Tax Exempt Bond Compliance
Responsible Official: Executive Vice President for Finance, CFO, and Treasurer
Effective Date: January 23, 2012
Drexel University and its subsidiary corporations (the "Institution") has financed the acquisition, construction and improvements to many of its facilities and other capital projects with the proceeds of tax-exempt bonds. Because bondholders do not pay federal income tax on the interest received on such bonds, they are generally willing to accept a lower interest rate than if the bonds were issued on a taxable basis. Tax-exempt bonds thus provide the Institution with the ability to finance many of its capital projects at a greatly reduced cost.
For bonds to qualify for tax-exempt status, many detailed rules set forth in the Internal Revenue Service Code and Treasury Regulations must be satisfied, which, in particular, place restrictions on "arbitrage" and "private business use." When bonds are issued, outside bond counsel is engaged to review and confirm compliance with these rules as of the issue date. Many rules, however, continue to apply throughout the entire term of the bond issue. The Institution has accepted the responsibility of maintaining compliance with these rules following the issue date in order to meet its obligations under federal tax law and various contracts in order to preserve the important benefits associated with tax-exempt financing. If the Institution fails to comply with these rules, it may be found in default and substantial penalties and negative reputational consequences may result.
Set forth below is a summary of the policies and procedures that the Institution will follow to maintain compliance with the federal tax rules relating to tax-exempt bonds.
II. COMPOSITION, RESPONSIBILITY AND FUNCTION OF THE BOND COMPLIANCE COMMITTEE
The Institution's compliance efforts are led by the Executive Vice President for Finance, Treasurer, & Chief Financial Officer, who shall designate, in writing, a Bond Compliance Coordinator to facilitate the implementation of this policy. In addition, there shall be a Bond Compliance Committee that will, at a minimum, initially consist of the following individuals:
- Associate Vice Provost for Research Administration
- Vice President and Associate Treasurer
- Vice President of Facilities
- Assistant Vice President of Real Estate and Space Management
- Manager of Tax Compliance
- Bond Compliance Coordinator
The Executive Vice President for Finance, Treasurer, & Chief Financial Officer has the authority to change the composition of the committee and the committee members at any time. In addition, the Bond Compliance Coordinator may invite guests to attend Committee meetings in person or by teleconference as needed and as appropriate. The General Counsel or his or her designees shall serve as counsel to the Committee. The Bond Compliance Committee shall meet as often as needed, but no less than monthly. Discrete compliance tasks will be assigned to specific individuals across the Institution, as determined through consultation between the Bond Compliance Coordinator, the Bond Compliance Committee, and the identified individuals. A quorum of the Committee shall consist of no less than fifty percent of Committee Members in attendance, at least one of whom must include the Bond Compliance Coordinator.
III. EXPENDITURE OF BOND PROCEEDS
Expenditure of bond proceeds will be reviewed by the Bond Compliance Coordinator, in accordance with established internal procedures. Requisitions must identify the financed property in conformity with the “TEFRA” public approval for the bonds and the tax certificate executed by Drexel University at closing, including certifications as to the character and average economic life of the applicable bond-financed property. Requisitions for costs that were paid prior to the issuance of the bonds are, in general, limited to costs paid subsequent to, or not more than 60 days prior to, the date a “declaration of intent” to reimburse the costs was adopted by an authorized officer of [Entity Name] Drexel University or by the bond issuer. No more than 2% of proceeds may be requisitioned to pay costs of issuing the bonds.
Expenditure of proceeds should be measured against the tax certificate expectation to spend or commit 5% of net sale proceeds within 6 months, to spend 85% of net sale proceeds within 3 years, and to proceed with due diligence to complete the project and fully spend the net sale proceeds.
Expenditure of proceeds should also be measured against rebate spending exceptions, including the 6-month, 18-month and 24-month exception (available only for construction issues). In the case of the 18-month exception, the following schedule applies:
- 15% within 6 months
- 60% within 12 months
- 100% within 18 months.
The 24-month exception for "available construction proceeds" should be measured against the following schedule for the construction issues:
- 10% within 6 months
- 45% within 12 months
- 75% within 18 months
- 100% within 24 months
The Bond Compliance Coordinator is responsible for making sure that, for each bond-financed project, bond proceeds are allocated to expenditures for the project within the period ending on earliest of the following (the "Permitted Allocation Period"): (i) 18 months after the placed-in-service date of the project (or the payment of the expenditure in question, if later), (ii) five years (plus 60 days) after the issue date of the bonds, or (iii) 60 days after the retirement of the bonds. This means that, before the end of the Permitted Allocation Period for a given project, the Bond Compliance Coordinator should take two steps: (i) make sure the Institution actually spends bond proceeds (and equity or taxable debt proceeds, if applicable) on project expenses in a manner that can be documented (e.g., through requisitions, invoices and canceled checks), and (ii) prepare an allocation certificate that summarizes the total expenditures of bond proceeds and equity or taxable debt proceeds on the project, and that allocates the equity or taxable debt to any private business uses of the project.
