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October 31, 2012
Possible Effects of Federal Sequestration on Direct-Pay Tax Credit Bonds Issued by School Districts

October 31, 2012 - According to the United States Office of Management and Budget (OMB), federal credit payments relating to Direct-Pay Tax Credit Bonds, including Build America Bonds (BABs) and Qualified School Construction Bonds (QSCBs) issued by Washington school districts, could be reduced by an estimated 7.6% under the sequestration process that would go into effect if Congress fails to reach a budget agreement before January 2, 2013. Click here to access the OMB report.

Direct-Pay Tax Credit Bonds are taxable bonds for which the federal government makes a direct payment to the school district equal to a certain amount of the interest payable on those bonds on each interest payment date (i.e., 35% of the interest payable on BABs and generally 100% of the interest payable on QSCBs). If sequestration takes effect January 2, 2013, as currently required under the Budget Control Act of 2011, it potentially would reduce those federal credit payments by 7.6% during the federal fiscal year ending September 30, 2013. However, it is not yet clear whether the amount of each federal credit payment that a school district otherwise would expect to receive on and after January 2, 2013, would be reduced by that amount. According to the OMB, its estimated reductions are preliminary and subject to change based on continuing legal, budgetary and technical analysis as well as possible congressional action before January 2, 2013.

Nevertheless, any Washington school district that has outstanding BABs or QSCBs should review the current and anticipated balance in its Debt Service Fund to determine whether it will have sufficient money on deposit in the Debt Service Fund to pay 100% of the interest that will be payable on its BABs or QSCBs in 2013 if federal sequestration actually were to occur as described above. If a school district determines that it is necessary to increase its collections of voter-approved excess taxes or other General Fund revenues, as applicable, in calendar year 2013 to ensure that upcoming interest payments on BABs or QSCBs are paid in full on a timely basis, the school district should work with its financial advisor, underwriter and bond counsel to amend its 2012-13 budget and recertify a revised amount of excess taxes to be collected or develop alternative plans to pay interest due on such BABs or QSCBs.

Additionally, a school district that has outstanding BABs or QSCBs may want to review its BAB and/or QSCB authorizing resolutions with its bond counsel, underwriter and/or financial advisor to understand the specific impact of a potential sequestration in its particular circumstances.

For further information, click on the link above or contact any member of our Municipal and Public Finance Practice Group.