The IRS on April 11, 2018 released Revenue Procedure 2018-26 (Rev. Proc. 2018-26), which expands remedial action options in connection with certain post-issuance leases to private parties of facilities financed with tax-exempt bonds. Whereas previously the bond issue(s) that financed the leased facility would have to be redeemed or defeased to preserve the tax-exemption of the applicable bonds, the new remedial action permits the bonds to remain outstanding if the present value of the lease payments is applied to other bondable expenses. The new Revenue Procedure also introduces remedial action for certain types of tax credit bonds and direct pay bonds that did not previously have access to remedial action options.

The Internal Revenue Code provides for the issuance of tax exempt bonds under Section 103 (“tax-exempt bonds”), qualified bonds with refundable tax credits payable to issuers under Section 6431 (“direct pay bonds”) and qualified bonds providing tax credits to holders (“tax credit bonds”). Each of these types of bonds has eligibility requirements including the prescribed uses of the proceeds. For example, in the case of tax-exempt bonds issued for the benefit of government entities or 501(c)(3) non-profit borrowers, there are strict limits on private use of bond-financed facilities that are inconsistent with the sale or lease of such facilities to a private party. When proceeds are not used for qualified uses, or cease to be so used, the bonds lose their tax advantage unless an allowable remedial action is taken to cure the nonqualified use. Existing regulations provide for certain remedial actions for tax-exempt bonds and tax credit bonds issued as qualified zone academy bonds.

Rev. Proc. 2018-26 expands the existing remedial action options for tax-exempt bonds to allow an alternative use of “disposition proceeds” to cure nonqualified use resulting from eligible leases (defined below) of financed property. Prior to the new Revenue Procedure, the only remedial action available in the case of such leases was a redemption or defeasance of bonds, often requiring the redemption or defeasance of the entire bond issue that financed the leased facility. Building on the existing alternative use of disposition proceeds remedial action for exclusively cash sales of tax-exempt financed facilities, the new Revenue Procedure treats an “eligible lease” as a disposition made exclusively for cash, and deems the “disposition proceeds” to be an amount equal to the present value of all of the lease payments required to be made under the eligible lease. Instead of redeeming or defeasing the applicable bond issue, tax-exemption of the applicable bonds can be preserved by expending these deemed disposition proceeds on other bondable expenses, provided the issuer expects such expenditure to occur within two years of the date of the lease. This eligible lease remedial action is expected to be helpful to governmental issuers that wish to convert bond-financed public facilities into public-private partnerships using long-term lease arrangements, as well as others who no longer need bond-financed facilities for their original purpose and want the flexibility to lease rather than sell those facilities without retiring the associated tax-exempt debt.

A lease is an “eligible lease” if (a) the consideration for the lease is exclusively cash lease payments (regardless of when paid) that are not themselves financed with tax-advantaged bond proceeds, and (b) the term of the lease (i) is at least equal to the lesser of 20 years or 75% of the weighted average reasonable expected economic life of the leased property, or (ii) runs through the earlier of (x) the end of the reasonably expected economic life of the leased property at bond issuance or (y) the latest maturity date of the bonds.

In contrast to a sale that produces actual disposition proceeds that can be expended during the two-year period, the present value amount required to be expended during the two-year period in the context of a long-term lease is likely to exceed the lease payments actually realized by the issuer or borrower during such two-year period. However, such “out-of-pocket” expenditures may be expenditures that the issuer or borrower already was planning to finance from available cash during such period, and even if that is not the case, expending that amount from sources other than tax-exempt bonds will often be less costly than refinancing on a taxable basis part or all of the tax-exempt bond issue that financed the leased facility. Accordingly, the alternative expenditure option may substantially reduce the costs associated with disposing of a no longer needed facility financed with tax-exempt bonds in situations where a lease is preferable to a sale.

Rev. Proc. 2018-26 also provides for curing a nonqualified use of direct pay bond proceeds by simply reducing the amount of the refundable tax credit to eliminate the amount allocable to the nonqualified bonds. This is a common sense and simple way to remediate nonqualified use of otherwise taxable bonds. To effect this remedial action, the issuer must exclude the portion of the interest allocable to the nonqualified bonds that accrues on or after the date of the nonqualified use on the first Form 8038-CP filed after the nonqualified use occurs.

Finally, Rev. Proc. 2018-26 extends the availability of certain existing remedial actions to direct pay bonds and tax credit bonds. In addition to the reduction in subsidy available to direct pay bonds as described in the previous paragraph, an issuer may cure a nonqualified use by redeeming or defeasing nonqualified bonds or applying disposition proceeds to an alternative qualified use.