The format of this allocation will conform to the use of proceeds reports on Schedule K of Form 990 with further detail to identify amounts spent on different properties.
IV. SCREENING PROPOSED ARRANGEMENTS FOR PRIVATE BUSINESS USE
Before the Institution enters into an arrangement that may give rise to private business use, the arrangement must first be reviewed to make sure that it would not cause a violation of the private business use rules. The types of proposed arrangements that must be reviewed include but are not limited to:
- sales and other conveyances of real property;
- management and service contracts;
- certain research agreements;
- potential trades or businesses;
- partnerships and joint ventures;
- naming rights agreements.
These types of proposed arrangements must first be submitted to the Bond Compliance Coordinator, who will forward them to the Bond Compliance Committee for review. The Bond Compliance Committee will then review the proposed arrangement and determine either that (1) no private business use would arise from the proposed arrangement, or (2) if the Committee believes that private business use would arise under the arrangement as proposed, it will recommend appropriate corrective steps to promote the best interests of the Institution. Such steps may include: requiring that the arrangement be modified to eliminate the private business use (for example, by fitting the arrangement within IRS "safe harbor" guidance); taking "remedial action" as permitted under the Treasury Regulations to cure any private business use resulting from the arrangement; re-allocating the sources of funding of the facility at issue to the extent permitted by the Treasury Regulations; or determining that the amount of private business use generated by the arrangement is immaterial and will not cause the applicable limitation on private business use to be exceeded. A written recommendation as it pertains to each proposed arrangement will be provided by the Committee to the Executive Vice President, for Finance Treasurer, & Chief Financial Officer for review and approval. In no event may the Executive Vice President for Finance, Treasurer, & Chief Financial Officer approve, or allow the Institution to enter into, a proposed arrangement that would cause the limitation on private business use for a given bond issue to be exceeded.
Even if a given arrangement would not cause the applicable limitation on private business use to be exceeded, if the amount of private business use generated by the arrangement would be material, the Bond Compliance Committee will ordinarily recommend that one of the corrective steps described above be undertaken. Only in rare and unusual cases will the Executive Vice President, for Finance, Treasurer, & Chief Financial Officer authorize such an arrangement to be entered into without a corrective step, and shall consult with counsel before providing any such authorization.
V. PRIVATE BUSINESS USE COMPLIANCE SURVEYS
Following the close of each fiscal year, the Bond Compliance Coordinator will conduct a survey of the uses of bond-financed property to determine the amount of private business use of each outstanding bond issue for that year. The Bond Compliance Coordinator will prepare a "Building Questionnaire" for each building that was financed in whole or in part with tax-exempt bonds. The Building Questionnaire will be given to the Director of Facilities, who will confirm whether the space usage information (including information concerning management and service contracts, leases, and space rentals) provided in response to the prior year's questionnaire is still accurate, and if not, provides any necessary updates. For any facilities that were not addressed by a prior-year questionnaire, the Director of Facilities will provide a description of the use of space in the facilities. The Bond Compliance Coordinator will review this information to identify private business uses of bond-financed space and, as necessary to make this determination, will obtain copies of relevant contracts and consult with the Committee and counsel as needed.
In addition, the Bond Compliance Coordinator will request that the Associate Vice Provost for Research Administration identify any sponsored research contracts for the fiscal year in question that may potentially give rise to private business use. The Associate Vice Provost for Research Administration will refer to IRS Revenue Procedure 2007-47 as well as other available resources in making this determination.
The Bond Compliance Coordinator will also ask the Tax Manager to identify any arrangements that may be regarded as an "unrelated trade or business" for the fiscal year in question (regardless of whether or not the arrangement in fact gives rise to unrelated business taxable income).
To the extent private business use, including that which may also include unrelated trade or business activity, arose from any arrangement, the Bond Compliance Coordinator will gather any information necessary to identify and/or allocate the bond-financed space to private business use. For example, if a noncompliant sponsored research contract is performed in the same space as other compliant research contracts, the Bond Compliance Coordinator shall obtain from the Associate Vice Provost for Research Administration all data as to the revenues derived from the noncompliant contract, and data as to the revenues derived from all research contracts performed in that space, from which the Bond Compliance Coordinator makes a proportional allocation. Revenue analysis may also be necessary for certain unrelated trade or business activity if it takes place in the same space as exempt purpose activity.
If any arrangements are not clearly categorized as private business use or compliant, or if it is unclear how mixed-use property should be allocated to private business use, the Bond Compliance Coordinator shall discuss the issue with the Committee and counsel.
