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Final Regs Modify Arbitrage Rebate Rules

MAY 18, 1992

T.D. 8418; 57 F.R. 20971-21033

DATED MAY 18, 1992
DOCUMENT ATTRIBUTES
Citations: T.D. 8418; 57 F.R. 20971-21033

 [4830-01]

 

 DEPARTMENT OF THE TREASURY

 

 Internal Revenue Service

 

 26 CFR Parts 1 and 602

 

 Treasury Decision 8418

 

 RIN 1545-AJ67; 1545-A014; 1545-A033;

 

 1545-AQ19; 1545-A019; 1545-A015

 

 

 AGENCY: Internal Revenue Service, Treasury.

 ACTION: Final and Temporary Regulations.

 SUMMARY: This document contains regulations relating to the arbitrage rebate requirements applicable to tax-exempt bonds issued by States and local governments under section 103 of the Internal Revenue Code. Changes to the applicable law were made by the Tax Reform Act of 1986, the Technical and Miscellaneous Revenue Act of 1988, the Revenue Reconciliation Act of 1989, and the Revenue Reconciliation Act of 1990.

 DATES: These regulations are effective on [May 18, 1992]. For dates of applicability of these regulations to various bond issues, see section 1.148-0(b) of these regulations.

 FOR FURTHER INFORMATION CONTACT: William P. Cejudo, (202) 566-3283 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

PAPERWORK REDUCTION ACT

The collection of information contained in this final regulation has been reviewed and approved by the Office of Management and Budget in accordance with the Paperwork Reduction Act of 1980 (44 U.S.C. 3504(h)) under control numbers 1545-1098, (relating to sections 1.148-0 through 9 but not including section 1.148-6), 1545-1297 (relating to section 1.148-6), and 1545-1303 (relating to section 1.148-11). The estimated average annual burden per recordkeeper is 1.325 hours under control number 1545-1098, 1.5 hours under control number 1545-1297, and 1 hour under control number 1545-1303.

 These estimates are an approximation of the average time expected to be necessary for a collection of information. They are based on such information as is available to the Internal Revenue Service. Individual recordkeepers may require greater or less time, depending on their particular circumstances.

 Comments concerning the accuracy of this burden estimate and suggestions for reducing this burden should be sent to the Internal Revenue Service, Attn: IRS Reports Clearance Officer T:FP, Washington, D.C., 20224, and to the Office of Management and Budget, Attention: Desk Officer for the Department of the Treasury, Office of Information and Regulatory Affairs, Washington, D.C. 20503.

Background

EXPLANATION OF PROVISIONS

I. BACKGROUND OF REGULATIONS.

 Section 148 provides rules concerning the use of proceeds of state and local bonds to acquire higher yielding investments. Section 148(a) provides that, except as otherwise permitted by section 148, interest on a state or local bond generally is tax-exempt only if the issuer invests bond proceeds at a yield not exceeding the bond yield. Section 148(f) provides that interest on a state or local bond is tax-exempt only if the issuer rebates to the Federal government certain arbitrage derived from investing bond proceeds at a yield exceeding the bond yield. Temporary regulations implementing the rebate requirement under section 148(f) were published at section 1.148-0T through section 1.148-9T in the Federal Register for May 15, 1989 (54 FR 20787) (the "1989 temporary regulations"). Certain simplifying amendments to the 1989 temporary regulations were published in the Federal Register for April 25, 1991 (56 FR 19045). At that time the Internal Revenue Service announced a series of high priority projects to address areas reserved by the 1989 temporary regulations or in need of further guidance, including spending exceptions to the arbitrage rebate requirement under section 148(f)(4)(C), the transferred proceeds rules under section 1.148-4T(e), and the general allocation and accounting rules for rebate purposes under section 1.148-4T, including particularly rules for commingled investments.

 Proposed regulations concerning general allocation and accounting rules for rebate purposes were published at section 1.148-4 in the Federal Register for January 30, 1992 (57 FR 3562). Proposed regulations concerning transferred proceeds allocations and other arbitrage restrictions on refunding issues were published at section 1.148-11 in the Federal Register for February 12, 1992 (57 FR 5101). Proposed regulations concerning spending exceptions to the arbitrage rebate requirement were published at section 1.148-6 in the Federal Register for February 12, 1992 (57 FR 5111). Written comments were received on each of these proposed regulations. Additional public comments were received at a public hearing held on April 3, 1992. (These three sets of proposed regulations are referred to as the "1992 proposed regulations"). After consideration of these comments, the 1992 proposed regulations have been modified and are adopted in final form.

 The 1989 temporary regulations expire three years after their date of issuance under section 7805(e). To provide continuous regulatory guidance to state and local governments, the 1989 temporary regulations, as amended, are also adopted in final form.

II. COMMITMENT TO FURTHER SIMPLIFICATIONS AND CLARIFICATION

 The Internal Revenue Service and the Treasury Department are committed to further simplifying and clarifying regulatory guidance under section 148. To this end, they will rewrite the yield restriction and rebate regulations under 148.

 The Service and the Treasury Department invite the public to comment on how simplification of the regulations is best achieved. The Service and the Treasury Department are committed to finalizing the rewritten regulations by June 1993. Thus, the final regulations adopted in this document will expire by their terms on June 30, 1993.

III. AMENDMENTS TO 1989 TEMPORARY REGULATIONS

 The 1989 temporary regulations, as amended by the 1991 amendments, are adopted as final regulations in substantially their present form. The final regulations contain certain technical changes to the 1989 temporary regulations. These technical changes include provisions to consolidate the location of the effective date provisions, to conform the cross-references, and coordinate the definitions.

 In addition, to simplify the treatment of refundings, the final regulations replace certain definitions regarding advance refunding escrows, restricted escrows, and excess proceeds escrows with a single, simplified definition of "refunding escrow fund." The final regulations also delete certain special rules that used the referenced definitions.

IV. AMENDMENTS TO 1992 PROPOSED REGULATIONS ON GENERAL ALLOCATION AND ACCOUNTING RULES FOR ARBITRAGE REBATE PURPOSES.

A. GENERAL OVERVIEW.

 The 1992 proposed regulations provide general allocation and accounting rules for arbitrage rebate purposes. These regulations generally permit an issuer to use any reasonable, consistently applied accounting method for arbitrage rebate purposes, except to the extent that a specific accounting method is mandated in various specified instances. The regulations also contain a broad, general anti-abuse rule that prohibits use of any accounting method as an artifice or device to avoid the arbitrage rebate requirements.

 The 1992 proposed regulations on allocation and accounting rules are adopted in final form. In addition, the final regulations partially integrate accounting requirements with respect to tax-exempt bonds by extending the application of these rules to apply for all purposes of section 148. Section 1.103-13(f) of the 1979 final regulations is withdrawn.

 Comments received on the 1992 proposed regulations, and changes made in response to those comments, are discussed below.

B. DEFINITIONS.

 1. COMMINGLED FUND. Commentators requested clarification of whether a commingled fund includes a mutual fund. The final regulations clarify that a "commingled fund" does not include an open-end regulated investment company within the meaning of section 851. In addition, the final regulations add a de minimis exception which excepts from the definition of a commingled fund any fund that contains less than $25,000 from a second source.

 2. CONSISTENTLY APPLIED. Some commentators expressed concern that the "consistently-applied" accounting method requirement was too broad in that it did not recognize certain special needs of issuers to account for funds other than tax-exempt bond proceeds using different accounting methods. The final regulations limit the scope of the "consistently-applied" definition to gross proceeds of an issue and any commingled fund that contains those gross proceeds.

 3. GRANT. Some commentators requested clarification of the breadth of the clause of the grant definition that denied grant treatment for funds transferred "to satisfy a legal obligation." The final regulations clarify that this provision only denies grant treatment for transfers of funds to satisfy a legal, non- discretionary funding obligation. For example, a state's general governmental obligation to further public purposes, such as overseeing public schools, does not invalidate an otherwise eligible grant for public school purposes.

C. UNIVERSAL CAP RULE.

 The 1992 proposed regulations contain a new universal cap rule that limits the amount of invested gross proceeds allocable to a bond issue. Many commentators reacted favorably to the concept of universal cap, but requested that the rules be simplified. Commentators also expressed concern over the frequency of the required computations. The final regulations simplify the universal cap rule in several respects. Provisions excluding certain proceeds from the rule are deleted and, instead, initial cap computations and the applicability of the cap is generally postponed until two years after the date of issuance of a bond issue. The final regulations reduce the general required frequency of computation of the universal cap from quarterly to annually. The final regulations also permit issuers to compute the universal cap by using the outstanding principal amount of the bonds as a measure for valuation purposes. In addition, investments that are re-allocated investments to another issue as a consequence of the universal cap are permitted to be valued under a simpler present value computation in lieu of fair market value if that present value was used to apply the universal cap in the first instance. Some commentators suggested that the universal cap rule be optional, but this suggestion was rejected because the rule, as modified, is appropriate in all cases.

D. ALLOCATION OF GROSS PROCEEDS TO INVESTMENTS.

 1. IN GENERAL. The final regulations adopt in substantially unchanged form the general requirement of the 1992 proposed regulations that gross proceeds may not be allocated to the purchase of an investment in an amount greater than, or to the sale of an investment in an amount less than, fair market value. Some commentators recommended that the definition of fair market value be reconsidered. The current definition is retained because it is consistent with the definition of fair market value used elsewhere in the 1989 temporary regulations.

 2. ADMINISTRATIVE COSTS OF INVESTMENTS. The 1989 temporary regulations provide that administrative costs of investments purchased with proceeds of tax-exempt bonds are not taken into account in determining the yield on those investments for arbitrage purposes. Except as described in this paragraph with respect to certain commingled funds and regulated investment companies, the final regulations generally retain the general rule of the 1989 temporary regulations that prohibits taking administrative costs into account.

 The 1992 proposed regulations contain special rules which permit all commingled funds to take into account certain administrative costs, capped at specified levels. Some commentators objected to any administrative cost limitations. Some commentators requested an overall exception for regulated investment companies, others requested such an exception for external state investment pools, and others requested that, in any event, treatment of administrative costs of investing in these two similar types of investments should be the same.

 For purposes of computing investment yield on investments of bond proceeds, the final regulations adopt rules that permit all reasonable administrative costs paid with respect to certain external commingled funds and regulated investment companies to be taken into account. For this purpose, an "external commingled fund" is a fund in which an issuer investing its bond proceeds has less than 10 percent of the beneficial interest (including interests of members of the same controlled group).

 For a commingled fund or regulated investment company to qualify under these administrative cost rules, the fund must either be a publicly offered regulated investment company or the fund must have at least the lesser of $50 million or 50 percent of its assets derived from sources other than tax-exempt bond proceeds. The purpose of this condition is to encourage efficient, market rate investment of tax-exempt bond proceeds.

 For certain regulated investment companies (those that do not satisfy the requirements described in the previous paragraph) and certain internally-managed commingled funds, up to .25 percent per annum of reasonable administration cost may be taken into account.

 3. INVESTMENT CONTRACTS. The 1992 proposed regulations impose specific requirements on investment of tax-exempt bond proceeds in securities or contracts that provide a guaranteed rate of return (commonly referred to as "guaranteed investment contracts"). Commentators urged the Service to address specific abuses of investment contracts rather than investment contracts in general.

 The final regulations substantially modify and simplify the requirements relating to investment contracts. A general mandatory three-bid requirement for investment contracts is retained as the principal rule to encourage market yield investments. Several of the subsidiary requirements are either modified or deleted. For example, the restrictions on drawdowns are replaced by a requirement that the pricing of an investment contract take into account the reasonably expected drawdown schedule. The final regulations also delete the audit requirement for investment contract expenses, the comparable Treasury yield requirement, and the prohibition against bidding based on bond yield. In addition, the final regulations add exceptions to the investment contract rules for certain short-term investment contracts, publicly-traded investment contracts, and investment contracts at yields substantially below bond yield. These exceptions are appropriate because these investments raise fewer concerns about market value and yield.

 4. SAFE HARBORS FOR CERTIFICATES OF DEPOSIT. The 1992 proposed regulations provide a "three-bid" safe harbor for a fair market value purchase of a certificate of deposit. The final regulations adopt this proposed safe harbor in substantially unchanged form. In addition, in response to comments, the final regulations add another safe harbor which permits the purchase of a certificate of deposit at published or posted rates without the necessity of using a bidding procedure.

E. ALLOCATION OF GROSS PROCEEDS TO EXPENDITURES.

 1. GENERAL ALLOCATION RULES FOR EXPENDITURES. The 1992 proposed regulations contain a general, cash-based expenditure rule for gross proceeds. The final regulations adopt these rules in substantially unchanged form. Any expenditure of gross proceeds generally must involve a reasonably current outlay of cash (normally within five banking days) and carry out a governmental purpose of an issue.

 2. SPECIAL ALLOCATION RULES FOR WORKING CAPITAL EXPENDITURES. The 1992 proposed regulations impose a general "bond-proceeds-spent- last" accounting assumption for working capital expenditures. This accounting rule permits allocations of proceeds of tax-exempt bonds to working capital expenditures only after all other "available amounts" are spent for working capital purposes. While commentators generally acknowledged that this assumption was an appropriate general rule for working capital expenditures, they identified various categories of expenditures which were either inappropriately included within the scope of the general rule or the treatment of which was unclear.

 In response to these comments, the working capital expenditure rules are modified and clarified in several respects. The final regulations exclude from the general bond-proceeds-spent-last rule expenditures for payment of issuance costs of a bond issue, reasonable charges for credit enhancement, financed debt service on a refunded issue, amounts from a bona fide debt service fund, and extraordinary non-periodic legal judgments. In addition, the special exception for certain start-up projects is modified and simplified. A simplified de minimis rule in the final regulations provides that amounts of up to 5 percent of the sale proceeds of an issue that relate directly to capital expenditures financed by the issue may be spent outside the general rule. Finally, the final regulations clarify the intent of the 1992 proposed regulations that "reimbursement" of working capital may be done with tax-exempt bond proceeds, so long as the working capital expenditure rules (as contrasted with the inapplicable section 1.103-18 rules) are otherwise satisfied.

 In addition, the 1992 proposed regulations treat working capital expenditures as having a 364-day life for purposes of the bond maturity limitation under section 147(b). Several commentators for 501(c)(3) organizations recommended that, since the working capital expenditure rules are generally strict, section 147(b) should not apply to working capital expenditures. In response to these comments, the final regulations adopt this comment.

 3. SPECIAL ALLOCATION RULES FOR GRANT EXPENDITURES. The 1992 proposed regulations contain a special rule that treats certain eligible grants of proceeds of bonds as spent on the date the grantor transferred the grant moneys to the grantee. This special rule is not available for grants expected to be used for working capital expenditures or for private business uses. Commentators pointed out that grants for working capital expenditures to localities and nonprofit organizations warranted the benefit of the special grant rule. The final regulations adopt this comment.

F. SPECIAL ALLOCATION RULES FOR COMMINGLED FUNDS.

 The 1992 proposed regulations provide certain minimum special allocation and accounting rules for commingled funds to assure accurate accounting for earnings for arbitrage rebate purposes. The final regulations adopt these proposed accounting rules in substantially unchanged form. As previously discussed, the final regulations do change the definition of commingled fund expressly to exclude open-end regulated investment companies and liberalize the treatment of administrative costs of commingled funds.

 In addition, some commentators objected to the mark-to-market requirement imposed on commingled funds in the 1992 proposed regulations. Other commentators pointed out that the mark-to-market requirement is inappropriate for commingled funds that serve as reserve funds for multiple bond issues. The final regulations retain the mark-to-market requirement, because the Service and Treasury Department believe that this requirement is necessary to prevent the timing of sales in a manner that would minimize arbitrage earnings allocable to gross proceeds in the commingled fund. To reduce administrative burdens, the final regulations provide an exception to this requirement for a commingled fund that serves exclusively as a common reserve fund or sinking fund for two or more bond issues.

 Some commentators also objected to the required frequency of allocations involving commingled reserve funds and sinking funds. To reduce administrative burdens, the final regulations limit the frequency of required allocations of commingled reserve funds and sinking funds to once every five years and to each date that new bond issues are added to the coverage of the funds.

G.SPECIAL COMMINGLED INVESTMENT EARNINGS EXCEPTION TO THE ARBITRAGE REBATE REQUIREMENT.

 The 1992 proposed regulations provide a commingled earnings exception that treats certain investment earnings of eligible governmental bonds as spent on the date of deposit in an eligible commingled fund if the earnings are reasonably expected to be spent within six months. In response to comments, the final regulations extend the scope of this special rule to cover certain governmentally-owned facilities financed with tax-exempt bonds and certain investment earnings in refunding issues (excluding earnings in a refunding escrow fund). In addition, the final regulations clarify the original intent of the six-month reasonably expected expenditure test under this rule. Under the final regulations, an issuer may use any reasonable accounting assumption to establish these expectations and is not bound by the "bond-proceeds-spent-last" assumption generally required for working capital expenditures.

V.AMENDMENT TO 1992 PROPOSED REGULATIONS ON TRANSFERRED PROCEEDS ALLOCATIONS AND OTHER ARBITRAGE RESTRICTIONS ON REFUNDING ISSUES.

A. GENERAL OVERVIEW.

 The 1992 proposed regulations provide guidance on the definition of refunding issues, on the extent to which unspent proceeds of a prior issue become "transferred proceeds" of a refunding issue, and on various special allocation rules for bond proceeds and investments in refunding issues for various purposes. These regulations are proposed to apply for all purposes of section 148 and section 149(d). The 1992 proposed regulations are intended to simplify transferred proceeds computations, clarify the definition of a refunding issue, and provide flexible allocation rules for multipurpose issues involving refundings.

 Commentators requested that issuers be permitted an election to apply the 1992 proposed regulations retroactive to the effective date of the 1989 temporary regulations. The final regulations permit this.

B. DEFINITION OF REFUNDING ISSUE.

 The 1992 proposed regulations provide that a refunding issue generally include any issue the "gross proceeds" of which are used to pay debt service on another issue. Several commentators expressed concern that the use of the broadly-defined gross proceeds term to measure a refunding issue could lead to unintended results and recommended use of the narrower term "proceeds" used under prior regulations. The final regulations generally adopt the commentators' recommendation but include within the definition of proceeds certain prescribed "after-arising replacement amounts" to prevent circumvention of refunding restrictions.

 The 1992 proposed regulations provide that an issue is a refunding issue only to the extent that the issue and the prior issue being refinanced have as obligors the same person or a related person. This definition focuses on the conduit borrower in a conduit financing and treats the conduit borrower as the obligor. In response to a comment, the final regulations clarify that the special rules on conduit borrowers do not apply to issues used to finance broad-based purpose investments for single-family housing under section 143, student loans under section 144, and similar purpose investments. A recommendation to drop a provision restricting treatment of related party refinancings was rejected because it was felt that proceeds of a related party debt is not characterized properly until it is transferred to an unrelated party.

C. CERTAIN OTHER DEFINITIONS.

 1. CERTAIN RELEASED AMOUNTS. The 1992 proposed regulations contain a definition of "released amounts" that treats as replacement proceeds of a refunding issue certain amounts that, as a result of the refunding, cease to be replacement proceeds of the prior issue and that are not spent for a governmental purpose within six months after the date of issue of the refunding issue. Several commentators suggested that this rule would inappropriately discourage use of non- bond proceeds to fund reserve funds for tax-exempt bond issues. Accordingly, this rule is deleted in the final regulations.

 2. CERTAIN AFTER-ARISING REPLACEMENT AMOUNTS. The 1992 proposed regulations contain a rule that treats as replacement proceeds of a refunding issue certain defined "after-arising amounts" that arise after the date of the refunding issue as a result of the refunding and that are used to pay debt service on any other issue. The final regulations retain this rule to prevent abuses resulting from interest-only and other window refunding structures. However, in response to comments, the rule is modified and clarified. Under the final regulations, the rule-applies so long as the after-arising amounts are reasonably expected to become available for investments that may be at higher yields regardless of whether actually so used. The final regulations also clarify how the present value method is used to measure these amounts.

D. PRINCIPAL-TO-PRINCIPAL ALLOCATION METHOD FOR TRANSFERRED PROCEEDS.

 The 1992 proposed regulations contain a "principal-to-principal" transfer method. Under this method, transfers of unspent proceeds from a prior issue to a refunding issue are based on the portion of the outstanding principal amount of the prior issue paid with gross proceeds of the refunding issue on any date. The final regulations adopt this provision with certain clarifications. The relationship between the transferred proceeds allocation rule and the universal cap rule is clarified. If transferred proceeds on a particular transfer date exceed the universal cap, those transferred proceeds are reallocated immediately back to the issue from which they transferred. No special preference is given to those amounts on future transfer dates.