Rev. Proc. 2018-26 applies to a nonqualified use that occurs on or after April 11, 2018 and may be applied to a nonqualified use that occurs prior to April 11, 2018.





Last week, President Trump unveiled his proposal to fix our nation’s aging infrastructure. While the proposal lauded $1.5 trillion in new spending, it only included $200 billion in federal funding. To bridge this sizable gap, the plan largely relies on public private partnerships (often referred to as P3s) that can use tax-exempt bond financing. In evaluating bankruptcy and default risk with P3s and similar quasi-governmental entities it is important to understand whether such entities are eligible debtors under the Bankruptcy Code, and, if so, whether they are Chapter 11 or Chapter 9 eligible.

P3s often involve the issuance of bonds by quasi-governmental hybrids, including so-called “63-20 corporations” (named after an IRS Revenue Ruling) that meet IRS criteria for the issuance of bonds by a non-profit corporation “on behalf of” a state or municipality. Such hybrids are used because they have a sufficient nexus to a state or municipal government to satisfy federal tax criteria for the issuance of tax-exempt municipal debt, while being sufficiently distinct from the state or municipal government to escape otherwise applicable state law restrictions on the incurrence of debt. Given such hybrid nature, questions can arise about whether the issuing entity is eligible for Chapter 9 of the Bankruptcy Code (in those states that have authorized filings under that Chapter) or Chapter 11 of the Bankruptcy Code. That distinction is significant.

Not only are the rules in Chapter 9 and Chapter 11 different (particularly as they relate to bond debt), but there are more eligibility restrictions in Chapter 9 than in Chapter 11. Chief among these is the requirement of specific state authorization for Chapter 9 eligibility. Where such authorization currently does not exist, bondholders can be lulled into a false sense of security thinking their issuer cannot file bankruptcy under Chapter 9, only to find out that the issuer is Chapter 11 eligible.

The issue of Chapter 11 eligibility of a quasi-governmental entity was recently discussed by the United States Bankruptcy Court for the Northern District of Illinois in In re Lombard Public Facilities Corporation, 2017 Bankr. LEXIS 4323 (Bankr. N.D. Ill. Dec. 18, 2017). The legal analysis provided in that decision, in which the court ultimately held that the debtor was eligible under Chapter 11, may prove significant for future P3 bankruptcies.

First a brief review of some of the relevant statutory architecture in the Bankruptcy Code is in order. Entities meeting the Bankruptcy Code’s definition of a “governmental unit” are ineligible to be debtors under Chapter 11 (or Chapter 7). This is because the Chapter 11 eligibility requirements set forth in Section 109(d) of the Bankruptcy Code limit the types of entities that may be Chapter 11 debtors. One such entity that may be a Chapter 11 debtor is “a person that may be a debtor under Chapter 7” of the Bankruptcy Code. The definition of “person” (set forth in Section 101(41) of the Bankruptcy Code) expressly excludes a “governmental unit” from its definition. “Governmental unit” is defined by Section 101(27) of the Bankruptcy Code as follows:

“The term “governmental unit” means United States; State; Commonwealth; District; Territory; municipality; foreign state; department, agency or instrumentality of the United States (but not a United States trustee while serving as a trustee in a case under this title), a State, a Commonwealth, a District, a Territory, a municipality, or a foreign state; or other foreign or domestic government.” (emphasis added)

Entities meeting the above definition of a “governmental unit” are ineligible to be debtors under Chapter 7 or Chapter 11. Unless such entities are “municipalities” (as defined in Section 101(40)), and the other requirements of Chapter 9 are met (including state authorization of Chapter 9), they will be ineligible for Chapter 9 relief as well, and thus ineligible for bankruptcy under any chapter.


The debtor, the Lombard Public Facilities Corporation (the “Debtor”), was created to operate a convention center, hotel and restaurants (the “Project”) pursuant to a 2003 ordinance adopted by the Village of Lombard (the “Village”). Specifically, the ordinance approved the formation of “a not-for-profit corporation to assist in the financing and construction of a convention hall and hotel facility.” The ordinance further stated that the proposed Project was in the public interest of the citizens of the Village and that its creation was a proper public purpose. Following the ordinance, the Debtor filed its articles of incorporation with the Illinois Secretary of State as a not-for-profit corporation.

The state statute authorizing the Village to create the Debtor provides that a public facility corporation such as the Debtor is to be a “business agent of the municipality” and that such entity shall assist the municipality it serves in its essential governmental purposes. The statute further provides that control is to be maintained by appointing, removing and replacing board directors of the public facility corporation and by having title transferred to the municipality upon retirement of any bonds or other issued debt instruments.

