Business Definition for: prerefunding
prerefunding
procedure, called a pre-re on Wall Street, in which a bond issuer floats a second bond in order to pay off the first bond at the first
call
date. The proceeds from the sale of the second bond are safely invested, usually in Treasury securities, that will mature at the first call date of the first bond issue. Those first bonds are said to be prerefunded after this operation has taken place. Bond issuers prerefund bonds during periods of lower interest rates in order to lower their interest costs.
See also
refunding
,
advance refunding
,
Refunding Escrow Deposits (REDS)
Related Terms:
- replacing an old debt with a new one, usually in order to lower the interest cost of the issuer. For instance, a corporation or municipality that has issued 10% bonds may want to refund them by issuing 7% bonds if interest rates have dropped. See also prerefunding; refinancing.
- in merchandising, returning money to the purchaser, e.g., to a consumer who has paid for an appliance and is not happy with it.
Government securities: exchange of maturing government securities prior to their due date for issues with a later maturity. It is through advance refunding that the national debt is extended as an alternative to the economic disruptions that would result from eliminating the debt all at once.
Municipal bonds: sale of new bonds (the refunding issue) in advance, usually by some years, of the first call date of the old bonds (the issue to be refunded). The refunding issue would normally have a lower rate than the issue to be refunded, and the proceeds would be invested, usually in government securities, until the higher-rate bonds become callable. This practice, also called prerefunding, has been curtailed by several tax acts. See also Refunding Escrow Deposits (REDS).
financial instruments used to circumvent 1984 tax restrictions on tax-exempt prerefundingsfor certain kinds of state or local projects, such as airports, solid-waste disposal facilities, wharves, and convention centers. The object of prerefundings was to lock in a lower current rate in anticipation of maturing higher-rate issues. REDs accomplish this by way of a forward purchase contract obligating investors to buy bonds at a predetermined rate when they are issued at a future date. The future date coincides with the first optional call date on existing high-rate bonds. In the interim, investors' money is invested in Treasury bonds bought in the secondary market. The Treasuries are held in escrow, in effect securing the investor's deposit and paying taxable annual income. The Treasuries mature around the call date on the existing bonds, providing the money to buy the new issue and redeem the old one. Also called municipal forwards.
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