E. OTHER SPECIAL ALLOCATION RULES FOR REFUNDINGS.

 1. ALLOCATIONS OF INVESTMENTS TO TRANSFERRED PROCEEDS. The 1992 proposed regulations provide a "ratable allocation method" and a "representative allocation method" for allocating investments to transferred proceeds. The final regulations clarify that, with respect to the representative allocation method, if a portion of nonpurpose investments is otherwise representative, it is within the issuer's discretion to allocate the portion from whichever source of funds it deems appropriate (such as a reserve fund or a refunding escrow fund for a prior issue).

 2. RESTRICTIONS ON ESCROW RESTRUCTURINGS. The 1992 proposed regulations contain an anti-abuse rule that restricts the ability of issuers to liquidate an existing refunding escrow fund and to refinance that escrow fund with proceeds of another refunding issue to avoid the impact of transferred proceeds allocations. Several commentators expressed concern that the language of this provision was unduly broad and may cover non-abusive transactions. The final regulations clarify that this special rule only prohibits escrow restructurings that involve the substitution of proceeds of an issue with funds that are not proceeds of that issue.

F. TEMPORARY PERIODS FOR UNRESTRICTED INVESTMENTS IN REFUNDINGS.

 The 1992 proposed regulations simplify the prescribed temporary periods for investment of proceeds of refunding issues at unrestricted yields. Under these rules, the general temporary period for refunding issues is the 30-day period beginning on the date of issue. The 1992 proposed regulations also contain certain special temporary period rules for transferred proceeds, investment proceeds, accrued interest, and costs of issuance. The final regulations simplify, clarify, and expand the temporary period rules for refunding issues in several respects.

 Many commentators requested that the 90-day temporary period available for current refunding issues under the 1979 regulations be restored to ease administrative burdens in recognition of the limited potential arbitrage in these transactions. The final regulations generally restore the 90-day temporary period for current refunding issues. Temporary periods for refundings of certain short-term issues (i.e., rollovers of commercial paper), however, are limited to 30 days, with a tacking rule that limits the aggregate temporary period for all short-term issues in the same series of refundings to 90 days.

 In response to comments, the final regulations clarify that bona fide debt service funds for refunding issues are eligible for a temporary period.

 Some commentators requested that an issuer be permitted to waive the general 30-day temporary period and minor portion rules for refunding issues to allow efficient structuring of yield-restricted refunding escrow funds. The final regulations permit this waiver.

G. MINOR PORTIONS IN REFUNDINGS.

 Section 148(e) significantly reduced the permitted minor portion to the lesser of (a) $100,000, or (b) 5 percent of the proceeds of an issue. The 1992 proposed regulations allow this minor portion for both the refunding issue and the prior issue, measured by reference to sale proceeds. The final regulations adopt this provision unchanged, but clarify that only one minor portion exists for a multipurpose issue.

H. REASONABLY REQUIRED RESERVE AND REPLACEMENT FUNDS IN REFUNDINGS.

 The 1992 proposed regulations generally permit proceeds of a refunding issue to be invested in the amount prescribed by section 148(d) in a reasonably required reserve or replacement fund for the refunding issue. These regulations contain an overall limitation effective as of the date of issue of a refunding issue. Under this limitation, the aggregate amount that can be invested in higher yielding investments in reasonably required reserve or replacement funds for both the refunding issue and the prior issue is limited to 10 percent of sale proceeds of the refunding issue. The final regulations clarify that this provision limits the amount that may be invested in higher yielding investments rather than the amount that may be held in a yield-restricted reserve fund.

I. PAYMENT OF TRANSFERRED PROCEEDS PENALTY IN A CURRENT REFUNDING.

 The 1992 proposed regulations permit an issuer to reduce the yield on certain transferred proceeds in a current refunding by making a payment to the Internal Revenue Service. Some commentators recommended the extension of this provision to advance refunding issues. This provision is not being extended at this time because of concerns over the impact on the market and questions about the need for such a provision in advance refundings. Further comment on this proposal is invited.

J. MULTIPURPOSE ISSUE ALLOCATIONS.

 The 1992 proposed regulations contain new, flexible allocation rules for multipurpose issues. Subject to various special rules, these regulations permit gross proceeds, investments, and bonds of a multipurpose issue to be allocated among the separate governmental purposes of the issue using any reasonable, consistently applied allocation method. The 1992 proposed regulations contain certain restrictions on allocating bonds to the refunding portion of the multipurpose issue to prevent artificial allocations of the earliest maturities to that portion.

 The final regulations adopt these multipurpose issue rules from the 1992 proposed regulations, with certain modifications in response to comments. The final regulations clarify the scope of the multipurpose issue allocation rules for various purposes of sections 148 and 149. They also provide an example to illustrate a permitted multipurpose allocation in a partial refunding involving unoriginated loan funds with respect to a qualified mortgage bond issue under section 143. In addition, the final regulations provide an anti-abuse rule that limits multipurpose issue allocations to so-called "first generation" allocations. For example, a refunded issue may be separated pursuant to the multipurpose issue allocation rules, but an issue refunded by that refunded issue must retain its original allocations and may not be separated pursuant to this rule.

 Some commentators requested that a partially-refunded single- purpose issue be treated as a separate issue under the multipurpose issue rules. This proposal was rejected because the general principal-to-principal transfer rule transfers the proper proportion of a partially-refunded prior single-purpose issue.

VI. AMENDMENTS TO SPENDING EXCEPTIONS.

 The 1992 proposed regulations provide guidance regarding the two spending exceptions to the arbitrage rebate requirement contained in section 148(f)(4)(B) (the "6-month exception") and section 148(f)(4)(C) (the "2-year construction exception"). Comments received on the 1992 proposed regulations, and changes made in response to those comments, are discussed below.

A. PROVISIONS AFFECTING BOTH SPENDING EXCEPTIONS.

 The 1992 proposed regulations permit issuers to elect not to be subject to the 2-year construction exception. In response to comments, this election is eliminated and a new provision is added providing that the 2-year construction exception and the 6-month exception are both optional unless the issuer elects to pay the 1-1/2 percent penalty in lieu of rebate.

 Several comments requested relief from various statutory requirements. These comments included requests for various types of de minimis exceptions to specific statutory requirements, such as the spending requirements. These provisions are not included in the final regulations. In certain situations, the statute itself provides certain de minimis exceptions. In other situations, the Service and the Treasury Department will consider whether other de minimis rules or other exceptions are appropriate in connection with the simplification project.

B. 6-MONTH EXCEPTION

 In response to comments, the final regulations revise the transferred proceeds rule for the 6-month exception, making it more consistent with the treatment of transferred proceeds for purposes of the 2-year construction exception. Generally, under the final regulations, the 6-month exception applies without regard to transferred proceeds. A new anti-abuse rule for bonds issued as a series of refundings is also provided.

 The 1992 proposed regulations provide that the governmental purposes of an issue do not include payments of principal of the issue. Commentators requested an exception to this general rule for amounts qualifying for the additional 6-month spending period available for governmental and qualified 501(c)(3) bonds, arguing that statements in legislative history permitted this rule. The final regulations do not adopt this suggestion because statutory amendments enacted subsequent to the legislative history statements permit no such exception.

 The final regulations make certain other technical clarifications under the 6-month exception in response to comments received on the 1992 proposed regulations. The use of proceeds to pay debt service on other obligations of the issuer is clarified. In addition, certain amounts used for accrued interest and capitalized interest are permitted to be treated as amounts in a bona fide debt service fund.

C. 2-YEAR CONSTRUCTION EXCEPTION.

1. DEFINITION OF CONSTRUCTION EXPENDITURES.

The final regulations contain several revisions made in response to comments on the 1992 proposed regulations regarding the definition of construction expenditures. The final regulations clarify that, for purposes of the definition of construction expenditures, expenditures are treated as chargeable to qualifying property if the expenditures will be chargeable to the property on or before the date the property is placed in service. In addition, the definition of construction expenditures is expanded to include expenditures for certain specially developed computer software. Application of the new software rule is clarified by a new example. The final regulations also provide that, with certain limitations, the rule for constructed personal property not built by the issuer applies on a contract by contract basis. Also, the rules for constructed personal property are modified so that they apply to both property that is built and property that is rehabilitated. In response to comments that it is too restrictive, the requirement that no more than 60 percent of the basis of personal property built by the issuer be attributable to raw materials and components is raised to 75 percent.

 Commentators requested that certain expenditures for the purchase of land be included in the definition of construction expenditures, such as expenditures for land that is functionally related and subordinate to a construction project. The final regulations do not adopt such a rule because the legislative history with respect to the exception indicates that acquisitions of land were not intended to be included. Commentators also requested elimination of the requirement regarding constructed personal property acquired by the issuer that the property be specially built to the issuer's specifications. This requirement is retained in the regulation in order to prevent items that may ordinarily be purchased "off the shelf" from qualifying for the rule merely because the seller does not have a current supply. Comments were also received requesting that certain amounts used to refund taxable debt be treated as construction expenditures. This modification was not made in the final regulations because the statute provides that this exception does not apply to refundings, and the rule treating the refunding portion of an issue as a separate issue enables an issuer to apply the 6-month exception to the refunding portion of a multipurpose issue.

2. MISCELLANEOUS CLARIFICATIONS AND CHANGES.

In response to comments that the definition of reasonable retainage in the 1992 proposed regulations was too restrictive, the definition of reasonable retainage in the final regulations was broadened by eliminating the requirements that the disputed amounts be placed in escrow and the dispute be put into writing. The final regulations instead focus on whether the issuer reasonably determines that a dispute exists.

 Commentators requested less complex rules regarding the treatment of amounts used to pay issuance costs. Under the final regulations, a simplified treatment of bond proceeds used to pay issuance costs, and earnings thereon, is provided, eliminating the requirement that all such amounts be allocated to a separate nonconstruction issue.

 The 1992 proposed regulations provide a special rule giving issuers additional time to spend earnings accrued but not actually or constructively received as of the end of the fourth spending period. In response to comments, this rule was expanded in the final regulations to also apply to earnings on reasonable retainage as of the end of the spending period ending 36 months after the date of issue.

 The final regulations permit issuers to elect to apply the final regulations to bonds issued prior to the general effective date. Commentators noted that, because the 1992 proposed regulations provide that an election under section 148(f)(4)(C)(v) to treat a portion of an issue as a separate construction issue must specifically identify the amount of the issue price allocable to the construction issue, an issuer that elects into the regulations risks invalidating its election under section 148(f)(4)(C)(v) if the election does not contain such an identification. In response to this comment, the final regulations provide that, in those circumstances, the election will not be treated as invalid solely because of the failure to specify. In response to comments, numerous other technical changes and modifications were made to the final regulations.

VII. REFUND OF REBATE OVERPAYMENT.

 The final regulations are amended by a proposed and temporary regulation at section 1.148-13T to provide authority for the Commissioner to make refunds of rebate overpayments, provided that certain conditions are satisfied. The proposed and temporary regulations provide that an issuer must have made an overpayment as a result of a mistake of law or fact in order to qualify for a refund. For example, an issuer will not qualify for a refund because of investment of nonpurpose investments at a yield below the yield on an issue subsequent to a rebate payment. Also, in many instances the Internal Revenue Service is not required to refund an overpayment until after the final computation date or until after an issuer's rebate obligation is otherwise finally determined. Comments are invited on this provision.

 The Internal Revenue Service intends to issue a revenue procedure explaining how to seek a recovery of overpayment.

VIII. ARBITRAGE REBATE IN LIEU OF CERTAIN YIELD RESTRICTIONS.

 New proposed and temporary regulations under section 1.148-12T are issued to simplify section 148 by integrating the duplicative arbitrage rebate and yield restriction regulations for certain eligible tax-exempt bond proceeds. The rebate requirement of section 148(f) and the separate longstanding arbitrage yield restriction rules of under section 148(a) address similar policy objectives. These regulations respond to continuing comments on the 1989 temporary regulations to permit the payment of arbitrage rebate under section 148(f) to satisfy certain otherwise applicable investment yield restrictions under section 148(a). New section 1.148-12T extends some temporary periods for certain eligible bond proceeds that are already subject to the rebate requirement of section 148(f), that are not eligible for an exception to the rebate requirement, and that satisfy the rebate requirement.

 In addition, these bond proceeds must have originally qualified for a temporary period. For example, if proceeds that were originally eligible to take advantage of the temporary period provided for in section 1.103-13(b) (the "3-year" temporary period) failed to meet the "time test" described in section 1.103-13(b)(3)(ii), the proceeds would not be eligible for the 3-year temporary period and therefore would not be eligible for the temporary period under section 1.148-12T.

 This provision does not apply to certain proceeds of refunding issues, proceeds of issues that have been refunded by an advance refunding issue, proceeds of pooled financing issues, or proceeds of construction issues that are covered by an election to pay penalty in lieu of rebate under section 148(f)(4)(C)(vii). This provision is generally intended to apply to situations under which applicable temporary periods have expired and proceeds are subject to yield restriction. For example, if an issuer is subject to the rebate requirement for proceeds invested during a 3-year temporary period and the 3-year temporary period expires but some proceeds remain unspent (due to bona fide reasons), the new temporary period applies until the proceeds are spent. In this instance, the issuer need not restrict the investment yield on those unspent proceeds to the bond yield upon termination of the initial temporary period.

 Comments are solicited regarding the scope and application of this provision.

SPECIAL ANALYSES

 It has been determined that these rules are not major rules as defined in Executive Order 12291. Therefore, a Regulatory Impact Analysis is not required. It has also been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) and the Regulatory Flexibility Act (5 U.S.C. chapter 6) do not apply to these regulations, and, therefore, a final Regulatory Flexibility Analysis is not required. Pursuant to section 7805(f) of the Internal Revenue Code, these regulations will be submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on their impact on small business.

LIST OF SUBJECTS

26 CFR 1.101-1-1.133-1T

 Income taxes, Reporting and recordkeeping requirements.

26 CFR Part 602

 Reporting and recordkeeping requirements.

Treasury Decision 8418

ADOPTION OF AMENDMENTS TO THE REGULATIONS

Accordingly, 26 CFR parts 1 and 602 are amended as follows:

PART 1 -- INCOME TAX; TAXABLE YEARS BEGINNING AFTER DECEMBER 31, 1953

Paragraph 1. The authority citation for part 1 is amended by removing the entries for "Sections 1.148-0T through 1.148-9T" and "Section 1.148-10T" and by adding new citations to read as follows:

Authority: 26 U.S.C. 7805 * * *

Sections 1.148-0 through 1.148-9 also issued under 26 U.S.C. 148(f) and (i) * * *

Section 1.148-11 also issued under 26 U.S.C. 148(f) and (i).

Sections 1.148-12T and 1.148-13T also issued under 26 U.S.C. 148(f) and (i). * * *

Section 1.149(d)-1T also issued under 26 U.S.C. 148(f) and (i).

Section 1.149(d)-1 also issued under 26 U.S.C. 149(d)(7).

Par. 1. Paragraph (f) of section 1.103-13 is removed and reserved.

Par. 2. Paragraph (e) of section 1.103-14 is removed.

Par. 3. Paragraph (c) of section 1.103-15 is revised to read as follows:

SECTION 1.103-15 EXCESS PROCEEDS.

* * * * *

(c) FIRST EXCEPTION: GROSS REFUNDING WITH A PRIOR RULING. This section does not apply to a gross refunding if, prior to the date of issue of any refunding issue that is part of the gross refunding, the Internal Revenue Service gives the issuer a ruling in accordance with paragraph (e) of this section.

* * * * *

Par. 4. Section 1.148-0T through 1.148-9T and 1.148-10T are removed.

Par. 5. New sections 1.148-0 through 1.148-9 are added to read as follows:

SECTION 1.148-0 SCOPE AND EFFECTIVE DATE OF RESTRICTIONS ON ARBITRAGE.

(a) SCOPE -- (1) IN GENERAL. The provisions of sections 1.148-1 through 1.148-9 prescribe regulations under section 148. The Federal income tax exemption of interest on State and local bonds under section 103(a) enables State and local governments to borrow at lower interest rates than taxable issuers. This lower interest rate enables State and local governments to finance their governmental activities at significantly less cost. The lower interest rate also provides the potential to benefit from tax arbitrage by investing proceeds of the bonds in taxable investments. The principal purpose of section 148 is to eliminate significant arbitrage incentives to issue more bonds, to issue bonds earlier, and to leave bonds outstanding longer than necessary to carry out the governmental purpose of the tax-exempt issue. A secondary purpose of section 148 is to minimize the tax arbitrage benefit associated with investing proceeds of the bonds in taxable investments. Minimizing this tax benefit targets the tax benefits to the activities for which the tax exemption is provided. If a State or local bond is an arbitrage bond (within the meaning of section 148), interest on the bond is not excluded from gross income under section 103(a). See section 103(b)(2).

(2) ARBITRAGE BOND DEFINED. Section 148(a) provides generally that the term "arbitrage bond" means any bond issued as part of an issue any portion of the proceeds of which is reasonably expected (at the time of issuance of the bond) to be used to acquire higher yielding investments or to replace funds that were used to acquire such investments. In addition, a bond is treated as an arbitrage bond if the issuer at any time intentionally uses any portion of the proceeds of the issue in such manner. Section 148(b) provides generally that the term "higher yielding investments" means investments (other than certain tax-exempt bonds) that produce a yield over the term of the issue that is materially higher than the yield on the issue. Section 148(c), (d), and (e) provide exceptions for proceeds invested for a reasonable temporary period, as part of a reasonably required reserve or replacement fund, and as part of a minor portion.

(3) REQUIRED REBATE TO THE UNITED STATES. Section 148(f) provides generally that a bond that is part of an issue shall be treated as an arbitrage bond unless the issuer rebates to the United States arbitrage profits earned from investing in nonpurpose investments. Section 148(f)(6) provides generally that the term "nonpurpose investment" means any investment (other than certain tax- exempt bonds) that is acquired with gross proceeds of the issue, and that is not acquired in order to carry out the governmental purpose of the issue. Section 148(f)(4) provides exceptions from arbitrage rebate for certain proceeds spent within 6-months, for certain proceeds used to finance construction expenditures within 2 years, and for small issuers with general taxing powers. Section 148(f) does not apply to qualified veterans' mortgage bonds, or to qualified mortgage bonds issued on or before December 31, 1988.

(4) RESERVE OR REPLACEMENT FUND FINANCING LIMITATION. Section 148(d)(2) provides generally that a bond that is part of an issue shall be treated as an arbitrage bond if the amount of the sale proceeds of the issue that is part of a reserve or replacement fund exceeds 10 percent of the proceeds of the issue. This limitation restricts overissuance of tax-exempt bonds in order to obtain significant financial advantages through exploitation of the interest rate differential between the tax-exempt issue and a comparable taxable issue. See also section 149(d) (relating to additional restrictions on advance refundings) and section 149(f) (relating to additional restrictions on pooled financings).

(5) NONPURPOSE INVESTMENT YIELD RESTRICTION. Section 148(d)(3) provides generally that a private activity bond (other than a qualified 501(c)(3) bond) that is part of an issue shall be treated as an arbitrage bond if the amount invested during any bond year in nonpurpose investments with a yield materially higher than the yield on the issue exceeds 150 percent of the debt service on the issue for the bond year.

(b) EFFECTIVE DATES -- (1) IN GENERAL-- (i) 1986 REFORM ACT. Section 148 was added to the Internal Revenue Code by section 1301 of the Tax Reform Act of 1986 (hereinafter in this section referred to as the "1966 Act"). The restrictions on arbitrage formerly were contained in section 103(c) of the 1954 Code. Regulations under section 103(c) are contained in sections 1.103-13, 1.103-14, 1.103-15, and 1.103-15AT.

(ii) GENERAL EFFECTIVE DATE. The amendments made by section 1301 of the 1986 Act (including the provisions of section 103 and section 148) generally apply to any bond issued after --

(A) August 15, 1986 if the bond is not a governmental bond described in section 1312(c)(2) of the 1986 Act; and

(B) August 31, 1986 if the bond is a governmental bond described in section 1312(c)(2).

See section 1311(a) and section 1312(c) of the 1986 Act.

