The IRS recently released information relevant to issuers of qualified build America bonds (“BABs”), including “Direct Pay BABs” and recovery zone economic development bonds (“RZEDBs”) authorized by the American Recovery and Reinvestment Act of 2009. This information relates to post-issuance compliance; information reporting and requests for credit payments; and the potential for offsets against interest subsidy payments. While the hope was that additional information and guidance would clarify some questions surrounding Direct Pay BABs and RZEDBs, many issuers are more confused than ever. The Public Finance attorneys at Dorsey & Whitney LLP can assist you in interpreting the forms and guidance and helping you establish compliance procedures so that you remain entitled to federal interest subsidy payments for Direct Pay BABs and RZEDBs.

IRS Post-Issuance Compliance Checks for Direct Pay Build America Bonds

Watch your mailbox! The IRS has begun mailing its Form 14127, “Direct Pay Bonds Compliance Check Questionnaire,” to all issuers of Direct Pay BABs. While the cover letter accompanying the Questionnaire states that this is voluntary compliance with federal tax requirements and neither an audit nor an investigation, the IRS has informally indicated that failure to complete and return any compliance check questionnaire likely would be cause for a targeted examination or audit.

The Questionnaire asks about written procedures of the issuer addressing a number of recordkeeping and information reporting items. Questions relate to (1) the use of proceeds requirement, including ensuring that costs of issuance do not exceed 2% of the proceeds of sale and that the remaining net proceeds (other than proceeds allocated to a qualified debt service reserve fund) are spent on capital expenditures; (2) the de minimis premium rule and how the issuer ensures compliance with it; (3) the irrevocable election designating the bonds as Direct Pay BABs; (4) timely filing of IRS Form 8038-CP; and (5) continuing compliance, including maintenance of records.

While the Questionnaire suggests that the issuer is required to monitor actual trading activity of the Direct Pay BABs prior to the issue date as a means of complying with the de minimis premium rule, the IRS has acknowledged that application of the Section 148 rules (for tax-exempt bonds) is reasonable. These rules provide that issue price may be determined based upon the underwriter’s reasonable expectations as to the reoffering price of a substantial amount of bonds to the public as of the date of sale of the bonds. On the other hand, the IRS also has questioned whether issuers may reasonably rely on underwriter certifications if the issuers have not checked what actual sale prices have been.

The Dorsey Public Finance attorneys are prepared to assist you now in developing the written procedures that will make responding to the Questionnaire easier and more streamlined. We also strongly encourage you to contact us when you receive a Direct Pay Bonds Compliance Check Questionnaire.

New IRS Form 8038-B and Revised IRS Form 8038-CP

In addition to Form 14127, the IRS also recently released a new Form 8038-B and a revised Form 8038-CP.

Form 8038-B, the “Information Return for Build America Bonds and Recovery Zone Economic Development Bonds,” replaces use of Form 8038-G for reporting the issuance of BABs and RZEDBs. Government issuers must file a separate Form 8038-B for each issue of BABs and RZEDBs issued beginning in February 2010. We would be happy to discuss questions you may have about single versus separate “issues” for purposes of arbitrage calculations and for permissible uses of BABs proceeds, including credit enhancement. Note that Form 8038-B also asks whether the issuer has established written procedures to monitor the arbitrage requirements set forth in Section 148.

Issuers of Direct Pay BABs and RZEDBs must file Form 8038-CP, “Return for Credit Payments to Issuers of Qualified Bonds,” to request interest subsidy payments. The significant change on the revised Form 8038-CP is that government issuers now have the option of having their interest subsidy payments directly deposited into their accounts. The IRS has indicated that they are continuing work on an electronic submission system for Form 8038-CP, but this option is not yet available.

Timing remains key in filing both Form 8038-B and Form 8038-CP following an issue. For fixed rate BAB issues, Form 8038-B should be filed 30 days prior to submission of the first Form 8038-CP, and Form 8038-CP should be filed no later than 45 days before the relevant interest payment date, but no earlier than 90 days before the relevant interest payment date. This means Form 8038-B should be submitted no later than 75 days prior to the first interest payment date to ensure that you receive timely interest subsidy payments. Generally for variable rate BAB issues, issuers are reimbursed quarterly, and Form 8038-CP should be filed no later than 45 days after the last interest payment date of the quarter to be reimbursed. Note that the IRS is not currently sending confirmations of Form 8038-CP returns. If you have missed Form 8038-CP filing deadlines, or have other questions about interest subsidy payments or the pledge or assignment thereof, please contact Dorsey Public Finance Attorneys to discuss.

Automatic Offsets Against Credit Payment if Issuer Has Outstanding Tax Liabilities

If an issuer owes money to the federal government, it will likely receive a reduced subsidy payment for Direct Pay BABs. Since the interest subsidy payments are technically tax refunds, they may be used to offset any outstanding liabilities owed to the federal government. This offset system is fully automated, so neither the IRS nor any other federal official will intervene in the reductions of interest subsidy payments. This offset mechanism already has been applied to reduce subsidy payments to at least one issuer.

Assistance with Post-Issuance Compliance Matters

Attorneys in Dorsey’s Public Finance Group can assist you in understanding and implementing remedial actions if subsequent events occur that may jeopardize the receipt of your interest subsidy payments, such as abandonment of a project or violation of the federal arbitrage requirements. And don’t forget to contact us for assistance in developing your written BABs procedures as soon as possible!

For a more general description of Direct Pay BABs and RZEDBs, please see our earlier publications: Public Finance to the Rescue (http://www.dorsey.com/pub_fin_to_the_rescue); Build America Bonds: An Introduction (http://www.dorsey.com/build_america_bonds); and IRS Issues Guidance on Recovery Zone Bonds (http://www.dorsey.com/irs_guidance_recovery_zone).