The Village reportedly needed to incorporate the Debtor because the Village was not authorized to borrow the money needed to complete the Project. Accordingly, revenue bonds were issued in 2005 and 2006 that were payable solely from and secured by revenues generated by the Debtor and the assets of the Project. As is common in such financings, the bond documents expressly provide that the obligations were non-recourse to the Village – i.e. the Village itself was not liable on the bonds.

Shortly after the Debtor was formed, it applied to the Illinois Department of Revenue for an exemption from the Illinois Retailers’ Occupation Tax Act. In its application, the Debtor argued that its otherwise taxable purchases of goods should be tax-exempt because it was an “agent or instrumentality” of the Village and that the purchases were by a “governmental body.” Ultimately, both the tax court and an appellate court denied the Debtor’s request.

The Debtor filed for bankruptcy under Chapter 11 on July 28, 2017. Approximately one week after the filing, one of the bondholders filed a motion to dismiss the Debtor’s case, arguing that the Debtor was not an eligible Chapter 11 debtor because it was a “governmental unit.” The bondholder’s arguments were supported by the United States Trustee and the former asset manager of the hotel (collectively, the “Movants”). The motion was opposed by the Debtor, as well as ACA Financial Guaranty Corporation, the bond insurer for certain of the issued bonds, and certain other bondholders.

The Question Before the Court

The issue before the Bankruptcy Court was straight-forward: was the Debtor an instrumentality of the Village within the Bankruptcy Code’s definition of “governmental unit”? If “yes,” then the Debtor could not be a debtor under Chapter 11 and the case would be dismissed; if “no,” then the Debtor’s case could proceed. Notably, another consequence of being a “governmental unit” would be that the Debtor would have no access to relief under the Bankruptcy Code under any chapter since Chapter 9s are not currently authorized in Illinois.

The Position of the Parties – the Applicability of the Monorail Case

Before turning to the Bankruptcy Court’s decision, some discussion of In re Las Vegas Monorail Co., 429 B.R. 770 (Bankr. D. Nev. 2010) (the “Monorail Case”), is warranted. While the Bankruptcy Court’s decision made only a brief reference to the Monorail Case, the applicability of the Monorail Case was heavily debated by the parties in their briefs.

The Debtor: The Debtor argued that the Monorail Case was the “most influential and comprehensive modern case interpreting the term ‘instrumentality’ in the context of Chapter 11 eligibility.” In the Monorail Case, the Bankruptcy Court for the District of Nevada undertook a detailed historical analysis of the Bankruptcy Code (in particular Chapter 9) and applicable caselaw and used that analysis to formulate a three-part test for determining whether a debtor is an instrumentality: (i) whether the debtor has the typical characteristics of a municipality, specifically the power of eminent domain, the taxing power or sovereign immunity; (ii) whether the debtor has a public purpose, and if so, whether the parent entity (e.g., the Village) controls the debtor, in particular on a day-to-day basis; and (iii) the manner in which the debtor is described or classified under state or other applicable law. This proves to be a relatively restrictive test (which is why the Debtor supported it) as the first and second factors in particular would generally only be applicable to entities providing core governmental functions. The Debtor argued that each of these three factors weighed against a finding that the Debtor was an instrumentality of the Village; therefore, it was eligible for Chapter 11.

The Movants: The Movants argued that the Monorail Case was of “limited utility” and distinguishable on its facts. In particular, the Movants noted that the Monorail Case centered on the definition of “municipality” in Section 101(40), and not the definition of “governmental unit” in Section 101(27). While both definitions include the word “instrumentality,” the Movants argued that the word has different meanings in the two definitions, and cited to cases that supported their position. Moreover, the Movants highlighted that while the Monorail Case provided a thorough review of legislative history, it was the legislative history of Chapter 9, and not that of the definition of “governmental unit.” Legislative history relating to the latter, the Movants argued, showed Congressional intent to “defin[e] ‘governmental unit’ in the broadest sense” and that the term “governmental unit” was meant to encompass entities that (i) have an “active” relationship with a federal, territorial, state or municipal government, and (ii) “carry out some governmental function” (emphasis added). In contrast to the test set forth in the Monorail Case, applicability of a broad test would cause more entities to fall within the definition of “governmental units” and therefore be ineligible for Chapter 11.

The Bankruptcy Court Decision

The Bankruptcy Court sided with the Debtor, finding that the Debtor was not an instrumentality of the Village, therefore not a “governmental unit,” and thus eligible to be a Debtor under Chapter 11.