(iii) GENERAL TRANSITION RULES. In the case of a bond to which the amendments made by section 1301 of the 1986 Act do not apply solely by reason of section 1312(a) (relating to construction or binding agreements) or section 1313(a) or (b) (relating to certain current or advance refundings), the requirements of section 148 are treated as included in section 103 of the 1954 Code. See section 1312(b)(1)(H) and section 1313(a)(3)(C) and (b)(3)(C) of the 1986 Act. If a bond to which section 148 applies by reason of such provisions is treated as an arbitrage bond under section 148, interest on the bond is not excluded from gross income under section 103(a) of the 1954 Code.

(iv) REVENUE RECONCILIATION ACT OF 1989 AND REVENUE RECONCILIATION ACT OF 1990. Section 148(f)(4) was amended by the Revenue Reconciliation Act of 1989 and the Revenue Reconciliation Act of 1990 to add section 148(f)(4)(C) to provide an exception from arbitrage rebate for certain proceeds used to finance construction expenditures. These amendments to section 148(f)(4) are generally effective for bonds issued after December 19, 1989.

(2) REQUIRED REBATE -- (i) BONDS ISSUED BEFORE GENERAL EFFECTIVE DATE OR PURSUANT TO SPECIAL TRANSITION RULES. Under section 1314(d) of the 1986 Act, section 103 of the 1954 Code is treated as including the requirements of section 148(f) in order for section 103(a) of the 1954 Code to apply in the case of any bond issued after --

(A) December 31, 1985 if the bond is not a governmental bond described in section 1312(c)(2) of the 1986 Act;

(B) 3 p.m. E.D.T., July 17, 1986 if the bond is a governmental pool bond described in section 1312(c)(2) and section 1314(d)(3); and

(C) August 31, 1986 if the bond is a governmental bond described in section 1312(c)(2) and is not a governmental pool bond described in section 1314(d)(3).

No provision of subtitle B of Title XIII of the 1986 Act overrides the provisions of section 1314(d) unless the provision expressly refers to section 148(f). See section 1314(i) of the 1986 Act.

(ii) BONDS TO WHICH SECTION 1.148-1 THROUGH 1.148-8 APPLY -- (A) Except as otherwise provided, the provisions of sections 1.148-1 through 1.148-8 apply to any bond to which section 148(f) applies.

(B) CERTAIN RETIRED ISSUES. The provisions of sections 1.148-1 through 1.148-8 shall not apply, and the final rebate shall be considered timely paid, in the case of any bond that is part of an issue if --

(1) The last bond that is part of the issue is discharged on or before May 15, 1989; and

(2) The issuer in good faith determines the amount described in section 148(f)(2) (if any) and pays such amount to the United States no later than the later of May 15, 1989, and the date 60 days after the last bond that is part of the issue is discharged.

(C) ELECTION IN. In the case of a bond to which section 148(f) does not apply and to which section 103(c)(6)(D) of the 1954 Code applies, the issuer may elect to apply the provisions of sections 1.148-1 through 1.148-8 (in lieu of the provisions of section 1.103-15AT(d)) for purposes of determining whether the bond meets the requirements of section 103(c)(6)(D) of the 1954 Code. See section 1.148-8(h) for elections.

(D) REBATE PROVISIONS TO EXPIRE BY THEIR TERMS. The provisions of sections 1.148-1 through 1.148-9 and section 1.148-11 do not apply to any bond issued after June 30, 1993.

(3) BONDS TO WHICH SECTION 1.148-9 APPLIES. Section 1.148-9 provides that certain provisions of sections 1.148-1 through 1.148-8 apply for purposes of section 148 generally. Section 1.148-9 generally applies to any bond sold after May 15, 1989, or issued after June 14, 1989.

(4) PROSPECTIVE EFFECTIVE DATE FOR CHANGE TO SPECIAL RULE REGARDING EXCESS TAX-EXEMPT RECEIPTS. Section 1.148-5T(c)(2), as amended to reflect the removal of former section 1.148-5T(c)(2) as originally promulgated on May 15, 1989, applies to a bond issued after May 28, 1991 and issued before June 17, 1992. See section 1.149-1(d)(3).

(5) PROSPECTIVE EFFECTIVE DATE FOR REMOVAL OF SPECIAL ISSUE PRICE RULE REGARDING CONCESSIONS. Section 1.148-8(c)(2)(ii), as amended to reflect the removal of former section 1.148-8T(c)(2)(ii) as originally promulgated on May 15, 1989, applies to a bond issued after May 28, 1991.

(6) EFFECTIVE DATE FOR PROVISIONS RELATING TO SPENDING EXCEPTIONS TO ARBITRAGE REBATE -- (i) IN GENERAL. Except as otherwise provided in this paragraph (b)(6), section 1.148-6 applies to all issues issued after June 17, 1992.

(ii) ELECTION IN. In the case of bonds issued on or before June 17, 1992, an issuer may elect to apply the provisions of section 1.148-6 to the bonds. An issuer that has made the election under section 148(f)(4)(C)(vii) to pay penalty in lieu of rebate must also make the election under section 1.148-6(e)(2) in order to make this election. This election does not permit an issuer to apply the provisions of section 1.148-6 to bonds issued prior to the effective dates of the corresponding provisions of section 148(f)(4). This election must be made on or before the later of --

(A) November 13, 1992; and

(B) Sixty days after the first computation date of the issue that occurs after June 17, 1992. For, the purposes of this paragraph (b)(6)(ii)(B), "computation date" means either an installment computation date or final computation date under section 1.148-8(b) or the last day of a semi-annual spending period under section 148(f)(4)(C)(ii).

(7) EFFECTIVE DATE FOR PROVISIONS RELATING TO ALLOCATION AND ACCOUNTING RULES -- (i) IN GENERAL. Except as otherwise provided in this paragraph (b)(7) or in paragraph (b)(8), of this section, section 1.148-4 applies to all issues issued after June 17, 1992.

(ii) ELECTIVE EARLY APPLICATION. An issuer may elect to apply the provisions of section 1.148-4 to issues issued on or after May 18, 1992.

(iii) APPLICATION OF TEMPORARY ALLOCATION AND ACCOUNTING REFUNDING RULES. The provisions of section 1.148-4T(e), section 1.148-8T, and section 1.148-9T(c) published in the Federal Register on May 15, 1989, as amended by T.D. 8345 apply to bonds sold after May 15, 1989 or issued after June 14, 1989, and issued on or before June 17, 1992 inclusive.

(8) EFFECTIVE DATE FOR PROVISIONS RELATING TO ARBITRAGE RULES FOR REFUNDING ISSUES -- (i) IN GENERAL. Except as otherwise provided in this paragraph (b)(8), section 1.148-11 applies to all issues issued after June 17, 1992.

(ii) ELECTIVE EARLY APPLICATION OF MULTIPURPOSE ISSUE ALLOCATION RULE. If an allocation of any multipurpose refunding issue or multipurpose prior issue would affect allocations with respect to the refunding purposes of an issue that is issued on or after February 12, 1992, and before June 17, 1992, the issuer may elect to apply paragraph (j) of section 1.148-11 for purposes of making that allocation. This election must be made on or before September 15, 1992, in the manner provided in section 1.148-8(h) without regard to the times specified in section 1.148-8(h)(1)(i) and (ii).

(iii) ELECTIVE EARLY APPLICATION. An issuer may elect to apply the provisions of sections 1.148-4, 1.148-8, and 1.148-11 to issues issued on or after May 18, 1992.

(iv) ELECTIVE RETROACTIVE APPLICATION. An issuer may elect to apply the provisions of sections 1.148-11 and 1.148-4(b)(3) in lieu of section 1.148-4T(e) to a bond sold after May 15, 1989, and issued after June 14, 1989, and issued on or before June 17, 1992. An issuer who makes an election under this paragraph (b)(8)(iv) must determine in good faith the estimated savings associated with this election, using any reasonable accounting method, and must apply those savings to redeem outstanding tax-exempt bonds of the issue to which this election applies at the earliest possible call date on which those bonds may be called or otherwise retired. For purposes of this paragraph (b)(8)(iv), savings are not reduced to take into account any administrative costs associated with applying these provisions retroactively. The time requirements specified in section 1.148-8(h)(1)(i) and (ii) for making an election under section 1.148-8(h) do not apply to this election.

(v) APPLICATION OF TEMPORARY REFUNDING RULES. Regarding the application of certain temporary regulations under section 148 on refunding issues, see paragraph (b)(7)(iii) of this section.

(c) CROSS REFERENCE. See section 1.148-8 for definitions and special rules relating to required rebate. See section 1.150-1 for definitions and special rules relating to tax-exempt bond requirements in general.

(d) LIST OF SUBJECTS. This paragraph (d) lists the captioned paragraphs contained in sections 1.148-1 through 1.148-11

 SECTION 1.148-1 REQUIRED REBATE TO THE UNITED STATES.

 

 (a) General rule.

 

 (b) Required rebate.

 

  (1) General rule.

 

   (i) Rebate installments.

 

   (ii) Final rebate.

 

  (2) Income included in final rebate.

 

   (i) In general.

 

   (ii) Final payment period.

 

   (iii) Final payment rate.

 

   (iv) De minimis rule.

 

  (3) Payment of required rebate.

 

   (i) Rebate installments.

 

   (ii) Final rebate.

 

   (iii) De minimis rule.

 

   (iv) Series of issues. [Reserved]

 

   (v) Method of payment.

 

 (c) Certain failures not to result in loss of tax exemption.

 

  (1) Innocent failures may be corrected without penalty.

 

   (i) In general.

 

   (ii) Innocent failure.

 

   (iii) Aggregation rule.

 

  (2) Correction amount.

 

   (i) In general.

 

   (ii) Installment failure.

 

   (iii) Correction period.

 

   (iv) Correction rate.

 

  (3) Payment of penalty in lieu of loss of tax exemption.

 

 (d) Recovery of overpayment. [Reserved]

 

 (e) Exemption from gross income of sum rebated. [Reserved]

 

 

 SECTION 1.148-2 COMPUTATION OF REBATABLE ARBITRAGE.

 

 (a) General rule.

 

  (1) Nonpurpose receipts.

 

  (2) Nonpurpose payments.

 

 (b) Determination of nonpurpose receipts and payments.

 

  (1) In general.

 

  (2) Receipts.

 

   (i) Actual receipt.

 

   (ii) Disposition receipt.

 

   (iii) Installment date receipt.

 

   (iv) Rebate receipt.

 

   (v) Imputed receipt.

 

  (3) Payments.

 

   (i) Direct payment.

 

   (ii) Constructive payment.

 

   (iii) Rebate payment.

 

   (iv) Coordination with correction amount.

 

  (4) Computation date credit.

 

   (i) In general.

 

   (ii) Credit amount.

 

   (iii) Eligible computation date.

 

 (c) Computation of future value.

 

  (1) In general.

 

  (2) Examples.

 

 (d) Determination of fair market value.

 

  (1) In general.

 

  (2) Established securities market.

 

  (3) Refunding escrow fund.

 

  (4) Certain SLGs.

 

  (5) Investment contract.

 

 (e) Computation of present value.

 

  (1) In general.

 

  (2) Discount rate.

 

   (i) In general.

 

   (ii) Special rules for refunding escrow funds.

 

  (3) Disposition assumption.

 

  (4) Compounding interval.

 

  (5) Approximate method.

 

   (i) In general.

 

   (ii) Eligible investment.

 

  (6) Example.

 

 

 SECTION 1.148-3 COMPUTATION OF YIELD ON ISSUE.

 

 (a) In general.

 

 (b) Definitions and special rules.

 

  (1) Fixed yield issue.

 

   (i) In general.

 

   (ii) Transition rule.

 

  (2) Variable yield issue.

 

   (i) In general.

 

   (ii) Yield period.

 

  (3) Conversion to fixed yield.

 

   (i) Conversion to fixed yield bond.

 

   (ii) Conversion to fixed yield issue.

 

  (4) Yield-to-call bond.

 

   (i) In general.

 

   (ii) Yield-to-call bond.

 

   (iii) Exceptions.

 

  (5) Bond yield.

 

   (i) In general.

 

   (ii) Yield-to-maturity.

 

   (iii) Lowest yield.

 

  (6) Retirement prices.

 

   (i) In general.

 

   (ii) Stated retirement price.

 

  (7) Early retirement value.

 

   (i) In general.

 

   (ii) Tender bond.

 

   (iii) Special rules for certain discount bonds subject to mandatory early

 

         redemption.

 

   (iv) Special rule for certain early redemptions.

 

  (8) Present value.

 

   (i) In general.

 

   (ii) Discount rate, etc.

 

   (iii) Approximate method.

 

   (iv) Special present value for large fixed yield issues.

 

  (9) Special rules for variable yield bonds.

 

  (10) Actually paid.

 

   (i) In general.

 

   (ii) Unconditionally payable.

 

  (11) Compounding interval.

 

   (i) Bond.

 

   (ii) Issue.

 

  (12) Qualified guarantees.

 

   (i) In general.

 

   (ii) Guarantee.

 

   (iii) Reasonable charge.

 

   (iv) Nonguarantee element.

 

   (v) Purpose investment bond guarantee.

 

   (vi) When payments coincide.

 

   (vii) Special rule for parity issues.

 

   (viii) Eligible purpose investment.

 

   (ix) Transition rule.

 

  (13) Special rules for guarantee payments.

 

   (i) Allocation to bonds.

 

   (ii) Special rules for variable yield bonds.

 

   (iii) Definitions and special rules.

 

  (14) Certain hedging transactions. [Reserved]

 

 (c) Computation of yield on fixed yield issue.

 

  (1) General rule.

 

   (i) Issue payments.

 

   (ii) Issue prices.

 

  (2) Determination of issue payments paid.

 

   (i) Principal and interest.

 

   (ii) Qualified guarantee.

 

   (iii) Early retirement value.

 

   (iv) Retirement price.

 

  (3) Determination of issue payments to be paid.

 

   (i) Scheduled early retirements.

 

   (ii) Optional retirements.

 

  (4) Special rule regarding frequency of yield computations on fixed yield issues.

 

   (i) Generally no yield recomputation.

 

   (ii) Recomputation of yield in case of failure to spend proceeds.

 

   (iii) Recomputation of yield in case of certain early redemptions.

 

  (5) Transition rule for fixed yield issues.

 

  (6) Special rules for transitioned variable yield bonds.

 

   (i) Issue payments paid.

 

   (ii) Issue payments to be paid.

 

   (iii) Tender bond remarketing.

 

  (7) Examples.

 

 (d) Computation of yield on variable yield issue.

 

  (1) General rule.

 

   (i) Issue payments.

 

   (ii) Issue prices.

 

  (2) Variable yield bonds.

 

   (i) Issue payments.

 

   (ii) Issue prices.

 

  (3) Fixed yield bonds.

 

   (i) Issue payments.

 

   (ii) Issue prices.

 

  (4) Examples.

 

 

 SECTION 1.148-4 ALLOCATION AND ACCOUNTING RULES.

 

 (a) In general.

 

  (1) Reasonable accounting methods required.

 

  (2) Anti-abuse rule for accounting methods.

 

  (3) Application of rules to conduit borrowers.

 

  (4) Certain definitions.

 

   Accounting method.

 

   Commingled fund.

 

   Consistently applied.

 

   Grant.

 

   Working capital expenditure.

 

 (b) Allocation of gross proceeds to an issue.

 

  (1) In general.

 

  (2) One-issue rule and general ordering rules.

 

  (3) Universal cap on value of nonpurpose investments allocated to an issue.

 

   (i) Universal cap in general.

 

   (ii) Nonpurpose investments in a bona fide debt service fund

 

         not counted.

 

   (iii) When the universal cap is computed and applied.

 

   (iv) Valuation for purposes of universal cap.

 

   (v) Allocations of amounts in excess of the universal cap.

 

   (vi) Consequences of certain failures to do computations.

 

   (vii) Anti-abuse rule.

 

 (c) Allocations of gross proceeds to investments.

 

  (1) In general.

 

  (2) Fair market value limit on allocations to nonpurpose investments.

 

  (3) Administrative costs of nonpurpose investments.

 

   (i) In general.

 

   (ii) Reasonable administrative costs of qualified investments taken into account.

 

   (iii) Definition of administrative costs.

 

   (iv) Qualified investments.

 

  (4) Requirements for purchase of an investment contract.

 

   (i) In general.

 

   (ii) Exceptions.

 

  (5) Safe harbor for purchases of certificates of deposit.

 

 

 (d) Allocations of gross proceeds to expenditures.

 

  (1) Expenditures in general.

 

   (i) General rule.

 

   (ii) General limitation.

 

   (iii) Deviations from general accounting method.

 

  (2) Expenditures of gross proceeds invested in purpose investments.

 

   (i) In general.

 

   (ii) Exception for qualified owner-occupied residence loans

 

         and qualified student loans.

 

  (3) Expenditures for working capital purposes.

 

   (i) In general.

 

   (ii) Exceptions.

 

   (iii) Definition of available amount.

 

   (iv) Reimbursement of unavailable amounts.

 

   (v) Treatment of working capital under section 147(b).

 

  (4) Expenditures for grants.

 

   (i) In general.

 

   (ii) Special exception for certain grants.

 

   (iii) Characterization of repayments of grants.

 

  (5) Expenditures for reimbursement purposes.

 

 (e) Special rules for commingled funds.

 

  (1) In general.

 

  (2) Investments held by a commingled fund.

 

   (i) In general.

 

   (ii) Permitted ratable allocation methods.

 

   (iii) Definition of investor.

 

   (iv) Definition of average daily balance.

 

  (3) Certain expenditures involving a commingled fund.

 

  (4) Computation periods.

 

  (5) Unrealized gains and losses on investments of a commingled fund.

 

   (i) Commingled funds with shorter-term investment

 

        portfolios.

 

   (ii) Mark-to-market requirement for commingled funds with

 

        longer-term investment portfolios.

 

   (iii) Definition of weighted average maturity.

 

  (6) Allocations of commingled funds serving as common reserve

 

    funds or sinking funds.

 

   (i) Permitted ratable allocation methods.

 

   (ii) Frequency of allocations.

 

   (iii) Exception to mark-to-market requirement for commingled

 

        reserve funds and sinking funds.

 

 (f) Expenditures of certain commingled investment proceeds of

 

 governmental issues.

 

  (1) Bonds covered.

 

   (i) Governmental issues.

 

   (ii) Governmentally-owned private activity bond issues.

 

  (2) Special expenditure rule.

 

   (i) Commingled with certain governmental revenues.

 

   (ii) Reasonably expected to be spent within six months.

 

 (g) Consequences of certain failures to use permitted accounting

 

 methods.

 

 

 SECTION 1.148-5 TRANSACTIONS GIVING RISE TO IMPUTED RECEIPTS.

 

 (a) In general. [Reserved)

 

 (b) Safe harbor to avoid imputation of investment earnings.

 

  (1) In general.

 

   (i) Time.

 

   (ii) Average uninvested balance.

 

  (2) Definitions.

 

   (i) Uninvested amount.

 

   (ii) Average uninvested balance.

 

   (iii) Eligible account.

 

 (c) Certain imputed escrow receipts.

 

  (1) Defeasance receipt.

 

   (i) In general.

 

   (ii) Interest saving.

 

   (iii) Transition rule.

 

   (iv) Savings treated as paid in computing yield on defeased bond.

 

  (2) Examples.

 

 

 SECTION 1.148-6 SPENDING EXCEPTIONS.

 

 (a) Scope of section.

 

  (1) In general.

 

  (2) Relationship of 6-month exception and 2-year construction

 

     exception.

 

  (3) Spending exceptions not mandatory.

 

 (b) 6-month exception.

 

  (1) General rule.

 

  (2) Additional period for certain bonds.

 

  (3) Definition of gross proceeds.

 

  (4) Payments of certain principal and interest.

 

  (5) Refunding issues.

 

   (i) Definition.

 

   (ii) Treatment of transferred proceeds.

 

   (iii) Refundings of tax-exempt obligations.

 

   (iv) Refundings of taxable obligations.

 

  (6) Multipurpose issues.

 

  (7) Series of refundings

 

  (8) Accounting procedures.

 

  (c) 2-year construction exception.

 

  (1) General rule.

 

  (2) Exception for reasonable retainage.

 

 (d) Payments of certain principal and interest.

 

 (e) Construction issue.

 

  (1) Definition.

 

  (2) Special election.

 

   (i) Use of reasonable expectations as of date of issue.

