Memo to PA Congressional Delegation

On behalf of the Pennsylvania Association of Community Bankers and our Board of Directors, I am writing to request that you cosponsor legislation, H.R. 5177, introduced by Reps. English and Kanjorski that would provide an important additional tool for banks across the country to use in supporting the economic development efforts of the communities they serve. H.R. 5177 amends Section 149(b) of the Internal Revenue Code (IRC) of 1986 to clarify that the FHLBanks may provide letters of credit and other credit facilities to support non-housing municipal bond issues without adverse tax consequences for bond investors.

Issuing letters of credit (LCs) that support municipal bond issues is not a new activity for the FHLBanks. Working with their community bank stockholder/members, FHLBank LCs are routinely issued throughout the nation for the purpose of supporting housing related bond issues, both taxable and tax-exempt. The problem arises in the area of tax-exempt economic development bonds. The Internal Revenue Service has questioned whether FHLBank LC’s might trigger a loss of the tax exempt status of the bonds. It is for that reason that legislation is needed.

Municipalities regularly issue these bonds to finance community and economic development projects. The credit rating of many communities does not produce the most favorable price for their bonds when sold to investors. Obtaining a performance guarantee from a AAA-rated entity, such as the FHLBanks, results in a more favorable selling price of the bond, which translates to a lower cost of issuance and savings to the taxpayers within the community.

As written, Section 149(b) specifically mentions government sponsored enterprises including Fannie Mae, Freddie Mac, and Ginnie Mae as entities whose bonds do not lose their tax-exempt status by virtue of their having a “federal guarantee.” FHLBanks were not included in this list of exempted entities because at the time FHLBanks did not offer letters of credit. Although the IRC does exempt certain types of private activity housing bonds, regardless of the guarantor, it remains unclear whether FHLBank credit enhancements can be issued in connection with non-housing tax-exempt bonds.

Clarifying, through legislation, that FHLBank credit enhancements can also be used to support non-housing tax-exempt municipal bonds would remove any ambiguity in the statute. Including the FHLBanks among the entities already exempted under Section 149(b) of the IRC will enable member financial institutions to help reduce the cost to the taxpayers of municipal bond issues for such projects as water treatment facilities, fire stations, long-term care for the elderly, medical clinics, school buses and infrastructure improvements.

This amendment to the IRC is very straightforward, and has resulted in minimal costs when previously scored for budget purposes. Permitting FHLBank letters of credit to support tax-exempt municipal bonds does not transfer risk to the federal government since the FHLBanks are privately owned financial institutions whose obligations are explicitly not guaranteed by the United States.

We applaud Congressmen English and Kanjorski for their introduction of this important legislation and urge you to support and cosponsor legislation making this necessary and worthwhile clarification.

Should you have any questions about this legislation, please do not hesitate to contact me or Dave Transue, PACB’s Government Affairs Consultant. Thanks so much.