TAX NEWS - JUNE 2010

US Tax: Home Loan Banks Seek To Renew Tax-Exempt Authority

The Federal Home Loan Banks are seeking to renew their authority to guarantee tax-exempt bonds used to finance road repairs, hospital expansions and other local projects.

The 12 regional banks have backed nearly $4.1 billion in such municipal projects since 2008, when Congress passed a measure to allow them to do so amid the tumult in the credit markets.

The jobs bill that passed the U.S. House of Representatives last week would extend that authority through 2011. Otherwise, it is set to expire at the end of this year.

The home-loan banks and their allies -- state financing authorities, community bankers, hospital groups and mayors -- have pushed to make the authority permanent.

They say the measure has helped local projects to survive the recent turmoil in the municipal bond market and has lowered borrowing costs for smaller issuers.

"These are not large deals. These are precisely the kinds of needs that are described by the public interest groups as not being met in the past," Federal Home Loan Bank of Pittsburgh President and Chief Executive John R. Price said.

The 12 home-loan banks are cooperatives owned by roughly 8,000 banks, thrifts, credit unions and insurers. Because investors generally believe the federal government would step in to prop them up in a crisis, the banks enjoy relatively low interest rates on their debt. They use their funds to make loans, called " advances," to member banks.

The home-loan banks have long sought permanent authority to collect fees for guaranteeing tax-exempt bonds financing non-housing municipal projects; they already do so for housing-related projects.

Until recently, bond insurers had been the primary providers of credit enhancement for the municipal market. But they pulled back from the market in 2008 after their credit ratings were slashed, leaving many municipalities to struggle to get financing for new projects. Many issuers saw their interest rates climb on outstanding bonds as their credit ratings eclipsed that of the bond insurer providing the credit enhancement.

The entrance of the home-loan banks into the market created an "oasis of stability" during this time, said Chuck Samuels, a lobbyist for 40 state authorities that issue tax-exempt bonds for health-care and educational projects.

The home-loan banks say they have backed 158 tax-exempt bond transactions, or a combined $4.1 billion in financing. Nearly a quarter of the deals are $30 million or less.

Issuing tax-exempt bonds is often the cheapest way for municipalities and local non-profits to raise capital for local projects. Because investors don't have to pay taxes on the interest, they accept a lower rate.

Only a select group of government-sponsored enterprises -- including the Tennessee Valley Authority, Fannie Mae (FNM), Freddie Mac (FRE) and the Veterans Administration -- are permitted to back tax-exempt bonds. Adding the home-loan banks to the list for another year would cost the Treasury an estimated $148 million over 10 years, according to the Joint Committee on Taxation.

It is unclear whether the provision will survive in the Senate, which is set to take up the House legislation next week.

The bond-insurance industry in 2008 fought against granting the home-loan banks authority to enter their line of business. So far, they have been silent on the effort to renew that authority.

The Association of Financial Guaranty Insurers, the main bond-insurer trade group, declined to comment on the House bill. A spokesman for National Public Finance Guaranty Corp., MBIA's U.S. municipal bond insurer, also declined to comment on the legislation. MBIA, the largest bond insurer, left the trade group in 2008.