 

   (ii) Requirement to state and support reasonable

 

 expectations.

 

  (3) Ownership requirement.

 

   (i) In general.

 

   (ii) Safe harbor for leases and management contracts.

 

   (iii) On-behalf-of issuers.

 

   (iv) Ownership by issuer not required.

 

 (f) Construction expenditures.

 

  (1) Definition.

 

  (2) Turnkey contracts and similar contracts.

 

  (3) Constructed personal property.

 

   (i) Property that the issuer acquires.

 

   (ii) Property that the issuer builds.

 

  (4) Definitions of real property and tangible personal property.

 

   (i) Real property.

 

   (ii) Tangible personal property.

 

  (5) Specially developed computer software.

 

  (6) Definition of issuer.

 

  (7) Examples.

 

 (g) Reasonable retainage.

 

  (1) Definition.

 

  (2) Five percent limitation.

 

 (h) Available construction proceeds.

 

  (1) Definition.

 

  (2) Earnings on a reasonably required reserve or replacement fund.

 

 

  (3) Treatment of expected earnings.

 

   (i) Determination on issue date.

 

   (ii) Determination at end of spending periods.

 

   (iii) Election to use date of issue reasonable expectations.

 

  (4) Issuance costs.

 

   (i) In general.

 

   (ii) Definition.

 

  (5) One and one-half percent penalty in lieu of arbitrage rebate.

 

  (6) Payments on purpose investments and repayments of grants.

 

  (7) Examples.

 

 (i) Refunding issues.

 

  (1) Definition.

 

  (2) Refundings of construction issues.

 

  (3) Example.

 

 (j) Apportioning of multipurpose issues.

 

  (1) Portion of issue used for refunding treated as separate issue.

 

  (2) Election to treat portion of issue used for construction as

 

     separate issue.

 

   (i) In general.

 

   (ii) Limitation on use of nonconstruction issue for

 

         construction expenditures.

 

  (3) Example.

 

 (k) Accounting procedures.

 

  (1) In general.

 

  (2) Earnings as of final spending periods. One and one-half

 

     percent penalty in lieu of arbitrage rebate.

 

 (l) One and one-half percent penalty in lieu of arbitrage rebate.

 

  (1) In general.

 

  (2) No reasonable expectations required.

 

  (3) Application to reasonable retainage.

 

  (4) Coordination with arbitrage rebate requirement.

 

 (m) Termination of 1 1/2 percent penalty in lieu of arbitrage rebate.

 

  (1) Termination of 1 1/2, percent penalty after initial

 

     temporary period.

 

  (2) Termination of 1 1/2, percent penalty before end of initial

 

     temporary period.

 

  (3) Application to reasonable retainage.

 

  (4) Date construction is substantially completed.

 

  (5) Initial temporary period.

 

  (6) Example.

 

 (n) Payment of penalties.

 

  (1) Rounding rule.

 

  (2) Computation credit.

 

  (3) Method.

 

  (4) Failure to pay.

 

   (i) Innocent failures.

 

 

   (ii) Payment of additional penalty in lieu of loss of tax

 

         exemption.

 

    (A) General rule.

 

    (B) Waiver by Commissioner.

 

   (iii) Effect of failure to pay.

 

 (o) Pooled financing bonds.

 

  (1) Definition.

 

  (2) In general.

 

  (3) Spending requirements.

 

  (4) Apportionment of loans.

 

  (5) Termination of 1-1/2 percent penalty in lieu of arbitrage rebate.

 

  (6) Other elections.

 

  (7) Examples.

 

 (p) Elections.

 

  (1) In general.

 

  (2) Transition rule for certain elections.

 

  (3) Procedural requirements.

 

  (4) Extension of time.

 

 

 SECTION 1.148-7 EXCEPTION FOR SMALL ISSUERS WITH GENERAL TAXING

 

 POWERS. [RESERVED]

 

 

 SECTION 1.148-8 DEFINITIONS AND SPECIAL RULES RELATING TO REQUIRED

 

 REBATE.

 

 (a) Applicability.

 

 (b) Computations and determinations.

 

  (1) Computation dates.

 

   (i) In general.

 

   (ii) Installment date.

 

   (iii) Final date.

 

   (iv) Other date.

 

  (2) Bond year.

 

  (3) Discharge.

 

  (4) Actual facts.

 

  (5) Present value.

 

  (6) Conventions.

 

   (i) Whole intervals.

 

   (ii) Short intervals.

 

   (iii) Yield.

 

   (iv) Other conventions.

 

 (c) Issue price.

 

  (1) In general.

 

  (2) Special rules.

 

   (i) Reasonable expectations.

 

   (ii) Bona fide offering required.

 

   (iii) Tender bond remarketing.

 

  (3) Fair market value limit.

 

  (4) Aggregate issue price.

 

 (d) Gross proceeds.

 

  (1) In general.

 

  (2) Proceeds.

 

  (3) Original proceeds.

 

  (4) Sale proceeds.

 

  (5) Investment proceeds.

 

  (6) Net sale proceeds.

 

   (i) In general.

 

   (ii) Capitalized interest.

 

   (iii) Special rules for refunded and refunding issues.

 

  (7) Replacement proceeds.

 

  (8) Transferred proceeds.

 

  (9) Indirect use.

 

  (10) Reserve or replacement fund.

 

   (i) In general. [Reserved)

 

   (ii) Certain perpetual trust funds.

 

 (e) Investments.

 

  (1) In general.

 

  (2) Investment property.

 

  (3)  Tax-exempt bond.

 

   (i) In general.

 

   (ii) AMT bond.

 

   (iii) Tax-exempt mutual fund.

 

  (4) Qualified exempt investment.

 

   (i) In general.

 

   (ii) Exempt demand deposit.

 

   (iii) Exempt temporary investment. [Reserved)

 

  (5) Security. [Reserved)

 

  (6) Obligation. [Reserved)

 

  (7) Annuity contract. [Reserved]

 

  (8) Investment-type property. [Reserved)

 

  (9) Nonpurpose investment.

 

  (10) Purpose investment.

 

  (11) Transferred investments.

 

  (12) SLG.

 

  (13) Fixed rate investment.

 

  (14) Investment contract.

 

 (f) Issues.

 

  (1) In general. [Reserved)

 

  (2) Refundings.

 

   (i) Refunding Issue.

 

   (ii) Refunded issue.

 

 (g) Refunding escrow fund.

 

 (h) Elections.

 

  (1) In general.

 

  (2) Procedural requirements.

 

  (3) Special rules.

 

   (i) Issue.

 

   (ii) Extension of time.

 

  (4) Cross-reference.

 

 

 SECTION 1.148-9 CERTAIN RULES APPLICABLE FOR PURPOSES OF SECTION 148

 

 GENERALLY.

 

 (a) Computation of yield on fixed yield issue.

 

 (b) Computation of yield on investments.

 

 (c) Refunding allocation rules.

 

 (d) Certain imputed escrow receipts.

 

 (e) Certain perpetual trust funds.

 

 (f) Investment property.

 

 (g) Artifice or device.

 

 (h) Effective dates.

 

  (1) In general.

 

  (2) Computation of yield on investments.

 

  (3) Investment property.

 

 

 SECTION 1.148-10 PURPOSE INVESTMENTS.

 

 (a) General rule.

 

 (b) Special rules for student loans.

 

  (1) Program loans.

 

   (i) Materially higher.

 

   (ii) Administrative costs.

 

  (2) Special allowance payments.

 

  (3) Effective date.

 

 (c) Special rules for qualified student loan bond purpose investments.

 

  (1) Yield adjustment payment of excess earnings to the United States.

 

  (2) Scope of section.

 

 (d) Excess earnings defined.

 

  (1) In general.

 

  (2) Yield defined.

 

 (e) Excess earnings calculation date defined.

 

  (1) First earnings calculation date.

 

  (2) Subsequent excess earnings calculation dates.

 

 (f) Time and manner of making yield adjustment payments.

 

 (g) Yield adjustment payment defined

 

  (1) Last payment.

 

  (2) Special rule for first excess earnings calculation date.

 

  (3) Special rule for subsequent excess earnings calculation dates where bonds are outstanding.

 

 (h) Definitions

 

  (1) Acquired purpose obligation.

 

  (2) Arbitrage bond.

 

  (3) Deemed redemption date.

 

  (4) Issue price.

 

  (5) Materially higher.

 

  (6) Original issue discount.

 

  (7) Qualified student loan bond.

 

  (8) Stated redemption price at maturity.

 

 (i) Effective date.

 

 

 SECTION 1.148-11 ARBITRAGE RULES FOR REFUNDING ISSUES.

 

 (a) Scope of application.

 

  (1) In general.

 

  (2) Application of multipurpose issue allocation rules.

 

   (i) Multipurpose issues treated as separate issues for certain purposes.

 

   (ii) Multipurpose issues not treated as separate issues for certain purposes.

 

  (3) Limitations on application for purposes of section 149(d)

 

     restriction on the number of advance refundings.

 

  (4) Certain taxable advance refundings taken into account under section 149(d).

 

   (i) In general.

 

   (ii) Example.

 

 (b) Definitions of refunding issue and prior issue.

 

  (1) Refunding issue.

 

  (2) Exceptions and special rules.

 

   (i) Payment of certain interest.

 

   (ii) Certain issues with different obligors.

 

   (iii) Certain repayments of debt to related parties.

 

   (iv) Certain special rules for purpose investments.

 

   (v) Substance of transaction controls.

 

  (3) Current refunding issue.

 

  (4) Advance refunding issue.

 

  (5) Prior issue.

 

  (6) Unrefunded amount remains eligible for future advance

 

 refunding.

 

 

 (c) Other definitions.

 

  (1) After-arising replacement amounts.

 

  (2) Debt service.

 

  (3) Multipurpose issue.

 

  (4) Obligation.

 

  (5) Principal amount.

 

   (i) Bonds issued at a discount.

 

   (ii) Bonds issued at a premium.

 

  (6) Proceeds.

 

  (7) Refunding escrow fund.

 

  (8) Series of refundings.

 

  (9) Transferred proceeds.

 

 (d) Transferred proceeds allocation rule.

 

  (1) In general.

 

  (2) Relation of transferred proceeds rule to universal cap rule.

 

   (i) In general.

 

   (ii) Example.

 

 (e) Special allocation rules for refunding issues.

 

  (1) Allocations of investments to transferred proceeds.

 

   (i) In general.

 

   (ii) Ratable allocation method.

 

   (iii) Representative allocation method.

 

  (2) Allocations of mixed escrows to investments and expenditures

 

     for debt service on a prior issue.

 

   (i) In general.

 

   (ii) Special rule for certain short-term funds.

 

  (3) Restrictions on escrow restructurings.

 

   (i) In general.

 

   (ii) Example.

 

 (f) Temporary periods in refundings.

 

  (1) In general.

 

  (2) Categories of temporary periods in refundings.

 

   (i) General temporary period for refunding issues.

 

   (ii) Temporary periods for current refunding issues.

 

   (iii) Temporary periods for transferred proceeds.

 

   (iv) Certain investment proceeds.

 

   (v) Certain accrued interest.

 

   (vi) Certain costs of issuance.

 

   (vii) Certain amounts in a bona fide debt service fund.

 

  (3) Permitted waivers of temporary periods and minor portions.

 

 

 (g) Minor portions in refundings.

 

 (h) Reasonably required reserve or replacement funds in refundings.

 

  (1) In general.

 

   (i) Aggregate limitation on higher yielding investments in

 

        reserve funds for refunding issue and refunded issue.

 

   (ii) Use limitation.

 

  (2) Ruling required for reserve or replacement funds in higher amounts.

 

 (i) Payment to Internal Revenue Service with respect to certain

 

    transferred proceeds of a current refunding issue.

 

  (1) In general.

 

  (2) Effect of payment.

 

  (3) Manner of payment.

 

 (j) Multipurpose issue allocations.

 

  (1) In general.

 

   (i) Allocation of proceeds and investments to portions of issue.

 

   (ii) Allocation of bonds to portions of issue.

 

   (iii) Allocations involving certain common costs.

 

   (iv) Separate issue treatment.

 

  (2) General anti-abuse rule for multipurpose issue allocations.

 

  (3) Separate governmental purposes of a multipurpose issue.

 

   (i) In general.

 

   (ii) Financing of common costs.

 

   (iii) Example.

 

  (4) Allocations of bonds of a multipurpose issue.

 

   (i) Safe harbor for pro rata allocation method for bonds.

 

   (ii) Safe harbor for allocations of bonds used to finance separate purpose investments.

 

   (iii) Rounding of bond allocations to next whole bond denomination permitted.

 

   (iv) Restrictions on allocations of bonds to refunding purposes:

 

  (5) Limitation on multi-generation allocations.

 

 (k) General anti-abuse rule for refundings.

 

 

SECTION 1.148-1 REQUIRED REBATE TO THE UNITED STATES.

(a) GENERAL RULE. Under section 148(f) and this section, any bond that is part of an issue shall be treated as an arbitrage bond (within the meaning of section 148) if the requirements of this section are not met with respect to the issue. This section does not apply to any qualified veterans' mortgage bond, or to any qualified mortgage bond issued on or before December 31, 1988. See section 1.148-0T for scope and effective date. See section 1.148-6 for 6 month temporary investment exception. See section 1.148-7 for exception for small issuers with general taxing powers. See section 1.148-8 for definitions and special rules relating to required rebate. See section 1.150-1 for definitions and special rules relating to tax-exempt bond requirements in general.

(b) REQUIRED REBATE -- (1) GENERAL RULE -- An issue meets the requirements of this section if --

(i) REBATE INSTALLMENTS. An amount which, when added to all previous rebate payments made with respect to the issue, equals at least 90 percent of the sum of the rebatable arbitrage plus all previous rebate payments as of each installment computation date; and

(ii) FINAL REBATE. All of the rebatable arbitrage as of the final computation date and any income attributable to the rebatable arbitrage;

is paid to the United States in accordance with the requirements of paragraph (b)(3) of this section. See section 1.148-8(b)(1) for definitions of installment and final computation date. See section 1.148-2 for computation of rebatable arbitrage. See paragraph (b)(2) of this section for income included in final rebate.

(2) INCOME INCLUDED IN FINAL REBATE. For purposes of this section --

(i) IN GENERAL. Except as otherwise provided in paragraph (b)(2)(iv) of this section, the income attributable to the rebatable arbitrage is --

(A) To the extent amounts are identified under a reasonable accounting system as the rebatable arbitrage and invested at an arm's length interest rate during the final payment period, the amount earned from investing such amounts during the final payment period; and

(B) To the extent amounts are not so identified or invested, the amount that would have been earned if such amounts had been so identified and were invested during the final payment period at the final payment rate.

(ii) FINAL PAYMENT PERIOD. The final payment period begins on the final computation date and ends on the date 15 days before the final rebate is paid. Such period shall not include any day after the final rebate is required to be paid.

(iii) FINAL PAYMENT RATE. The final payment rate is the maximum interest rate (with interest compounded and added to principal semiannually) in effect on the final computation date for a SLG with a term equal to the longer of the final payment period and 30 days. If the final rebate is paid no later than January 16, 1990, such rate shall not exceed the average of the maximum interest rates in effect on the first business day of each month during the final payment period for a SLG with a term of 60 days.

(iv) DE MINIMIS RULE. No income shall be attributable to the rebatable arbitrage if --

(A) The amount described in paragraph (b)(2)(i) of this section is less than $300; or

(B) The final rebate is paid no later than 60 days after the final computation date.

If the final rebate is paid no later than January 16, 1990, paragraph (b)(2)(iv)(A) shall be applied by substituting "less than $1000" for "less than $300", and paragraph (b)(2)(iv)(B) shall not apply.

(3) PAYMENT OF REQUIRED REBATE. For purposes of this section --

(i) REBATE INSTALLMENTS. Each rebate installment is required to be paid no later than the date 60 days after the installment computation date.

(ii) FINAL REBATE. The final rebate is required to be paid no later than the latest of --

(A) The date 60 days after the final computation date;

(B) The date 8 months after the date of issue;

(C) The date 60 days after the earlier of the date the issuer no longer reasonably expects section 148(f)(4)(B) (relating to temporary investment exception) to apply to the issue, and the date 12 months after the date of issue; and

(D) The date 60 days after the earlier of the date the issuer no longer reasonably expects section 148(f)(4)(C) (relating to the 2-year construction exception) to apply to the issue, and the date 36 months after the date of issue, provided that this clause (D) shall not apply to an issue for which the issuer has made the election under section 148(f)(4)(C)(vii) to pay penalty in lieu of rebate.

In no event shall such date be earlier than January 16, 1990.

(iii) DE MINIMIS RULE. Each rebate installment and the final rebate may be rounded down to the nearest multiple of $100. For example, $793,785.86 is rounded to $793,700. Any amount less than $100 is rounded to zero.

(iv) SERIES OF ISSUES. [Reserved]

(v) METHOD OF PAYMENT. A rebate or correction amount is paid when filed with the Internal Revenue Service Center, Philadelphia, Pennsylvania 19255. The payment shall be accompanied by Form 8038-T if the payment is filed after such form has been made generally available. Prior to such time, the payment should be accompanied by a statement identifying the issuer and the issue with respect to which the rebate or correction amount is paid and a copy of the Form 8038, 8038-G, or 8038-GC filed with respect to the issue (if such form is required to be filed). The statement should include the Committee on Uniform Security Identification Procedures (CUSIP) number for the bond with the latest maturity for which there is a CUSIP number.

(c) CERTAIN FAILURES NOT TO RESULT IN LOSS OF TAX EXEMPTION. For purposes of this section -- (1) INNOCENT FAILURES MAY BE CORRECTED WITHOUT PENALTY -- (i) IN GENERAL. An issue shall be treated as meeting the requirements of this section notwithstanding an innocent failure to meet a requirement if the issuer pays the correction amount to the United States in the manner provided in paragraph (b)(3)(v) of this section no later than the date that is --

(A) 60 days after the later of the date the failure first occurred or is discovered if the correction amount is $50,000 or more; or

(B) 180 days after the later of the date the failure first occurred or is discovered if the correction amount is less than $50,000.

The Commissioner may extend the time specified in this paragraph (c)(1)(i) if the correction amount is less than $50,000, or if the issuer files a request for extension before the expiration of such time.

(ii) INNOCENT FAILURE -- (A) IN GENERAL. Factors to be taken into account in determining whether a failure is innocent include the size of the correction amount, the size of the issue, the sophistication of the issuer (or ultimate obligor), the steps taken to comply, the nature of the failure, and the length of the delay.

(B) EXPLANATION REQUIRED. If the correction amount is $50,000 or more, a failure shall be treated as innocent only if the correction amount is accompanied by a brief explanation of the failure and basis for concluding that the failure is innocent.

(C) SAFE HARBOR. A failure shall be treated as innocent if --

(1) The correction amount is paid no later than the date specified in paragraph (c)(1)(i) of this section;

(2) If the correction amount is $50,000 or more, the brief explanation required under paragraph (c)(1)(ii)(B) of this section is reasonably accurate; and

(3) The Commissioner does not notify the issuer within 90 days after the receipt of the correction amount that this paragraph (c)(1)(ii)(C) shall not apply.

This paragraph (c)(1)(ii)(C) shall not apply to a failure if the issue is under examination by the Commissioner at any time during the period beginning on the date the failure first occurred and ending on the date 90 days after the receipt of the correction amount.

(iii) AGGREGATION RULE. If an issue fails to meet more than one of the requirements of this section as of a date, all the failures as of such date shall be treated as one failure and all the correction amounts shall be treated as one correction amount for purposes of applying this paragraph (c)(1).

(2) CORRECTION AMOUNT -- (i) IN GENERAL. Except as otherwise provided in paragraph (c)(2)(ii) of this section, the correction amount with respect to a failure is the sum of --

(A) The amount of the rebate not paid when required; and

(B) The amount that would have been earned if such amount had been invested during the correction period at the correction rate.

(ii) INSTALLMENT FAILURE -- (A) CORRECTED ON OR BEFORE FINAL COMPUTATION DATE. The correction amount with respect to a failure to pay a rebate installment that is corrected on or before the final computation date shall not be less than the future value (as of the date the correction amount is paid) of the amount of the rebate installment not paid when required. Future value is determined as provided in section 1.148-2(c)(1) by treating the first interval as beginning on the date the rebate installment was required to be paid and the last interval as ending on the date the correction amount is paid.

