire credit. The first version has proven more popular, especially for entities that do not pay U.S. income taxes such as pension plans and foreign investors.
Last month, the House of Representatives passed legislation that would extend the BAB program for two years while gradually reducing the subsidy payments the federal government makes to BAB issuers. For instance, in 2011 the federal government would pay 32 percent of the interest rate and only 28 percent in 2012. In addition, the American Jobs and Closing Tax Loopholes Act (H.R.4213) — also known as the Tax Extenders bill — if passed, would extend the BAB program for even longer, but President Obama is seeking to make BABs permanent with a 28 percent subsidy rate.
