August 27, 2010
A recent report shows that nearly all the bond subsidies promised under the Build America Bond (BAB) program are being paid by the federal government to issuers applying for the credit without significant administrative delay. The BAB subsidy, equal to 35% of the interest cost of qualified municipal bonds, was pledged as part of the American Recovery and Reinvestment Act of 2009. The program was aimed at providing state and local governments with low cost access to loans for capital projects despite tighter international credit markets.
However, some payments have been withheld by the Internal Revenue Service to offset payroll taxes owed to the federal government by some BAB issuers. Although none of its BAB payments have been withheld yet, Illinois could face similar action if the state has trouble repaying $2.2 billion it has borrowed from the federal government to fund unemployment benefits. The State is depending on hundreds of millions in BAB subsidies to support debt service payments on $3.2 billion in capital bonds sold in the past year.
According to a report from the Treasury Inspector General for Tax Administration, state and local governments have sold a total of 315 capital bonds, totaling $26.4 billion, since the bill was passed, and 80 of those issuances have applied and qualified for reimbursement. The federal government has approved a total of $110 million in BAB subsidies so far.
However, as the city of Austin, TX, learned, if an issuer owes the federal government money the subsidy can be withheld to pay that debt. The IRS claims Austin owes them back payroll taxes and has so far withheld one payment of more than $600,000. It has been reported that a letter to the city from the IRS indicated that it would withhold a September payment of the same amount, for a total of $1.2 million in offsets. Austin is disputing the debt to the federal government and the offset of its BAB subsidy.
Austin is not alone in these offsets but so far very few of the subsidies approved under the BAB program have been affected. According to a statement in the Bond Buyer made by John Cross, a lawyer for the Treasury Department, only 1% of the approved issuances have been affected by offsets. With some states borrowing billions from the federal government to support unemployment payments, this could increase dramatically in the coming year. Illinois, along with other states, has faced huge pressures on its unemployment trust funds since the global recession began in 2008. It has been reported that Illinois began borrowing from the federal government, at no interest, after its employment security trust fund dropped from $1.8 billion in 2007 to just under $9 million by 2009. The outstanding federal unemployment loan balance of $2.2 billion is in addition to the $6.6 billion in unpaid bills the State expects to hold at the end of the current fiscal year and a $5.9 billion operating shortfall.
Not only is the State in a bad position to begin repaying its unemployment loans, it also appears unlikely that the financial pressure on the fund will significantly decline in the near future. Unemployment in Illinois grew from 10.0% in May to 10.6% June and still is ahead of the national average of 9.6%. The following interactive graph shows Illinois’ unemployment rate compared to the national average over the last 10 years.
Illinois Department of Employment Security (IDES) reported that in the week of August 20, 2010 it paid out a total of $129.2 million in benefits. As of July 31, 2010, the IDES also reported a total fund balance of only $3.1 million of deposits for IDES with the State Treasury and $398.2 million in total funds held locally to pay for benefits.
A spokesperson for IDES told the State Journal-Register that unless additional legislation is passed by Congress, states that have taken out loans from the federal government to pay for unemployment benefits could begin to be charged up to 4% interest on the debt beginning on January 4, 2011. Officials also said that if Illinois has trouble repaying these loans within two years, it could jeopardize other federal funding. The State is counting on more than $900 million in federal BAB subsidies it expects to receive beginning in 2011 to support its five BAB issuances it has sold over the past year.