(B) CORRECTED AFTER FINAL COMPUTATION DATE. The correction amount with respect to a failure to pay a rebate installment that is corrected after the final computation date shall not be less than the sum of --

(1) The amount described in paragraph (c)(2)(ii)(A) of this section (determined as if the correction amount was paid on the final computation date); and

(2) The amount that would have been earned on such amount after the final computation date and during the correction period if such amount had been invested at the correction rate (determined as if the correction period began on the final computation date).

(iii) CORRECTION PERIOD. The correction period begins on the date the rebate is required to be paid and ends on the date 7 days before the correction amount is paid.

(iv) CORRECTION RATE. The correction rate is the maximum interest rate (with interest compounded and added to principal semiannually) in effect on the first business day of the correction period for a SLG with a term equal to the longer of the correction period and 30 days. In the case of a failure to pay the final rebate, such rate shall not be less than the maximum interest rate in effect on the final computation date for a SLG with a term equal to the final payment period and correction period.

(3) PAYMENT OF PENALTY IN LIEU OF LOSS OF TAX EXEMPTION. An issue that (but for this paragraph (c)(3)) would fail to meet a requirement of this section shall be treated as meeting such requirement if (and only if) --

(i) The Commissioner determines that the failure is not due to willful neglect; and

(ii) The issuer pays to the United States no later than the date specified by the Commissioner in such determination --

(A) The correction amount; and

(B) A penalty equal to the sum of

(1) 50 percent of the amount of the rebate not paid when required (100 percent if any bond that is part of the issue is a private activity bond other than a qualified 501(c)(3) bond); and

(2) Interest on the amount of the rebate not paid when required for the period beginning on the date the rebate was required to be paid (at the underpayment rate established under section 6621 and the regulations thereunder). The Commissioner may waive all or any portion of the penalty under paragraph (c)(3)(ii)(B) of this section.

(d) RECOVERY OF OVERPAYMENT. [Reserved]

(e) EXEMPTION FROM GROSS INCOME OF SUM REBATED. [Reserved]

SECTION 1.148-2 COMPUTATION OF REBATABLE ARBITRAGE.

(a) GENERAL RULE. The rebatable arbitrage with respect to an issue as of any computation date is the excess of --

(1) NONPURPOSE RECEIPTS. The future value of all the nonpurpose receipts with respect to the issue; over

(2) NONPURPOSE PAYMENTS. The future value of all the nonpurpose payments with respect to the issue. Future value is computed as of the computation date. See paragraph (b) of this section for determination of nonpurpose receipts and payments. See paragraph (c) of this section for computation of future value. See 1.148-6 for 6-month temporary investment exception and other special rules. See section 1.148-8 for definitions and special rules relating to required rebate. See section 1.150-1 for definitions and special rules relating to tax-exempt bond requirements in general.

(b) DETERMINATION OF NONPURPOSE RECEIPTS AND PAYMENTS -- (1) IN GENERAL. For purposes of paragraph (a) of this section, any receipt or payment with respect to a nonpurpose investment allocated to an issue is a nonpurpose receipt or payment with respect to such issue. See section 1.148-4 for allocation and accounting rules.

(2) RECEIPTS. For purposes of this section --

(i) ACTUAL RECEIPT. The term "receipt" means, with respect to an investment allocated to an issue, any amount actually or constructively received with respect to the investment. Except as provided in section 1.148-4(c)(3), receipts are not reduced by selling commissions, administrative expenses, or similar expenses. See section 1.451-2 for examples of constructive receipt.

(ii) DISPOSITION RECEIPT. An investment that ceases to be allocated to an issue other than by reason of a sale or retirement shall be treated as if sold on the date of such cessation for fair market value. For example, an investment allocated to an issue on the final computation date is treated as if sold for fair market value on such date. See paragraph (d) of this section for determination of fair market value. This paragraph (b)(2)(ii) shall not apply for purposes of computing the present value of an investment under paragraph (e) of this section.

(iii) INSTALLMENT DATE RECEIPT. For purposes of applying paragraph (a)(1) of this section on an installment computation date, the fair market value of all nonpurpose investments allocated to the issue at the close of business on such date shall be taken into account as a nonpurpose receipt with respect to the issue as of such date. The preceding sentence may be applied on any installment computation date to all fixed rate investments by substituting "present value" for "fair market value". See paragraph (e) of this section for computation of present value.

(iv) REBATE RECEIPT. Any amount recovered with respect to an issue under section 1.148-1(d) shall be treated as a nonpurpose receipt with respect to the issue.

(v) IMPUTED RECEIPT. Any imputed receipt with respect to an investment shall be treated as a receipt with respect to such investment. See section 1.148-5 for transactions giving rise to imputed receipts.

(3) PAYMENTS. For purposes of this section --

(i) DIRECT PAYMENT. The term "payment" means, with respect to an investment allocated to an issue, the amount of gross proceeds of the issue to which the investment is allocated directly used to purchase the investment. Except as provided in section 1.148-4(c)(3), payments do not include brokerage commissions, administrative expenses, or similar expenses.

(ii) CONSTRUCTIVE PARENT. An investment that was not directly purchased with gross proceeds of the issue to which the investment is allocated shall be treated as if directly purchased with such gross proceeds for fair market value on the date so allocated. For example, an investment in a reserve fund that was not purchased with gross proceeds allocated to the issue is treated as if purchased with such gross proceeds for fair market value on the date the investment is allocated to the issue.

(iii) REBATE PAYMENT. Any payment of rebatable arbitrage with respect to an issue as provided in section 1.148-1(b)(3)(v) no later than the date required under section 1.148-1(b)(3)(i) shall be treated as a nonpurpose payment with respect to the issue.

(iv) COORDINATION WITH CORRECTION AMOUNT. The amount of any rebate installment with respect to an issue required to be paid under section 1.148-1(b)(1)(i)(A) but not paid by the date required under section 1.148-1(b)(3)(i) shall be treated as a nonpurpose payment with respect to the issue as of the date the amount is required to be paid.

(4) COMPUTATION DATE CREDIT -- (i) IN GENERAL. For purposes of paragraph (a)(2) of this section, the computation date credit on each eligible computation date shall be treated as a nonpurpose payment with respect to the issue as of such date.

(ii) CREDIT AMOUNT. The computation date credit with respect to an issue on an eligible computation date is $3,000.

(iii) ELIGIBLE COMPUTATION DATE. For purposes of this paragraph (b)(4), a computation date is an eligible computation date unless that date is less than one year after the immediately preceding computation date (or the date of issue if that date is the first computation date).

(c) COMPUTATION OF FUTURE VALUE -- (1) IN GENERAL. For purposes of paragraph (a) of this section, the future value of a nonpurpose receipt or payment at the end of any interval is determined by using the following formula:

 FV = PV (1 + i)

 

 where:

 

 FV = The future value of the nonpurpose receipt or payment at

 

 the end of the interval. Each interval ends on the last day

 

 of a compounding interval. The compounding interval is the

 

 same compounding interval used in computing the yield on

 

 the issue.

 

 PV = The future value of the nonpurpose receipt or payment at

 

 the beginning of the interval or the amount thereof if the

 

 computation is for the first interval. The first interval

 

 begins on the date the nonpurpose receipt or payment is

 

 actually or constructively received or paid (or otherwise

 

 is taken into account). The amount of every nonpurpose

 

 receipt and payment with respect to an issue that is taken

 

 into account at the beginning of the first interval may be

 

 rounded to the nearest whole dollar.

 

 i =  The yield on the issue during the interval (expressed as a

 

 decimal) divided by the number of compounding intervals in

 

 a year. See section 1.148-3 for computation of yield on

 

 issue.

 

 n =  A fraction, the numerator of which is the length of the

 

 interval, and the denominator of which is the length of a

 

 whole compounding interval. See section 1.148-8(b)(6) for

 

 computation conventions.

 

 

(2) EXAMPLES. The following examples illustrate the application of this paragraph (c):

EXAMPLE 1. (i) On January 15, 1987, City A issues a fixed yield issue (as defined in section 1.148-3(b)(1)). As selected by City A, the compounding interval is each 6-month (or shorter) period ending July 1 and January 1, and the bond year is each 1-year (or shorter) period ending January 1. See section 1.148-8(b)(2). On January 15, 1987, City A invests all the sale proceeds of the issue ($49 million, consisting of the $50 million issue price, less underwriters' discount of $1 million) in shares of a widely held mutual fund to which section 852 applies. The mutual fund does not pay exempt interest dividends. The only investment proceeds of the issue are the daily cash dividends paid on the mutual fund shares, which are reinvested each day in additional mutual fund shares, and amounts received from redemption of the mutual fund shares. Assume there are no other gross proceeds.

(ii) City A redeems the mutual fund shares and expends the gross proceeds for the governmental purpose of the issue as follows:

 Date                   Amount

 

 ____                   ______

 

 2/01/87            $2,000,000.00

 

 4/01/87             5,000,000.00

 

 6/01/87            15,000,000.00

 

 9/01/87            20,000,000.00

 

 1/01/88             9,000,000.00

 

 

(iii) The first installment computation date is January 1, 1992. See section 1.148-8(b)(1)(ii). The yield on the issue is 7.000 percent per annum compounded semiannually (computed on a 30 day month/360 day year basis). The rebatable arbitrage as of the first installment computation date is $159,590.74, computed as follows:

 Date      Receipts (Payments)  FV (7.000 percent)

 

 1/15/87      $(49,000,000.00)   $(68,934,646.17)

 

 2/01/87         2,000,000.00       2,805,068.27

 

 4/01/87         5,000,000.00       6,932,714.69

 

 6/01/87        15,000,000.00      20,561,011.00

 

 9/01/87        20,000,000.00      26,947,161.62

 

 1/01/88         9,000,000.00      11,851,281.33

 

 1/01/92            (3,000.00)         (3,000.00)

 

 ______________

 

 Rebatable arbitrage  (1/01/92)      $159,590.74

 

 

The initial $49 million investment and each daily reinvestment of a cash dividend is a nonpurpose payment. See paragraph (b)(3)(i) of this section. Each daily cash dividend and each amount received from redemption of the mutual fund shares is a nonpurpose receipt. See paragraph (b)(2)(i) of this section. Each nonpurpose receipt arising from a daily cash dividend can be netted against the nonpurpose payment arising from the reinvestment of that dividend. Accordingly, the above computation reflects only the initial $49 million nonpurpose payment, the 5 nonpurpose receipts arising from the mutual fund share redemptions, and the $3,000 computation date credit under paragraph (b)(4) of this section.

(iv) City A pays 90 percent of the rebatable arbitrage ($143,631.67) to the United States on February 28, 1992. City A redeems all the bonds on January 1, 1994. The final computation date is January 1, 1994. See section 1.148-8(b)(1)(iii). The yield on the fixed yield issue is 7.000 percent per annum compounded semiannually. This yield is used to future value the receipts and payments from the date of issue to the final computation date. See paragraph (c)(1) of this section. The rebatable arbitrage as of the final computation date is $17,099.19, computed as follows:

 Date        Receipts (Payments)     FV (7.000 percent)

 

 ____        ___________________     __________________

 

 1/15/87        (49,000,000.00)      $(79,104,092.02)

 

 2/01/87          2,000,000.00           3,218,880.36

 

 4/01/87          5,000,000.00           7,955,449.56

 

 6/01/87         15,000,000.00          23,594,233.04

 

 9/01/87         20,000,000.00          30,922,487.77

 

 1/01/88          9,000,000.00          13,599,617.92

 

 1/01/92             (3,000.00)             (3,442.57)

 

 2/28/92           (143,631.67)           (163,034.87)

 

 1/01/94             (3,000.00)             (3,000.00)

 

 _________

 

 Rebatable arbitrage (1/01/94)             $17,099.19

 

 

EXAMPLE 2. (i) The facts are the same as in Example 1, except that the issue is a variable yield issue (as defined in section 1.148-3(b)(2)). The yield on the variable yield issue during the first yield period (the period beginning on the date of issue and ending on the first installment computation date) is 7.000 percent per annum compounded semiannually. The rebatable arbitrage as of the first installment computation is the same as in Example 1 (iii)($159,590.74)

(ii) City A pays 90 percent of the rebatable arbitrage ($143,631.67) to the United States on February 28, 1992. The yield on the variable yield issue during the second yield period (the period beginning after the close of business on the first installment computation date and ending on the final computation date, 1/01/94) is 6.500 percent per annum compounded semiannually. This yield is used to future value the receipts and payments after the first installment computation date (1/01/92). See paragraph (c)(1) of this section. The rebatable arbitrage as of the final computation date is $16,781.98, computed as follows:

 Date        Receipts (Payments)    TV (7.000/6.500 percent)

 

 ____        ___________________    ________________________

 

 1/15/87       $(49,000,000.00)         $(78,342,565.99)

 

 2/01/87          2,000,000.00             3,187,892.56

 

 4/01/87          5,000,000.00             7,878,863.36

 

 6/01/87         15,000,000.00            23,367,094.06

 

 9/01/87         20,000,000.00            30,624,800.52

 

 1/01/88          9,000,000.00            13,468,695.95

 

 1/01/92             (3,000.00)               (3,409.43)

 

 2/28/92           (143,631.67)             (161,589.05)

 

 1/01/94             (3,000.00)               (3,000.00)

 

 _________

 

 Rebatable arbitrage (1/01/94)               $16,781.98

 

 

(iii) Alternatively, the rebatable arbitrage as of the final computation date could be computed as follows:

 Receipts (Payments)

 

 Date         Rebatable Arbitrage    TV (6.500 percent)

 

 ____         ___________________    __________________

 

 1/01/92           $159,590.74            $181,371.03

 

 2/28/92           (143,631.67)           (161,589.05)

 

 1/01/94             (3,000.00)             (3,000.00)

 

 _________

 

 Rebatable arbitrage (1/01/94)             $16,781.98

 

 

EXAMPLE 3. (i) The facts are the same as in Example 2, except that all the bonds are redeemed on January 1, 2001, and the issue is treated as a fixed yield issue after the close of business on the first installment computation date (1/01/92). See section 1.148-3(b)(3)(ii) . The yield on the fixed yield issue as of the second installment computation date (1/01/97) is 7.500 percent per annum compounded semiannually. This yield is used to future value the receipts and payments after the first installment computation date. See paragraph (c)(1) of this section. The rebatable arbitrage as of the second installment computation date is $22,467.12, computed as follows:

 Date         Receipts (Payments)    FV (7.000/7.500 percent)

 

 ____         ___________________    ________________________

 

 1/15/87       $(49,000,000.00)         $(99,613,592.88)

 

 2/01/87          2,000,000.00             4,053,446.91

 

 4/01/87          5,000,000.00            10,018,077.36

 

 6/01/87         15,000,000.00            29,711,564.40

 

 9/01/87         20,000,000.00            38,939,832.67

 

 1/01/88          9,000,000.00            17,125,622.30

 

 1/01/92             (3,000.00)               (4,335.13)

 

 2/28/92           (143,631.67)             (205,148.51)

 

 1/01/97             (3,000.00)               (3,000.00)

 

 _________

 

 Rebatable arbitrage (1/01/97)               $22,467.12

 

 

(ii) Alternatively, the rebatable arbitrage as of the second installment computation date could be computed as follows:

 Receipts (Payments)

 

 Date        Rebatable Arbitrage   FV (7.500 percent)

 

 ____        ___________________   __________________

 

 1/01/92         $159,590.74           $230,615.63

 

 2/28/92         (143,631.67)          (205,148.51)

 

 1/01/97           (3,000.00)            (3,000.00)

 

 _________

 

 Rebatable arbitrage (1/01/97)          $22,467.12

 

 

(iii) City A computes the minimum required payment as follows:

 Rebatable arbitrage:                        $22,467.12

 

 Total of previous rebate payments:         $143,631.67

 

 Total:                                     $166,098.79

 

 90 percent of total:                       $149,488.91

 

 Less total of previous rebate payments:   $(143,631.67)

 

 Equals:                                      $5,857.24

 

 Rounded (minimum required payment):          $5,800.00

 

 

(iv) City A pays $5,800.00 to the United States on February 28, 1997. The yield on the fixed yield issue as of the final computation date (1/01/01) remains 7.500 percent per annum compounded semiannually. This yield is used to future value the receipts and payments after the first installment computation date (1/01/92) and until the final computation date. See paragraph (c)(1) of this section. The rebatable arbitrage as of the final computation date is $19,465.37, computed as follows:

 Date         Receipts (Payments)    FV (7.000/7.500 percent)

 

 ____         ___________________    ________________________

 

 1/15/87       $(49,000,000.00)        ($133,728,338.16)

 

 2/01/87          2,000,000.00             5,441,634.05

 

 4/01/87          5,000,000.00            13,448,976.17

 

 6/01/87         15,000,000.00            39,886,907.17

 

 9/01/87         20,000,000.00            52,275,587.71

 

 1/01/88          9,000,000.00            22,990,647.60

 

 1/01/92             (3,000.00)               (5,819.79)

 

 2/28/92           (143,631.67)             (275,405.88)

 

 1/01/97             (3,000.00)               (4,027.41)

 

 2/28/97             (5,800.00)               (7,696.09)

 

 1/01/01             (3,000.00)               (3,000.00)

 

 _________

 

 Rebatable arbitrage  (1/01/01)              $19,465.37

 

 

(v) Alternatively, the rebatable arbitrage as of the final computation date could be computed as follows:

 Receipts (Payments)

 

 Date       Rebatable Arbitrage     FV (7.500 percent)

 

 ____       ___________________     __________________

 

 1/01/92         $159,590.74           $309,594.75

 

 2/28/92         (143,631.67)          (275,405.88)

 

 1/01/97           (3,000.00)            (4,027.41)

 

 2/28/97           (5,800.00)            (7,696.09)

 

 1/01/01           (3,000.00)            (3,000.00)

 

 _________

 

 Rebatable arbitrage (1/01/01)          $19,465.37

 

 

(vi) Alternatively, the rebatable arbitrage as of the final computation date could be computed as follows:

 Receipts (Payments)

 

 Date        Rebatable Arbitrage     FV (7.500 percent)

 

 ____        ___________________     __________________

 

 1/01/97           $22,467.12            $30,161.45

 

 2/28/97            (5,800.00)            (7,696.09)

 

 1/01/01            (3,000.00)            (3,000.00)

 

 _________

 

 Rebatable arbitrage (1/01/01)           $19,465.37

 

 

(d) DETERMINATION OF FAIR MARKET VALUE -- (1) IN GENERAL. Except as otherwise provided in this paragraph (d), the fair market value of an investment is the price at which a willing buyer would purchase the investment from a willing seller. If the investment is not readily salable, the fair market value shall be determined by taking into account the price at which a willing buyer would purchase the same (or a substantially similar) investment from the issuer of the investment. Except as provided in 1.148-4(c)(3), the price shall not be increased by brokerage commissions, administrative expenses, or similar expenses.

(2) ESTABLISHED SECURITIES MARKET. The price at which a willing buyer would purchase an investment that is traded in an established securities market (within the meaning of section 15A.453-1(e)(4)(iv)) shall be determined as provided in section 20.2031-2 of this chapter (Estate Tax Regulations); provided that, if the investment is an obligation of the United States (or any agency or instrumentality thereof, within the meaning of section 149(b)) and is backed by the full faith and credit of the United States (or any such agency or instrumentality), such price shall be the mean of the bid and asked prices on the date of determination (or, if there are no bid and asked prices on such date, on the first day preceding such date for which there are bid and asked prices). The bid and asked prices shall be determined either by reference to "Composite Closing Quotations for United States Government Securities" published by the Federal Reserve Bank of New York, or by reference to a comparable compilation of bid and asked prices regularly published in a newspaper of general circulation throughout the United States.

(3) REFUNDING ESCROW FUND -- (i) IN GENERAL. For purposes of applying --

(A) Paragraph (b)(2)(iii) of this section to any investment in a refunding escrow fund on an installment computation date; and

(B) Paragraphs (b)(2)(ii) and (b)(3)(ii) of this section to any investment in a refunding escrow fund when the investment ceases to be allocated to a refunded issue and is allocated to a refunding issue by reason of applicable allocation rules on the refunding issue;

the present value of the investment shall be treated as the fair market value.

(ii) EXCEPTION. Paragraph (d)(3)(i)(8) of this section shall not apply to an investment that ceases to be allocated to a refunded issue and is allocated to a refunding issue if --

(A) The refunded issue is a tax-exempt issue to which section 1.148-1 applies and section 1.148-7 does not apply,

(B) The refunding issue is not a tax-exempt issue, and

(C) The refunded issue is sold after May 15, 1989, or issued after June 14, 1989,

or if paragraph (d)(3)(i)(B) of this section previously did not apply to the investment by reason of this paragraph (d)(3)(ii).

