Overview of final private activity bond tax regulations.

Internal Revenue Code Final Regulations, which broadly affect governmental tax-exempt bonds, focus on the level of permissible private business involvement in a bond issue.

Introduction

This article provides an overview of selected aspects of the recent final private activity bond

tax regulations under Section 141 of the Internal Revenue Code (the "Final PAB Regulations").(1) These important rules broadly affect governmental tax-exempt bonds. They focus on the level of permissible private business involvement in a bond issue. Bonds are classified as private activity bonds if they meet a two-part 10 percent private business use test and private payment or security test, or a separate private loan test. Except for tax-exempt financing for certain specific private facilities (e.g., certain exempt facilities, housing mortgages, small issue manufacturing facilities, and certain 501(c)(3) nonprofit organization facilities), tax-exempt bonds generally may be issued only for governmental purposes and are taxable if the level of private business involvement causes them to be private activity bonds. Thus, the goal typically is to fail to be a private activity bond.

Effective Dates and Unfinished Parts. In general, the Final PAB Regulations apply prospectively to bonds issued on or after May 16, 1997. An issuer may elect to apply the Final PAB Regulations in whole, but generally not in part, to outstanding bonds issued earlier. An issuer also may elect to apply certain specific provisions individually to earlier outstanding bond issues, including those on permitted private management contracts, change of use remedies, and research agreements.

Certain parts of the Proposed PAB Regulations were not finalized, including those for output contracts (e.g., electric power contracts) and mixed-use facility allocations. These reserved parts are understood to be well underway.

Selected Highlights. Overall, the Final PAB Regulations adopt more workable standards than previous guidance in many areas. Selected positive highlights include

* more flexible standards for testing private business use, based on ownership, leasing, special legal entitlements to general public use property (e.g., roads), and special economic benefits from property unavailable for general public use (e.g., prisons);

* consideration of private management contracts under all the facts and circumstances, together with broad new safe harbors under Rev. Proc. 97-13 which permit qualified private management contracts for up to 15-year terms at 95 percent fixed fees or up to 10-year terms at 80 percent fixed fees (and 20-year terms in each case for public utility property);