The Bond Compliance Coordinator shall then calculate the amount of private business use (including unrelated business use) of each of the Institution's outstanding bond issues for the fiscal year. The purpose of these calculations is to confirm the Institution's continued compliance with the limitations on private business use, and to permit the Institution to meet its Form 990 reporting obligations.
As part of the annual update process, the Bond Compliance Coordinator will also follow-up with each person responsible for a bond compliance task, to confirm that the person understands and is continuing to perform his or her responsibilities.
Federal tax law requires the Institution (through the bond issuer) to "rebate" to the federal government any amounts earned from the investment of bond proceeds at a yield in excess of the bond yield, unless an exception applies. The Institution retains an outside rebate computation firm to calculate its liability, if any, for rebate for each of its bond issues. The Bond Compliance Coordinator is responsible for maintaining the engagement with the firm, providing the firm with the documentation it requires, making sure the firm prepares calculations at the required intervals (including upon the retirement of a given bond issue), reviewing the firm's calculations for obvious errors, coordinating with the issuer to remit any required rebate to the federal government, and retaining appropriate records. The Bond Compliance Coordinator is also responsible for monitoring the spending of bond proceeds and taking appropriate steps to qualify for a "spending exception" to rebate, to the extent practicable. Rebate payments will be made with Form 8038-T no later than 60 days after (a) each fifth anniversary of the date of issuance and (b) the final retirement of the issue. Compliance with rebate requirements will be reported to the bond trustee and the issuer. The date for first rebate payment will be determined by the Bond Compliance Coordinator at time of issuance and entered into records for the issue.
VII. OTHER RULES REGARDING INVESTMENT , CREDIT ENHANCEMENT, SWAPS AND EXPENDITURE OF BOND PROCEEDS
Prior to being spent, bond proceeds must be invested in a manner that will establish fair market value for federal tax purposes, in order to maintain compliance with the rebate and arbitrage yield restriction rules. The rules for establishing fair market value are summarized in the tax certificates executed by the Institution at the time of issuance of each bond issue; certain investments, for example, must be acquired through the detailed "three-bid" procedure set forth in the Treasury Regulations. Typically, bond counsel would review the initial investments of bond proceeds acquired on the issue date for compliance with these rules, but would not necessarily do so for any subsequent investments or reinvestments of such proceeds. The Bond Compliance Coordinator will take appropriate steps, in consultation with counsel, to assure that subsequent investments or reinvestments of bond proceeds are made in compliance with these rules. For example, investments of proceeds in any guaranteed investment contract, and investments of funds in an escrow to defease a bond issue, will be acquired through the "three-bid" procedure noted above.
Similarly, specific certifications are required if payments on credit enhancement arrangements or swap or other hedging contract payments are to be taken into account as payments on an issue of tax-exempt bonds. The certifications would typically be prepared by bond counsel if entered into in connection with the closing of the bonds. If any letters of credit, guarantees or interest rate swaps are entered into at a subsequent date, the Bond Compliance Coordinator will consult with counsel to determine what certifications, if any, are necessary.
Federal tax law places many restrictions on the types of expenditures that may be financed with tax-exempt bond proceeds, including, among other things, that the expenditures fall within the scope of the "TEFRA" public notice and approval, meet certain useful life requirements, are for working capital purposes, not be used for more than a minimal amount of issuance costs, be made within certain deadlines, and not be used to reimburse expenditures made before the issuance date unless certain requirements are satisfied. The Institution's expectations as to the expenditure of bond proceeds are set forth in the tax certificate executed on the date of issuance of each bond issue, which bond counsel uses to evaluate compliance with these rules as of such date. The Bond Compliance Coordinator will make sure that the Institution's actual expenditure of proceeds of each bond issue will not deviate materially from the expectations and limitations stated in the tax certificate for the issue without consulting beforehand with counsel.
VIII. RECORD RETENTION
Section 501(c)(3) borrowers are required to maintain sufficient records to demonstrate that their bonds have satisfied the requirements for tax-exempt status. Under current IRS policy, these records generally should be maintained for the entire term of the bond issue (and the term of any refunding issue), plus three years. The Institution utilizes specialized software to accomplish these record keeping purposes.
IX. ON-GOING EDUCATION
The Institution will continue to consult regularly with inside and outside counsel and tax professionals regarding federal tax rules applicable to its outstanding tax-exempt debt, as well as changes to these laws. On-going education will also involve guest speakers, webinars and conference attendance, as well as continuing legal and accounting education courses. Applicable policies and procedures will be updated by the Institution to reflect such changes on an as needed basis.
X. VIOLATION OF THIS POLICY
Any violation of this Policy or failure to comply with its provisions may result in disciplinary action.