(4) CERTAIN SLGS. If a SLG is not in a refunding escrow fund, the present value of the SLG shall be treated as the fair market value. See paragraph (e)(2)(iii)(B) of this section for special rule for determining this present value.

(5) INVESTMENT CONTRACT. In the case of nonpurpose investments purchased pursuant to an investment contract, the outstanding principal balance plus accrued interest shall be treated as the fair market value for purposes of applying paragraph (b)(2)(iii) of this section on an installment computation date.

(e) COMPUTATION OF PRESENT VALUE. For purposes of this section --

(1) IN GENERAL. The present value of an investment on any date is the present value as of such date of all the receipts to be received with respect to the investment after such date. In the case of an investment in a refunding escrow fund, payments to be paid after such date shall be taken into account as negative receipts. See section 1.148-8(b)(5) for formula for determining present value. See paragraph (e)(5) of this section for approximate method for determining present value of certain investments.

(2) DISCOUNT RATE -- (i) IN GENERAL. The present value of an investment is computed by using the yield on the investment as the discount rate. The yield on an investment that is allocated to an issue is the discount rate that produces the same present value when used in computing the present value of all the receipts received and to be received with respect to the investment, and the present value of all the payments with respect to the investment. For purposes of the preceding sentence, present value is computed as of the date the investment became allocated to the issue.

(ii) SPECIAL RULES FOR REFUNDING ESCROW FUNDS. The yield on an investment in a restricted escrow is computed by treating --

(A) All investments in the same refunding escrow fund (whether or not held concurrently) as one investment; and

(B) The date any investment in the refunding escrow fund was first in the escrow as the date the one investment became allocated to the issue.

(3) DISPOSITION ASSUMPTION. For purposes of computing the present value of and yield on any investment that is not in a restricted escrow, it shall be assumed that the investment remains allocated to the issue until and will be sold on the highest yield date for the stated price on such date. The highest yield date is the date on which the holder is entitled (under the terms of the investment or pursuant to a separate agreement or option) to require the investment to be purchased, redeemed, or retired at a stated price that, when used in computing the yield on the investment, produces the highest yield.

(4) COMPOUNDING INTERVAL. For purposes of computing the present value of and yield on an investment, the compounding interval is the same as the compounding interval (as defined in section 1.148-3 (b)(11)) used in computing the yield on the issue.

(5) APPROXIMATE METHOD -- (i) IN GENERAL. If an investment is an eligible investment, the issuer may treat the outstanding par amount of the investment plus accrued interest unpaid at the close of business on a date as the present value of the investment on such date.

(ii) ELIGIBLE INVESTMENT. An investment is an eligible investment if --

(A) The investment is a fixed rate investment that is not a SLG and is not in a refunding escrow fund;

(B) The payment taken into account with respect to the investment is equal to the outstanding par amount of the investment plus accrued interest (if any) for the period that begins on a date that is less than one year before the date the investment is allocated to the issue and that ends on the date the investment is allocated to the issue;

(C) All interest on the investment (other than such accrued interest) accrues on the outstanding par amount of the investment and is actually and unconditionally due at periodic intervals of one year or less.

(D) The first payment of interest on the investment (including such accrued interest) is due at the end of the first short compounding interval or at the end of the first whole compounding interval; and

(E) The final maturity date of the investment is the highest yield date. See paragraph (e)(3) of this section for highest yield date. See section 1.150-1(d)(1) for final maturity date.

(6) Example. The following example illustrates the application of this paragraph (e):

EXAMPLE. (i) On July 1, 1993, the first installment computation date, City Y holds two fixed rate investments that are not in a refunding escrow fund. City Y may treat both of these investments as if sold for present value (or both as if sold for fair market value) for purposes of determining the installment date receipt on the first installment computation date under paragraph (b)(2)(iii) of this section.

(ii) One of the investments is a $100,000 face amount 8.625% United States Treasury note due August 15, 1997, that pays interest on February 15 and August 15 of each year. The present value of the Treasury note is determined by using the yield on the Treasury note as the discount rate. See paragraph (e)(2)(i) of this section. The Treasury note was purchased with gross proceeds for $112,000 (including accrued interest) on February 1, 1990. The yield on the Treasury note is 7.225% per annum compounded semiannually, computed as follows:

 Date          Receipts         PV (7.2251652778%)

 

 ____          ________         __________________

 

 2/15/90       $ 4,312.50           $  4,300.61

 

 8/15/90         4,312.50              4,150.67

 

 2/15/91         4,312.50              4,005.95

 

 8/15/91         4,312.50              3,866.28

 

 2/15/92         4,312.50              3,731.47

 

 8/15/92         4,312.50              3,601.37

 

 2/15/93         4,312.50              3,475.80

 

 8/15/93         4,312.50              3,354.62

 

 2/15/94         4,312.50              3,237.65

 

 8/15/94         4,312.50              3,124.77

 

 2/15/95         4,312.50              3,015.82

 

 8/15/95         4,312.50              2,910.67

 

 2/15/96         4,312.50              2,809.19

 

 8/15/96         4,312.50              2,711.24

 

 2/15/97         4,312.50              2,616.71

 

 8/15/97       104,312.50             61,087.19

 

 ___________

 

 Payment (2/01/90)                  $112,000.00

 

 See paragraph (e)(2)(i) of this section.

 

 (iii) The present value of the Treasury note on the first

 

 installment computation date is $108,159.41, computed as

 

 follows:

 

 Date             Receipts        Pv (7.225%)

 

 ____             ________        ___________

 

 8/15/93         $ 4,312.50        $ 4,275.25

 

 2/15/94           4,312.50          4,126.19

 

 8/15/94           4,312.50          3,982.33

 

 2/15/95           4,312.50          3,843.49

 

 8/15/95           4,312.50          3,709.48

 

 2/15/96           4,312.50          3,580.15

 

 8/15/96           4,312.50          3,455.32

 

 2/15/97           4,312.50          3,334.85

 

 8/15/97         104,312.50         77,852.35

 

 ___________

 

 Treasury note PV (7/01/93)         $108,159.41

 

 

See paragraph (e)(1) and (e)(2)(i) of this section.

SECTION 1.148-3 COMPUTATION OF YIELD ON ISSUE.

(a) IN GENERAL. Under this section, the yield on a fixed yield issue is the same throughout the term of the issue, whereas the yield on a variable yield issue changes each yield period. See paragraph (b) of this section for definitions and special rules. See paragraph (c) of this section for computation of yield on fixed yield issue. See paragraph (d) of this section for computation of yield on variable yield issue. See section 1.148-8 for definitions and special rules relating to required rebate. See section 1.150-1 for definitions and special rules relating to tax-exempt bond requirements in general.

(b) DEFINITIONS AND SPECIAL RULES. For purposes of this section --

(1) FIXED YIELD ISSUE -- (i) IN GENERAL. The term "fixed yield issue" means any issue if each bond that is part of the issue is a fixed yield bond. See section 1.150-1(b)(5) and (b)(6) for definitions of fixed yield bond and variable yield bond.

(ii) TRANSITION RULE. Any issue sold on or before May 15, 1989, and issued on or before June 14, 1989, shall be treated as a fixed yield issue if the issuer elects to treat the issue as a fixed yield issue. See section 1.148-8(h) for elections.

(2) VARIABLE YIELD ISSUE -- (i) IN GENERAL. The term "variable yield issue" means any issue that is not a fixed yield issue.

(ii) YIELD PERIOD -- (A) IN GENERAL. The first yield period for a variable yield issue begins on the date of issue and ends at the close of business on the first computation date. Each succeeding yield period begins immediately after the close of business on a computation date and ends at the close of business on the next succeeding computation date.

(B) BOND YEAR ELECTION. The issuer of a variable yield issue may elect to treat the last day of any bond year that is not a computation date as a computation date for purposes of applying paragraph (b)(2)(ii)(A) of this section. An election under the preceding sentence with respect to the last day of a bond year may be revoked at any time before the close of business on a computation date (without regard to the preceding sentence) that precedes such last day. The revocation shall be effective only if it is in writing and signed by an authorized representative of the issuer and satisfies the procedural requirements of section 1.148-8(h)(2).

(C) FIRST AND LAST DAY. Any reference to the last day of a yield period shall be construed as a reference to the period before the close of business on such day, and any reference to the first day of a yield period shall be construed as a reference to the period after the close of business on such day.

(3) CONVERSION TO FIXED YIELD -- (i) CONVERSION TO FIXED YIELD BOND. A variable yield bond shall be treated as a fixed yield bond after the close of business on the first day the bond would be a fixed yield bond if issued immediately after the close of business on such day. The fixed yield bond shall be treated as if issued on such day for an issue price equal to the amount taken into account with respect to the bond on such day under paragraph (d)(2)(ii) of this section (without regard to any accrued interest taken into account under paragraph (d)(2)(ii)(A) of this section). The preceding sentence shall not apply for purposes of paragraph (c)(1)(ii) of this section. Principal or interest that accrued on the variable yield bond on or before such day shall not be treated as principal or interest on the fixed yield bond. See paragraph (d)(4) of this section (EXAMPLES 9 through 11). This paragraph (b)(3)(i) shall apply to a variable yield bond that is not a tender bond only if the issuer elects to apply this paragraph (b)(3)(i) to the bond.

(ii) CONVERSION TO FIXED YIELD ISSUE. Unless the issuer otherwise elects, a variable yield issue shall be treated as a fixed yield issue as of the first day of a yield period if the issue would be a fixed yield issue if issued on such day. Each bond that is part of the fixed yield issue shall be treated as if issued on such day for the amount that (but for this paragraph (b)(3)(ii)) would have been taken into account with respect to the bond on such day under paragraph (d)(2)(ii) or (d)(3)(ii) of this section (without regard to any accrued interest that would be taken into account under paragraph (d)(2)(ii)(A)). The preceding sentence shall not apply for purposes of paragraph (d) of this section. No issue payment taken into account with respect to the variable yield issue under paragraph (d) of this section shall be taken into account with respect to the fixed yield issue under paragraph (c) of this section. See paragraph (d)(4) of this section (EXAMPLES 9 through 11).

(4) YIELD-TO-CALL BOND -- (i) IN GENERAL. A yield-to-call bond is treated as if the lowest yield date were the final maturity date and the stated retirement price on the lowest yield date were the stated retirement price on the final maturity date. If a bond to which the preceding sentence applies is not retired on or before the lowest yield date and an event described in section 1.148-3(c)(4)(ii) or section 1.148-3(c)(4)(iii) has occurred with respect to the bond, the bond is treated as if it were retired on that date for the stated retirement price on that date, and is treated as if issued on that date (as part of the same issue) for an issue price equal to that price (less any amount included in that price and paid to discharge principal or interest on that date). See paragraph (c)(7) of this section (EXAMPLES 4, 5 and 6) for fixed yield bonds and paragraph (d)(4) of this section (EXAMPLE 3) for current index bonds.

(ii) YIELD-TO-CALL BOND. The term "yield-to-call bond" means --

(A) Any bond, other than a bond described in paragraph (b)(4)(iii) of this section, that is part of a fixed yield issue if the yield-to-maturity on the bond is more than one fourth of 1 percent higher than the lowest yield;

(B) Any fixed yield bond or current index bond, other than a bond described in paragraph (b)(4)(iii) of this section, that is part of a variable yield issue if the yield-to-maturity on the bond is more than one sixteenth of 1 percent higher than the lowest yield; and

(C) Any variable yield bond (other than a current index bond) that is part of a variable yield issue if the yield-to-maturity on the bond is higher than the lowest yield; determined without regard to paragraph (b)(3)(ii) and (b)(4)(i) of this section. Such term shall not include any tender bond. See section 1.150-1(b)(7) and (b)(8) for definitions of tender bond and current index bond.

(iii) EXCEPTIONS. A bond is not treated as a yield-to-call bond under this paragraph (b)(4), if --

(A) The bond is not subject to redemption prior to maturity, or

(B)(1) The bond is a fixed yield bond;

(2) The stated rate of interest on the bond remains constant during its term; and

(3) The excess of the issue price of the bond over the stated retirement price of the bond at maturity, stated as a percentage of the stated retirement price of the bond, is not greater than one fourth of 1 percent multiplied by the number of complete years to the first date on which the issuer or any ultimate obligor (or related person, as defined in section 147(a)(2)) has a right (under the terms of the bond or pursuant to a separate agreement or option entered into in connection with the issuance of the bond) to retire, redeem, or purchase the bond. For purposes of the preceding sentence, issue price and stated retirement price do not include accrued interest for a period of up to 6 months.

(5) BOND YIELD -- (i) IN GENERAL. The term "yield" means, with respect to a bond, the discount rate that when used in computing the present value of all the unconditionally payable payments of principal and interest and all the payments for a qualified guarantee paid and to be paid with respect to the bond produces an amount equal to the present value of the issue price of the bond. Present value is computed as of the date of issue of the bond. See section 1.148-8(c) for definition of issue price (in general). If paragraph (b)(3) of this section applied to the bond, payments for a qualified guarantee with respect to the variable yield bond shall not be taken into account.

(ii) YIELD-TO-MATURITY. The term "yield-to-maturity" means, with respect to a bond, the yield on the bond determined by assuming the bond is retired on the final maturity date for the stated retirement price on such date. See section 1.150-1(d)(1) for definition of final maturity date. See paragraph (b)(4)(i) of this section for special rules for yield-to-call bonds.

(iii) LOWEST YIELD. The term "lowest yield" means, with respect to a bond, the yield on the bond determined by assuming the bond is retired on the lowest yield date for the stated retirement price on such date. For purposes of computing the lowest yield, the stated retirement price on the lowest yield date shall be treated as an unconditionally payable payment of principal and interest, and the lowest yield date is the date that when used in computing the yield on the bond produces the lowest yield.

(6) RETIREMENT PRICES -- (i) IN GENERAL. The term "retirement price" means, with respect to a bond, the amount paid in connection with the retirement or redemption of the bond.

(ii) STATED RETIREMENT PRICE -- (A) IN GENERAL. The stated retirement price of a bond on a date is the lowest price at which the issuer or any ultimate obligor (or related person, as defined in section 147(a)(2)) has a right (under the terms of the bond or pursuant to a separate agreement or option entered into in connection with the issuance of the bond) to retire or redeem the bond as of such date.

(B) RIGHT TO RETIRE. A person has a right to retire or redeem a bond as of a date even if the exercise of the right is subject to a contingency; provided that, a right to redeem a bond only in the event of a remote contingency shall not be taken into account unless and until the remote contingency has occurred. An example of a remote contingency is the destruction or condemnation of facilities financed with proceeds of the issue of which the bond is a part. or, if the requirements of section 1.103-14(b)(1) are met as of the date of issue, the subsequent failure to spend proceeds of an issue.

(7) EARLY RETIREMENT VALUE -- (i) IN GENERAL. Except as otherwise provided in this paragraph (b)(7), the early retirement value of a bond on any date is the lesser of --

(A) The present value of the bond on such date; and

(B) If the bond is part of a fixed yield issue (without regard to paragraph (b)(3)(ii) of this section) and the yield to-maturity on the bond is higher than the lowest yield, the lowest stated retirement price (properly adjusted to take into account accrued interest) on any day during the period beginning one year before such date and ending 90 days after such date. See paragraph (c)(7) of this section (EXAMPLES 2, 4, 5, 7 and 9) for fixed yield bonds and paragraph (d)(4) of this section (EXAMPLES 1 through 3) for current index bonds.

(ii) TENDER BOND. The early retirement value of a tender bond on any date is the outstanding par amount of the bond on such date. See section 1.150-1(b)(7) for definition of tender bond. See paragraph (d)(4) of this section (EXAMPLES 4 through 11).

(iii) SPECIAL RULES FOR CERTAIN DISCOUNT BONDS SUBJECT TO MANDATORY EARLY REDEMPTION -- (A) IN GENERAL. If the yield-to- maturity on a bond that is subject to mandatory early redemption (determined without regard to any payment for a qualified guarantee) is more than one fourth of one percent lower than the composite yield-to-maturity determined as provided in paragraph (b)(8)(ii)(B) of this section (but without regard to any payment for a qualified guarantee) --

(1) Paragraph (b)(8)(ii)(B) of this section shall not apply for purposes of determining the issue payments to be paid on the bond under paragraph (c) of this section or for purposes of determining the early retirement value of the bond under paragraph (d)(2)(i)(F)(1) and (d)(3)(i)(E) of this section;

(2) For purposes of determining the issue payments paid on the bond under paragraph (c) of this section, the early retirement value of the bond on the date the bond is retired shall not exceed an amount equal to the greater of (i) the retirement price of the bond; and (ii) the present value of the bond on the retirement date (determined without regard to paragraph (b)(8)(ii)(B) of this section);

(3) For purposes of determining the early retirement value of the bond under paragraph (d) of this section on the date the bond is retired, the early retirement value of the bond shall not exceed an amount equal to the greater of --

(i) the retirement price of the bond less interest paid in connection with the retirement; and

(ii) the present value of the bond on the retirement date (determined without regard to paragraph (b)(8)(ii)(B) of this section); and

(4) The early retirement value of the bond on the date the bond is retired may be determined without regard to paragraph (b)(8)(ii)(B) of this section if the bond is or was part of a variable yield issue.

See paragraph (c)(7) of this section (EXAMPLE 9).

(B) MANDATORY EARLY REDEMPTION. A bond is subject to mandatory early redemption if the final maturity date of the bond is not the earliest date on which the final payment of principal and interest on the bond is actually and unconditionally due (without regard to any unanticipated event or optional retirement). See section 1.150- 1(d)(1) and (d)(2) for definitions of final maturity date and actually and unconditionally due. Bonds evidenced by a single loan instrument and to which section 1.150-1(d)(3) applies shall not be treated as subject to mandatory early redemption for purposes of paragraph (b)(7)(iii)(A) of this section.

(C) EXCEPTION FOR CERTAIN DISCOUNT BONDS. Notwithstanding anything to the contrary in paragraphs (b)(7)(iii)(A) and (B) of this section, this paragraph (b)(7)(iii) applies to a bond issued at discount only if --

(1) The amount of the discount is greater than one-fourth of 1 percent multiplied by the number of complete years from the date of issue to the final maturity date;

(2) The amount of discount is greater than one-eighth of 1 percent multiplied by the number of complete years from the date of issue to the final maturity date and the first mandatory early redemption date is more than 15 years before the final maturity date; or

(3) The amount of bonds subject to mandatory redemption on any date is more than 10 percent greater than the amount of bonds subject to mandatory redemption or payable at maturity on any later date.

(D) DETERMINATION OF DISCOUNT. The amount of discount is defined as the percentage obtained by dividing the excess of the stated retirement price over the issue price of a bond by the stated retirement price of the bond. For purposes of the preceding sentence, issue price and stated retirement price do not include accrued interest for a period of up to 6 months.

(iv) SPECIAL RULES FOR CERTAIN EARLY REDEMPTIONS. The early retirement value of a bond is the amount specified in paragraph (b)(7)(iv)(A) or (B) of this section if the bond is redeemed before the final maturity date and a recomputation of yield is required pursuant to section 1.148-3(c)(4)(ii) or (iii).

(A) BOND REDEEMED PURSUANT TO ITS TERMS. In the case of a bond redeemed pursuant to its terms, the early retirement value is an amount equal to the actual redemption price of the bond (including call premium, if any).

(B) OTHER BONDS. For any redemption not described in paragraph (b)(7)(iv)(A) of this section, the early retirement value is an amount equal to the sum of the issue price for the bond, determined under section 1.148-8(c), and the amount of accrued original issue discount, determined under section 1288(a).

(8) PRESENT VALUE -- (i) IN GENERAL. The present value of a bond on any date is the present value as of such date of all the unconditionally payable payments of principal and interest and all payments' for a qualified guarantee to be paid on and after such date with respect to the bond. See section 1.148-8(b)(5) for formula for determining present value. See paragraph (b)(8)(iii) of this section for approximate method for determining present value of certain bonds. See paragraph (b)(8)(iv) of this section for special present value for large fixed yield issues.

(ii) DISCOUNT RATE, ETC. -- (A) IN GENERAL. For purposes of computing the present value of a bond, the yield-to-maturity on the bond shall be used as the discount rate and the bond shall be assumed to be retired on the final maturity date for the stated retirement price on such date.