The Bankruptcy Court was dismissive of the various arguments that state statutes and formation ordinances supported a close relationship between the Debtor and the Village as well as the Movants’ argument that the Debtor should be bound by its argument before the tax court that it was an instrumentality of the Village. As to the applicable legal framework, the Bankruptcy Court appeared to agree with the Movants that the Court should look to the legislative history relating to the definition of “governmental unit” (i.e., supporting a broad test) to determine whether the Debtor was an instrumentality of the Village. But the Court parted ways with the Movants on application of that test, swiftly concluding that the Debtor’s commercial activities in the hotel and convention business, which were in direct competition with similar entities, did not equate to “carrying out some governmental function.”

The Bankruptcy Court neither ignored, nor adopted, the Monorail Case, yet was clearly influenced by it. As the Bankruptcy Court neared its conclusion in the case, it stated that the Debtor appropriately “noted” the analysis of the Monorail Case and then applied the three Monorail Case factors, in each instance agreeing with the Debtor that they supported the conclusion that the Debtor was not an instrumentality of the Village and therefore not a governmental unit.


Know thy borrower is an important rule for any lender. Knowing whether your borrower is eligible for relief under the federal Bankruptcy Code and if so under what chapter is an important part of that analysis. While often the distinction among governmental units that are not eligible for bankruptcy, municipalities that may be eligible for Chapter 9 bankruptcy, and other entities which may be eligible under other Chapters of the Bankruptcy Code including Chapter 11 is clear, sometimes it is not (as the Lombard and Monorail cases show us). As more hybrid entities come into the marketplace, understanding these distinctions will only become more important.


Mintz Levin’s Chuck Samuels, Meghan Burke, Len Weiser-Varon, and John Regier discussed the new tax reform bill in a webinar entitled “Tax Reform: The Threat of Annihilation of Tax Exempt Financing.”  The panel, uniquely qualified governmental, bond, and legislative counsel, offered insight on proposed tax changes, the prospects for enactment of the legislation, and how participants in tax-exempt financings can respond to this development.

You can listen to the complete webinar here.

In order to understand the context in which the current tax reform bill, H.R. 1, is being considered, it is important to know the meaning of two bits of Washington jargon: “budget reconciliation” and the “Byrd rule.”  Though somewhat arcane, these terms have a substantial impact both on the likelihood of enactment of tax reform legislation and on the contents of, and revisions to, such legislation.

Under the Congressional Budget Act of 1974, budget reconciliation is a two-step process. Under the first step, reconciliation instructions are included in the annual budget resolution. The federal fiscal year runs from October 1 through September 30. Congress passes a budget resolution specifying spending and revenue levels for that year, and, in the case of tax revenues, containing instructions to the two tax-writing committees, the House Ways and Means Committee and the Senate Finance Committee, as to the changes in law that they are to propose in order to achieve the specified tax revenue levels. Continue Reading The Budget Reconciliation Process and the “Byrd Rule”: Implications for the Ongoing Tax Reform Effort


On September 28, 2017, the Internal Revenue Service (IRS) withdrew previous proposed regulations and released new proposed regulations (the “Proposed Regulations”) relating to public approval requirements for tax exempt private activity bonds.  The Proposed Regulations (found at are intended to update and streamline implementation of the public approval requirement for tax exempt private activity bonds provided in section 147(f) of the Internal Revenue Code, including scope, information content, methods and timing for the public approval process.   They generally do not change the requirements for issuer approval and host approval set forth in the current temporary regulations originally promulgated in 1983.

Continue Reading IRS Releases New Public Approval Proposed Regulations


The U.S. Supreme Court’s June 26 opinion in Trinity Lutheran Church of Columbia, Inc. v. Comer, precluding states from discriminating against churches in at least some state financing programs, raises anew the question of whether states may, or are required to, provide tax-exempt conduit bond financing to churches and other sectarian institutions.  The Supreme Court’s decision further complicates an already complicated analysis of that question by bond counsel,  and in some instances may tip bond counsel’s answer in favor of green-lighting tax-exempt financing of some capital projects of sectarian institutions.

The First Amendment to the U.S. Constitution precludes Congress and, via the Fourteenth Amendment, states from legislating the establishment of religion (the “Establishment Clause”), or prohibiting the free exercise thereof (the “Free Exercise Clause”).  Under a line of Supreme Court cases that has been cast into doubt but never expressly repudiated by a majority of the U.S. Supreme Court, the Establishment Clause has been held to prohibit state financing of “pervasively sectarian” institutions, i.e. institutions that “are so ‘pervasively sectarian’ that secular activities cannot be separated from sectarian ones.” Roemer v. Board of Publ. Works of Maryland (1976).   Continue Reading Tax-Exempt Financing of Churches, Parochial Schools and Other Sectarian Institutions After Trinity Lutheran Church: Permitted? Required? Let us Pray for Answers