(B) BONDS SUBJECT TO MANDATORY EARLY REDEMPTION. For purposes of applying paragraphs (b)(8)(i) and (b)(8)(ii)(A) of this section to substantially identical bonds that are subject to mandatory early redemption --

(1) The composite yield-to-maturity on all such bonds shall be treated as the yield-to-maturity on each bond;

(2) The composite yield-to-maturity shall be determined by assuming the bonds are retired on the scheduled early retirement dates and by treating such dates as the final maturity dates; and

(3) The present value of each bond retired in satisfaction of a mandatory early redemption requirement shall be determined by treating the mandatory early redemption date (in satisfaction of which the bond is retired) as the final maturity date and the stated retirement price on such date as the stated retirement price on the final maturity date. For purposes of this paragraph (b)(8)(ii)(B), the scheduled early retirement dates (and mandatory redemption dates) shall be determined on the basis of reasonable expectations as of the date of issue (if the dates are not fixed and determinable as of the date of issue). See paragraph (c)(7) of this section (EXAMPLES 7 through 10).

(iii) APPROXIMATE METHOD -- (A) IN GENERAL. If a bond is an eligible bond, the issuer may treat the outstanding par amount of the bond plus (if the bond is not a variable yield bond) unpaid accrued interest as of a date (including interest paid on such date) as the present value of the bond on such date. The preceding sentence shall not apply for purposes of paragraph (d)(3)(i)(E) of this section if there is unpaid accrued interest as of such date (not including interest paid on such date).

(B) ELIGIBLE BOND. A bond is an eligible bond if --

(1) The issue price of the bond is par plus accrued interest on such par amount (if any) for the period that begins on a date that is less than one year before the date of issue and ends on the date of issue;

(2) All interest on the bond (other than such accrued interest) accrues on the outstanding par amount of the bond and is actually and unconditionally due at periodic intervals of one year or less;

(3) The first payment of interest on the bond (including such accrued interest) is due at the end of the first short compounding interval or at the end of the first whole compounding interval;

(4) The lowest stated retirement price of the bond is not less than the outstanding par amount of the bond plus accrued interest; and

(5) No payment for a qualified guarantee is taken into account with respect to the bond (without regard to paragraph (b)(13)(ii)(D) of this section).

(iv) SPECIAL PRESENT VALUE FOR LARGE FIXED YIELD ISSUES. If the aggregate issue price of the bonds issued as part of a fixed yield issue is $35 million or more, the present value of the bonds that are part of the issue shall be determined by substituting "one sixteenth of one percent" for "one fourth of one percent" in paragraph (b)(4)(ii)(A) of this section.

(9) SPECIAL RULES FOR VARIABLE YIELD BONDS. For purposes of determining whether a variable yield bond (other than a tender bond) is a yield-to-call bond and for purposes of computing the yield on and present value and early retirement value of the bond --

(i) Any interest that is unconditionally payable but that does not accrue at a rate that is fixed and determinable as of the date of issue shall not be taken into account;

(ii) The interest described in paragraph (b)(9)(i) of this section shall be treated as unconditionally payable at a rate that is fixed and determinable as of the date of issue and shall be fixed and determined on the basis of the rate established by the interest index or other interest rate setting mechanism as of such date;

(iii) Payments for a qualified guarantee shall be taken into account only for purposes of determining whether the bond is a yield- to-call bond and shall be treated as level payments for such purpose; and

(iv) Interest that accrued on the bond on or before a date and that is payable on or after such date (including the interest treated as so accruing under paragraph (b)(9)(ii) of this section) shall not be taken into account in determining the present value of the bond on such date.

See paragraph (d)(4) of this section (Examples 1 through 3).

(10) ACTUALLY PAID -- (i) IN GENERAL. Payments of principal and interest on a bond that are unconditionally payable shall be treated as if paid on the date actually and unconditionally due if --

(A) The rebatable arbitrage (with regard to this paragraph (b)(10)) is lower than the rebatable arbitrage (without regard to this paragraph (b)(10));

(B) As of the date of issue, it is reasonably expected that all payments of principal and interest payable on the bond will be paid no later than the date actually and unconditionally due; and

(C) As of the date of issue, the holders of all bonds that are part of the issue are reasonably assured that sufficient funds will be available to fully retire the bonds (after reduction for any amount required to be paid under section 1.148-1(b)(1)(i), determined without regard to this paragraph (b)(10)) in the event that none (or an insubstantial portion) of the proceeds of the issue are expended for a governmental purpose (not including the payment of the principal or interest on or the retirement price of any bond that is part of the issue). The reasonable assurance must be predicated on a binding obligation (enforceable by or on behalf of the bondholders) of a person or persons with sufficient funds (and to the extent necessary the binding obligation must be enforced). See section 1.150-1(d)(2) for definition of actually and unconditionally due.

(ii) UNCONDITIONALLY PAYABLE -- (A) IN GENERAL. A payment of principal or interest on a bond is unconditionally payable if the amount of the payment and date the amount is actually and unconditionally due are fixed and determinable as of the date of issue (determined by assuming that no payment is paid before the latest date the payment is actually and unconditionally due). A payment shall not be treated as unconditionally payable to the extent that it is not reasonably certain on the date of issue of the bond that the payment actually will be paid.

(B) VARIABLE YIELD BONDS. Any payment of interest on a variable yield bond that is determined by reference to market interest rates (including by reference to any index of such rates) after the date of issue shall be treated as unconditionally payable if the payment would be unconditionally payable if the payment were determined by reference to interest rates that were fixed and determinable as of the date of issue.

(11) COMPOUNDING INTERVAL -- (i) BOND. The compounding interval used in computing the yield on and the present value of a bond is the compounding interval used with respect to each bond that is part of the issue.

(ii) ISSUE. The compounding interval used in computing the yield on an issue and the present value of amounts under paragraphs (c)(1) and (d)(1) of this section is any compounding interval of not more than one year that is used with respect to each bond that is part of the issue.

(12) QUALIFIED GUARANTEES -- (i) IN GENERAL. The term "qualified guarantee" means, with respect to a bond, any guarantee of the bond if the guarantee meets each of the requirements of this paragraph (b)(12).

(ii) GUARANTEE -- (A) IN GENERAL. The term "guarantee" means, with respect to a bond, an unconditional and recourse obligation of a guarantor (enforceable by or on behalf of the holder of the bond) to pay all or part of any payment of principal or interest on the bond (or any payment of the tender price of the bond if the bond is a tender bond) that is actually and unconditionally due under the terms of the bond.

(B) SECONDARY LIABILITY. An obligation to pay shall not be treated as a guarantee unless --

(1) It is reasonably expected that the guarantor will not be called upon to make any payment under the guarantee (for which the guarantor will not be reimbursed immediately in cash); and

(2) The guarantor is entitled to be fully reimbursed immediately or upon commercially reasonable repayment terms (during a workout period that is not unreasonably long) for any payment under the guarantee. In no event shall any hedging transaction described in section 1256(e)(2)(A)(i) or (ii) be treated as a guarantee. See paragraph (b)(14) of this section for treatment of hedging transactions.

(C) GUARANTOR. The term "guarantor" includes only --

(1) The United States (or any agency or instrumentality thereof, within the meaning of section 149(b));

(2) An entity that is not exempt from Federal income taxation and that --

(1) is a bank (within the meaning of section 581 or 585(a)(2)(B));

(ii) is rated in one of the two highest (e.g., "AA," "AAA," "Aa," or "Aaa") categories for unsecured debt or insurance underwriting or claims paying ability by a nationally recognized rating agency; or

(iii) by issuing its policies causes obligations insured thereby to be rated in one of the two highest categories; and

(3) A State insurance fund established before May 15, 1989 but only with respect to guarantees of obligations of persons other than State or local government units and of the type guaranteed by such fund before such date. Such term shall not include any person that is to use 20 percent or more of the proceeds of the issue of which the bond is a part for a private business use (within the meaning of section 141(b)(6)) or a person related to such a person (within the meaning of section 144(a)(3)).

(D) RISK SHIFTING. An obligation to pay shall be treated as a guarantee only to the extent that the obligation shifts ultimate credit risk with respect to the issue. An obligation to pay does not shift ultimate credit risk with respect to an issue to the extent that the guarantor or a person related to the guarantor (within the meaning of section 144(a)(3)) is obligated to pay any amount that is taken into account with respect to the issue under section 141(b)(2). For purposes of this paragraph (b)(12)(ii)(D), any person that owns a share of the beneficial ownership interests of another person shall be treated as owning a proportionate share of the beneficial ownership interests owned by such other person, any person a share of the beneficial ownership interests of which is owned by another person shall be treated as owning a proportionate share of the beneficial ownership interests owned by such other person, and any obligation to pay shall be treated as the obligation of any person that owns a proportionate share of the beneficial ownership interests of the obligor and of any person a proportionate share of the beneficial ownership interests of which is owned by the obligor in the same proportion as the proportionate share so owned. For purposes of the preceding sentence, proportionate shares shall be determined on the basis of fair market value, and no share shall be taken into account that is less than 10 percent of the total.

(E) FORM OF GUARANTEE. A guarantee may be in the form of an insurance policy, surety bond, irrevocable letter or line of credit, or standby purchase agreement. A guarantee of the principal and interest on a bond may be in the form of a recourse loan to the guarantor if the loan is in substance a guarantee of the bond. A loan is not in substance a guarantee unless the terms of the loan and bond are substantially identical (without regard to any discrepancy in payment dates of no more than 15 business days).

(iii) REASONABLE CHARGE. A guarantee of a bond does not meet the requirements of this paragraph (b)(12) if the payments for the guarantee of the bond exceed a reasonable charge for the transfer of credit risk. In determining whether this requirement is met, there shall be taken into account payments charged by guarantors in comparable transactions (including transactions in which the guarantor has no involvement other than as a guarantor). In no event shall this requirement be considered met unless the present value of such payments on the issue is less than the present value of the interest to be saved on the issue as a result of the guarantee. Present value is computed by using the yield-to-maturity on the issue (with regard to payments for the guarantee) as the discount rate.

(iv) NONGUARANTEE ELEMENT -- (A) IN GENERAL. A guarantee of a bond does not meet the requirements of this paragraph (b)(12) if any payment denominated as a payment for the guarantee or taken into account by the issuer as a payment for a qualified guarantee with respect to the bond includes direct or indirect payment for a cost, risk, or other element that is not customarily borne by guarantors of tax-exempt bonds (in transactions in which the guarantor has no involvement other than as a guarantor).

(B) NONGUARANTEE CHARGES MUST BE SEPARATELY STATED. A guarantee shall not be treated as meeting the requirements of paragraph (b)(12)(iv)(A) of this section if the guarantor (or a related person within the meaning of section 147(a)(2)) provides any nonguarantee service(s) the fee(s) for which are not separately stated. The preceding sentence shall not apply to any guarantee entered into on or before June 14, 1989.

(C) EXAMPLES. The following are examples of payments that include a nonguarantee element:

(1) Payments for the guarantee of the tender price of tender bonds include indirect payment for a noncustomary cost (the cost of remarketing the bonds) if the issuer or an ultimate obligor (or its agent) is not required to use best efforts to remarket bonds that are tendered for purchase and not retired.

(2) Payments for a guarantee include indirect payment for a noncustomary risk if the guarantor is not reasonably assured that sufficient funds will be available to fully retire the bonds (after reduction for any amount required to be paid under section 1.148-1(b)(1)(i), determined without regard to any payment for any qualified guarantee) in the event that none (or an insubstantial portion) of the proceeds of the issue are expended for a governmental purpose (not including the payment of the principal or interest on or the retirement price of any bond that is part of the issue). The reasonable assurance must be predicated on a binding obligation (enforceable by the guarantor) of a person or persons with sufficient funds (and to the extent necessary the binding obligation must be enforced).

(3) Payments for a guarantee include a nonguarantee element if the issuer is entitled to a refund in the event a guaranteed bond is retired before the final maturity date, and the amount of the refund exceeds the unearned portion of the payments for the guarantee.

(4) If a guarantee is in the form of a loan to the guarantor, payments to the guarantor include a nonguarantee element if the payment for any nonguarantee service performed by the guarantor does not fully and adequately compensate the guarantor for such service (or any portion of such payment is taken into account as a payment for a qualified guarantee). For purposes of determining whether the guarantor is fully and adequately compensated for such a service, the payments for the service are compared to payments that would be charged for the service if the service was performed by a person other than a guarantor.

(5) Payments to a guarantor of a revenue bond include a nonguarantee element if the property securing the bond normally would be insured against certain risks and the guarantee is used to replace such insurance. For example, if a bond is secured solely by a multifamily housing project and the revenues derived therefrom, and the project is not insured against any fire damage, payments to the guarantor of the bond would include a nonguarantee element. Similarly, payments to the guarantor of a qualified mortgage bond would include a nonguarantee element if the mortgage loans securing the bond did not satisfy minimum underwriting standards.

(v) PURPOSE INVESTMENT BOND GUARANTEE. A guarantee of the principal or interest on an eligible purpose investment shall be treated as a guarantee of the related payments of principal or interest on bonds that are part of an issue and as if paid for a guarantee with respect to such bonds if (and only if) --

(A) All payments of principal and interest on the purpose investment that are original proceeds of the issue coincide (in all events) with payments on such bonds; and

(B) All such payments on the purpose investment (and all related payments under the guarantee) are at all times pledged unconditionally and exclusively to the payment of principal and interest on such bonds (without regard to any bond after the bond is legally defeased).

See paragraph (b)(12)(vi) of this section for when payments coincide. See paragraph (b)(12)(vii) of this section for special rule for parity issues. See paragraph (b)(12)(viii) of this section for definition of eligible purpose investment.

(vi) WHEN PAYMENTS COINCIDE. For purposes of paragraph (b)(12)(v)(A) of this section, payments on a purpose investment and a bond coincide if --

(A) The payments are actually and unconditionally due during the same compounding interval used in computing the yield on the bond, determined by taking into account only payments of interest on the bond;

(B) The payments are actually and unconditionally due during the same compounding interval used in computing the yield on the bond, determined by taking into account only payments of principal on the bond; or

(C) The payments on the bond are actually and unconditionally due no later than one month after the payments on the purpose investment. In applying this paragraph (b)(12)(vi) to an issue, there shall not be taken into account any discrepancy of no more than one month, or any amount less than $250,000 that is required to be used to redeem bonds no later than the first available call date.

(vii) SPECIAL RULE FOR PARITY ISSUES. Payments on a purpose investment (and related payments under a guarantee) shall not be treated as failing to meet the requirement of paragraph (b)(12)(v)(B) of this section that such payments are pledged exclusively to the payment of principal or interest on bonds that are part of the issue solely by reason of the fact the payments are pledged to the payment of principal and interest on bonds that are part of one or more other issues if --

(A) The issue and all the other issues to which the payments are pledged are issued by the same issuer pursuant to the same master resolution or indenture;

(B) All bonds issued under the master resolution or indenture are equally and ratably secured at all times (without regard to any bond after the bond is legally defeased);

(C) Original proceeds of the issues of which such bonds are a part may be used only to make or finance purpose investments that are unconditionally and exclusively pledged to the payment of such bonds and guaranteed by the same guarantor (and to pay administrative expenses relating to the financing of such purpose investments); and

(D) The payments on the purpose investment are not guaranteed by the guarantor to any lesser extent than the payments on any purpose investment financed with original proceeds of any of the other issues.

(viii) ELIGIBLE PURPOSE INVESTMENT. The term "eligible purpose investment" means, with respect to an issue, any purpose investment (or portion thereof) that is allocated to sale proceeds of the issue (including sale proceeds allocated to the refunding portion of a refunding issue) if --

(A) The investment is an obligation that is not a student loan or for the financing of an owner-occupied residence; and

(B) The yield on the investment is not reasonably expected to be materially higher than the yield on the issue (within the meaning of section 1.103-13(b)(5)(i)(A), or, in the case of investments in acquired program obligations, within the meaning of section 1.103-13(b)(5)(viii)) but determined --

(1) Without regard to any other purpose investment and without regard to any payment for a guarantee of any other purpose investment; and

(2) Except as otherwise provided in paragraph (b)(12)(ix)(A) of this section, by taking into account payments for the guarantee of the purpose investment as interest on the issue and as interest on the purpose investment and not as administrative costs for purposes of section 1.103-13(c)(5).

(ix) TRANSITION RULE. The requirements of paragraph (b)(12)(viii)(B) of this section shall be treated as satisfied with respect to a purpose investment acquired on or before June 14, 1989, if the requirements are satisfied determined by taking into account --

(A) Payments for the guarantee of the purpose investment as administrative costs for purposes of section 1.103-13(c)(5) and not as interest on the issue; and

(B) Any amendment to the terms of the purpose investment no later than the first date after June 14, 1989, that any amount with respect to the issue is paid or required to be paid to the United States under section 1.148-1(b)(1).

(13) SPECIAL RULES FOR GUARANTEE PAYMENTS. (i) ALLOCATION TO BONDS -- (A) LEVEL PAYMENTS. A level payment for a guarantee shall be allocated to the bond to which the level payment properly relates.

(B) NONLEVEL PAYMENTS. Nonlevel payments for a guarantee shall be allocated to bonds in a manner that properly reflects the proportionate credit risk for which the guarantor is compensated. In the case of identical bonds (including bonds subject to mandatory early redemption), the proportionate credit risk with respect to each bond is the same. The proportionate credit risk with respect to bonds that are not identical shall be determined by reference to the proportionate interest reduction resulting from the guarantee (determined on a present value basis and with adjustments, if necessary, to take into account any level payments); provided that, in the case of bonds that are not readily marketable without a guarantee and for which the proportionate interest reduction cannot reasonably be estimated in such a way as to properly reflect the proportionate credit risk, the proportionate credit risk shall be determined by use of a reasonable method that properly reflects such risk.

(ii) SPECIAL RULES FOR VARIABLE YIELD BONDS -- (A) LEVEL PAYMENTS. Level payments allocated to a variable yield bond shall be treated as paid when paid (but not earlier than when actually due). See paragraph (d)(4) of this section (Examples 4 through 11). For purposes of this paragraph (b)(13)(ii), all payments for a guarantee allocated to a bond shall be treated as level payments if all such payments are paid during a single yield period, the bond is outstanding only during such yield period, and the bond is not retired before the final maturity date of the bond. See paragraph (c)(7) of this section (Example 11).

(B) NONLEVEL PAYMENTS. Nonlevel payments allocated to a variable yield bond shall be treated as paid on the first day of each bond year. The amount treated as paid on the first day of each bond year (other than a short bond year) shall be the constant payment amount. The amount treated as paid on the first day of each short bond year shall be the product of the constant payment amount, and the fraction of a full year represented by the short bond year. See paragraph (d)(4) of this section (Examples 4 through 11).

(C) EARLY RETIREMENT. If a variable yield bond is retired before the final maturity date, no payment for a guarantee shall be treated as paid with respect to the bond after the retirement date, and the amount or amounts treated as paid on any day during the 1-year period immediately preceding the retirement date (without regard to this sentence) shall not be treated as paid to the extent properly allocable to the period during which the bond is retired. For example, the constant payment amount treated as paid on the first day of the bond year during which the bond is retired is the product of the constant payment amount that would be treated as paid if the bond were not retired, and the fraction representing the portion of the bond year during which the bond is not retired. See paragraph (d)(4) of this section (Examples 6 and 10).

(D) CONVERSION TO FIXED YIELD BOND. If a fixed yield bond was a variable yield bond, amounts paid for a qualified guarantee with respect to the variable yield bond shall be treated as paid with respect to the fixed yield bond in the manner provided in this paragraph (b)(13)(ii) for purposes of paragraphs (c) and (d) of this section. See paragraph (d)(4) of this section (Examples 9 through 11).

(iii) DEFINITIONS AND SPECIAL RULES. For purposes of this paragraph (b)(13) --

(A) LEVEL PAYMENT. A payment for a qualified guarantee of a bond is a level payment if --

(1) The payment is one of a series of payments with respect to the bond;

(2) Each payment in the series is the same percentage of the outstanding amount of the bond plus accrued interest for a period of no longer than one year, determined as of the date the payment is calculated;

(3) Each payment in the series is due no earlier than one year before and no later than one year after the date the payment is calculated; and

(4) The series of payments are due at periodic intervals (properly adjusted to take into account any short interval) and at least one payment is due each bond year while the guarantee of the bond is in effect.

The accrued interest referred to in paragraph (b)(13)(iii)(A)(2) of this section may be based on a hypothetical interest rate (but not at a rate above a reasonable maximum rate) if the method of calculating such interest does not vary and is not designed to front-load or back-load payments. See paragraph (d)(4) of this section (Examples 4 and 7).

(B) NONLEVEL PAYMENT. Any payment for a qualified guarantee of a bond that is not a level payment is a nonlevel payment.

(C) CONSTANT PAYMENT AMOUNT. The constant payment amount, with respect to a variable yield bond, is equal to the present value of all the nonlevel payments for a qualified guarantee allocated to the bond, divided by the present value of all the nominal amounts paid on the first day of each bond year while the guarantee of the bond is in effect (without regard to any retirement of the bond before the final maturity date). The nominal amount paid on the first day of each bond year (other than a short bond year) is $1. The nominal amount paid on the first day of a short bond year is the product of $1, and the fraction of a full year represented by the short bond year. Present value is computed as of the first day the guarantee is in effect by using as the discount rate the composite yield on all the variable yield bonds to which the nonlevel payments relate (determined with regard to level payments but without regard to any nonlevel payment and by applying rules similar to the rules in paragraph (d) of this section) during the period beginning on the first day the guarantee is in effect and ending on the last day of the first yield period that is at least one full year during which the guarantee is in effect (not taking into account any period after which the guarantee is no longer in effect). For purposes of the preceding sentence, the yield period for a fixed yield issue shall be the period determined under paragraph (b)(2)(ii)(A) of this section. See paragraph (d)(4) of this section (Examples 4 through 11).

(D) BOND YEAR. The first bond year shall be treated as beginning on the first day the guarantee of the bond is in effect, and the last bond year shall be treated as ending on the last day the guarantee of the bond is in effect (without regard to any retirement of the bond before the final maturity date). Any bond year that is less than 12 full months is a short bond year.

(E) AGGREGATION RULE. All guarantees with respect to variable yield bonds that are part of the same issue and are entered into with the same guarantor (or a related person within the meaning of section 144(a)(3)) on or before the first computation date shall be treated as one guarantee. The preceding sentence shall not apply to guarantees that are not in effect and are not entered into within one year of each other.

(14) CERTAIN HEDGING TRANSACTIONS. [Reserved]

(c) COMPUTATION OF YIELD ON FIXED YIELD ISSUE -- (1) GENERAL RULE. The yield on a fixed yield issue as of any computation date is the discount rate that produces the same present value when used in computing --

(i) ISSUE PAYMENTS. The present value of all the issue payments paid and to be paid in connection with the bonds that are part of the issue; and

(ii) ISSUE PRICES. The present value of all the issue prices of the bonds that are part of the issue.

Present value is computed as of the date of issue of the fixed yield issue. See section 1.148-8(b)(5) for formula for determining present value. See paragraph (c)(2) of this section for determination of issue payments paid. See paragraph (c)(3) of this section for determination of issue payments to be paid. See paragraph (c)(4) of this section for special rule regarding frequency of yield computations for fixed yield issues. See paragraph (c)(5) of this section for transition rule for fixed yield issues. See paragraph (c)(6) of this section for special rules for transitioned variable yield bonds. See paragraph (b) of this section for definitions and special rules.

(2) DETERMINATION OF ISSUE PAYMENTS PAID. For purposes of this paragraph (c), the issue payments paid as of any computation date in connection with the fixed yield bonds that are part of a fixed yield issue are --

(i) PRINCIPAL AND INTEREST. Any amounts paid on or before the computation date to discharge principal or interest on the bonds (not including the retirement price or any amount taken into account in computing the early retirement value of a bond on the retirement date);

(ii) QUALIFIED GUARANTEE. Any amounts paid on or before the computation date for a qualified guarantee with respect to the bonds (not including any amount taken into account in computing the early retirement value of the bond on the retirement date);

(iii) EARLY RETIREMENT VALUE. If any bond is retired before the final maturity date and on or before the computation date, an amount equal to the early retirement value of the bond on the retirement date; and

(iv) RETIREMENT PRICE. If any bond is retired on the final maturity date and on or before the computation date, an amount equal to the retirement price of the bond.

(3) DETERMINATION OF ISSUE PAYMENTS TO BE PAID. For purposes of this paragraph (c), the issue payments to be paid as of any installment computation date in connection with the bonds that are part of a fixed yield issue shall be determined --

(i) SCHEDULED EARLY RETIREMENTS. By assuming that bonds are retired on the scheduled early retirement date if --

(A) Bonds are subject to mandatory early redemption or are to be retired before the final maturity date pursuant to a binding obligation that exists on the computation date; or

(B) Bonds are to be retired before the final maturity date with proceeds of a refunding issue issued on or before the computation date.

(ii) OPTIONAL RETIREMENTS. Except as otherwise provided in paragraph (c)(3)(i) of this section, by assuming that bonds are retired on the final maturity date for the stated retirement price on such date.

(4) SPECIAL RULE REGARDING FREQUENCY OF YIELD COMPUTATIONS ON FIXED YIELD ISSUES -- (i) GENERALLY NO YIELD RECOMPUTATION. In general, no event occurring subsequent to the date of issue of a fixed yield issue (without regard to paragraph (b)(1)(ii) of this section) is taken into account in computing the yield on a fixed yield issue. Except for any yield adjustment to account for an event described in paragraph (c)(4)(ii) or (c)(4)(iii) of this section, the yield on a fixed yield issue is the yield on the issue determined by treating the date of issue (or for an issue treated as a fixed yield issue under section 1.148-3(b)(3)(ii), the computation date on which it was first treated as a fixed yield issue) as the only computation date.

(ii) RECOMPUTATION OF YIELD IN CASE OF FAILURE TO SPEND PROCEEDS. The yield on a fixed yield issue is adjusted to take into account the retirement of any bonds that are part of the issue (whether by redemption, purchase, or otherwise) prior to their final maturity date or scheduled early retirement date with original proceeds of the issue if the cumulative aggregate amount of original proceeds used for this purpose exceeds 25 percent of the original proceeds of the issue.

(iii) RECOMPUTATION OF YIELD IN CASE OF CERTAIN EARLY REDEMPTIONS. The yield on a fixed yield issue is adjusted to take into account the following events:

(A) The retirement (other than with original proceeds of the issue) of any bond that is part of the issue (whether by redemption, purchase, or otherwise) prior to its final maturity date or scheduled early retirement date and prior to the date that is 5 years from the date that the issue is first treated as a fixed yield issue; or

(B) The expected retirement of any bond that is part of the issue (whether by redemption, purchase, or otherwise) prior to its final maturity date or scheduled early retirement date if prior to the date that is 5 years after the date that the issue is first treated as a fixed yield issue, cash or nonpurpose investments (other than original proceeds of the issue) have been deposited into a fund that is reasonably expected to be used for that early retirement, or the issuer has contractually obligated itself to carry out that early retirement, regardless of whether that early retirement actually occurs.

For purposes of this paragraph (c)(4), amounts derived by an issuer from a purpose investment are not treated as original proceeds of an issue, unless such amounts are derived from amounts originally lent or otherwise advanced by the issuer to the conduit obligor under the purpose investment or earnings thereon that have not been expended by the conduit obligor for the governmental purpose of the issue. See paragraph (c)(7) of this section (Examples 1, 2, 3, 6, 8, and 10).

(5) TRANSITION RULE FOR FIXED YIELD ISSUES. Unless the issuer otherwise elects, the yield on an issue shall be the yield on the issue determined by treating the date of issue as the only computation date if --

(i) The issue is a fixed yield issue (without regard to paragraphs (b)(1)(ii) and (b)(3)(ii) of this section);

(ii) The issue is sold on or before May 15, 1989, and issued on or before June 14, 1989;

(iii) At least 25 percent of the net sale proceeds are allocated to expenditures (other than expenditures for the payment of the principal or interest on or the retirement price of any bond) no later than the date that is 3 years after the date of issue (and no later than the final computation date); and

(iv) No hedging transaction to which paragraph (b)(14) of this section applies is entered into with respect to the issue which would increase the rebatable arbitrage if taken into account in computing the yield on the issue.

See paragraph (c)(7) of this section (Examples 3, 6, 8, and 10). See section 1.148-8(d)(6) for expenditure of net sale proceeds.

(6) SPECIAL RULES FOR TRANSITIONED VARIABLE YIELD BONDS. For purposes of this paragraph (c) --

(i) ISSUE PAYMENTS PAID. The provisions of paragraph (d)(2) of this section shall apply in determining the issue payments paid as of any computation date in connection with the variable yield bonds that are part of a fixed yield issue. For purposes of applying such provisions, the yield period for the issue shall begin on the date of issue and end on the final computation date.

(ii) ISSUE PAYMENTS TO BE PAID. The issue payments to be paid as of any installment computation date in connection with the variable yield bonds that are part of a fixed yield issue shall be determined by assuming that market interest rates in effect on the computation date do not later change, and that no discretionary action is taken after the computation date to affect the interest rate on (or any other term of) the bonds.

(iii) TENDER BOND REMARKETING. The provisions of paragraph (d)(2)(ii)(A) of this section shall apply in determining the issue price to be taken into account under paragraph (c)(1)(ii) of this section when a tender bond is remarketed.

See paragraph (c)(7) of this section (Example 11).

(7) EXAMPLES. The following examples illustrate the application of this paragraph (c):

EXAMPLE 1. (i) On March 1, 1988, City A issues an issue consisting of identical fixed yield bonds. The final maturity date of each bond is July 1, 1998. Interest is payable on July 1 of each year at a rate of 10 percent per annum on the outstanding principal amount. The aggregate principal amount of the bonds is $20 million. The aggregate issue price of the bonds (determined under section 1.148-8(c)) is $21,333,333.33 (including $1,333,333.33 for accrued interest from July 1, 1987 to March 1, 1988). The bonds are subject to optional redemption on July 1, 1994 at 103 percent of par plus accrued interest, and on July 1 of any year thereafter at par plus accrued interest. The issuer elected under paragraph (c)(5) of this section not to apply the transition rule for fixed yield issues. All of the proceeds of the bonds are spent within three years.

(ii) (A) All the bonds are outstanding on the first installment computation date (7/01/92). The yield on the issue as of the first installment computation date is 9.983 percent per annum compounded annually, computed as follows:

 Date            Issue Payments        PV (9.9830505029%)

 

 ____            ______________        __________________

 

 7/01/88         $ 2,000,000.00         $ 1,937,558.13

 

 7/01/89           2,000,000.00           1,761,687.94

 

 7/01/90           2,000,000.00           1,601,781.30

 

 7/01/91           2,000,000.00           1,456,389.23

 

 7/01/92           2,000,000.00           1,324,194.25

 

 7/01/93           2,000,000.00           1,203,998.47

 

 7/01/94           2,000,000.00           1,094,712.75

 

 7/01/95           2,000,000.00             995,346.78

 

 7/01/96           2,000,000.00             905,000.15

 

 7/01/97           2,000,000.00             822,854.20

 

 7/01/98          22,000,000.00           8,229,810.13

 

 _______________

 

 PV Issue Prices (3/01/88)             $ 21,333,333.33

 

 

See paragraph (c)(2)(i), (c)(2)(iv), and (c)(3)(ii) of this section.

(B) The bonds are not yield-to-call bonds because the yield-to-maturity on the bonds (9.983%, the same as the yield on the issue to maturity computed above) is not more than one fourth of one percent higher than the lowest yield on the bonds (9.979%), and because the issue price of the bonds is not higher than the stated redemption price at maturity. See paragraphs (b)(4)(ii)(A), (b)(4)(iii)(B), (b)(5)(ii), and (b)(5)(iii) of this section.

(iii) All the bonds are redeemed on July 1, 1995, at par plus accrued interest ($22 million). Because all bond proceeds were expended and the redemption of the bonds took place after the first installment computation date, no recomputation of the yield is required, and the yield on the bonds is 9.983 percent. see paragraph (c)(4)(i) of this section.

EXAMPLE 2. The facts are the same as in Example 1, except that all the bonds are retired on September 15, 1991, for $17.5 million. Since the bonds are retired other than pursuant to their terms, the aggregate early retirement value of the bonds on September 15, 1991, is the issue price of the bonds, plus any accrued original issue discount. See paragraph (b)(7)(iv)(A) of this section. The aggregate early retirement value of the bonds is par plus accrued interest ($20,411,111.11). The yield on the issue as of the final computation date (9/15/91) is 9.982 percent per annum compounded annually, computed as follows:

 Date            Issue Payments     PV (9.98208583 percent)

 

 ____            ______________     _______________________

 

 07/01/88        $ 2,000,000.00         $ 1,937,563.80

 

 07/01/89          2,000,000.00           1,761,708.54

 

 07/01/90          2,000,000.00           1,601,814.08

 

 07/01/91          2,000,000.00           1,456,431.81

 

 09/15/91         20,411,111.11          14,575,815.10

 

 ______________

 

 $21,333,333.33

 

 

See paragraph (c)(2)(i) and (c)(2)(iii) of this section.

EXAMPLE 3. The facts are the same as in Examples 1 and 2, except that the transition rule for fixed yield issues applies. The yield on the issue for purposes of computing the rebatable arbitrage as of each computation date is the yield on the issue determined by treating the date of issue as the only computation date. See paragraph (c)(5) of this section. This yield (9.983%) is the same as the yield computed as of the first installment computation date in Example 1 (ii) when all the bonds were outstanding.

EXAMPLE 4. (i) On July 1, 1988, City A issues an issue consisting of two fixed yield bonds. The final maturity dates of the bonds are July 1, 2003 (the "2003 bond") and July 1, 2008 (the "2008 bond"). Interest on the 2003 bond is payable on July 1 of each year at a rate of 8 percent per annum on the outstanding principal amount. The principal amount of the 2003 bond is $10 million. The issue price of the 2003 bond is $11 million (including $1 million issue premium). The 2003 bond is subject to optional redemption on or after July 1, 1998 at par ($10 million) plus accrued interest. Interest on the 2008 bond is payable on July 1 of each year at a rate of 10 percent per annum on the outstanding principal amount. The principal amount and issue price of the 2008 bond are $10 million. The 2008 bond is subject to optional redemption on or after July 1, 1998 at 103 percent of par ($10.3 million) plus accrued interest. The issuer elected under paragraph (c)(5) of this section not to apply the transition rule for fixed yield issues.

(ii) (A) The 2003 bond is a yield-to-call bond, because the yield-to-maturity (6.908%) is more than one fourth of one percent higher than the lowest yield (6.602%). See paragraph (b)(4)(ii)(A) of this section. The yield-to-maturity and lowest yield are computed as follows:

(B) Table 1.

 Date                Payment           PV (6.9083976673%)

 

 ____                _______           __________________

 

 7/01/89         $   800,000.00          $  748,304.17

 

 7/01/90             800,000.00             699,948.92

 

 7/01/91             800,000.00             654,718.37

 

 7/01/92             800,000.00             612,410.61

 

 7/01/93             800,000.00             572,836.77

 

 7/01/94             800,000.00             535,820.18

 

 7/01/95             800,000.00             501,195.59

 

 7/01/96             800,000.00             468,808.44

 

 7/01/97             800,000.00             438,514.14

 

 7/01/98             800,000.00              10,177.45

 

 7/01/99             800,000.00             383,671.87

 

 7/01/00             800,000.00             358,879.08

 

 7/01/01             800,000.00             335,688.39

 

 7/01/02             800,000.00             313,996.28

 

 7/01/03          10,800,000.00           3,965,029.74

 

                                         ______________

 

 Issue Price                            $11,000,000.00

 

 (C) Table 2.

 

 Date                Payments          PV (6.6022869808%)

 

 ____                ________          __________________

 

 7/01/89         $   800,000.00          $  750,452.94

 

 7/01/90             800,000.00             703,974.52

 

 7/01/91             800,000.00             660,374.69

 

 7/01/92             800,000.00             619,475.16

 

 7/01/93             800,000.00             581,108.70

 

 7/01/94             800,000.00             545,118.42

 

 7/01/95             800,000.00             511,357.15

 

 7/01/96             800,000.00             479,686.85

 

 7/01/97             800,000.00             449,978.01

 

 7/01/98         $10,800,000.00           5,698,473.55

 

                                         ______________

 

 Issue Price                            $11,000,000.00

 

 

See paragraphs (b)(5)(ii) and (b)(5)(iii) of this section.

(D) The 2003 bond is treated as if the lowest yield date (7/01/98) were the final maturity date, the stated retirement price on such date ($10.8 million) were the stated retirement price on the final maturity date, and the yield-to-maturity were the lowest yield (6.602%). See paragraph (b)(4)(i) of this section.

(iii) Both bonds are outstanding on the first installment computation date (7/01/93). The yield on the issue as of the first installment computation date is 8.554 percent per annum compounded annually, computed as follows:

 Date            Issue Payments        PV (8.5542432566%)

 

 ____            ______________        __________________

 

 7/01/89          $1,800,000.00          $1,658,157.20

 

 7/01/90           1,800,000.00           1,527,491.83

 

 7/01/91           1,800,000.00           1,407,123.10

 

 7/01/92           1,800,000.00           1,296,239.61

 

 7/01/93           1,800,000.00           1,194,093.91

 

 7/01/94           1,800,000.00           1,099,997.45

 

 7/01/95           1,800,000.00           1,013,315.94

 

 7/01/96           1,800,000.00             933,465.07

 

 7/01/97           1,800,000.00             859,906.57

 

 7/01/98           1,800,000.00           5,192,947.90

 

 7/01/99          11,800,000.00             405,401.32

 

 7/01/00           1,000,000.00             373,455.06

 

 7/01/01           1,000,000.00             344,026.22

 

 7/01/02           1,000,000.00             316,916.42

 

 7/01/03           1,000,000.00             291,942.91

 

 7/01/04           1,000,000.00             268,937.36

 

 7/01/05           1,000,000.00             247,744.68

 

 7/01/06           1,000,000.00             228,222.01

 

 7/01/07           1,000,000.00             210,237.76

 

 7/01/08          11,000,000.00           2,130,377.67

 

 ______________

 

 PV Issue Prices (7/01/88)              $21,000,000.00

 

 

See paragraphs (b)(4)(i), (c)(2)(i), (c)(2)(iv), and (c)(3)(ii) of this section.

EXAMPLE 5. The facts are the same as in Example 4, except that the 2003 bond is retired from monies other than bond proceeds on July 1, 2000, and the 2008 bond is retired from monies other than bond proceeds on July 1, 2001. Even though the 2003 bond is outstanding after the lowest yield date (7/01/98), the 2003 bond nonetheless is treated as if it were retired for $10.8 million on July 1, 1998 (the stated retirement price on such date). See paragraph (b)(4)(i) of this section. No adjustment to the yield on the issue is made to reflect the fact that the 2003 bond remained outstanding beyond the lowest yield date. Since the retirement of the 2003 and 2008 bonds occurred after the first installment computation date, the yield on the issue remains 8.554 percent per annum, compounded annually. See paragraph (c)(4) of this section.

EXAMPLE 6. The facts are the same as in Examples 4 and 5, except that the transition rule for fixed yield issues applies. The yield on the issue for purposes of computing the rebatable arbitrage as of each computation date is the yield on the issue determined by treating the date of issue as the only computation date. See paragraph (c)(5) of this section. This yield (8.554%) is the same as the yield computed as of the first installment computation date in Example 4 (iii) when all the bonds were outstanding.

EXAMPLE 7. (i) On July 1, 1988, City B issues an issue consisting of five fixed yield bonds. The final maturity date of each bond is July 1, 1998. Interest on the bonds is payable on July 1 of each year at a rate of 7 percent per annum on the outstanding principal amount. The principal amount of each bond is $5 million. The issue price of each bond is 99.5 percent of par ($4.975 million). The bonds are subject to mandatory sinking fund redemption on July 1 of each year beginning July 1, 1994. On each sinking fund redemption date, one of the bonds is chosen by lottery and is required to be redeemed at par plus accrued interest ($5.35 million). The issuer elected under paragraph (c)(5) of this section not to apply the transition rule for fixed yield issues.

(ii)(A) All the bonds are outstanding on the first installment computation date (7/01/93). The bonds are assumed to be retired on each scheduled mandatory early redemption date for purposes of determining the issue payments to be paid after the first installment computation date. See paragraph (c)(3)(i)(A) of this section. The issue payment taken into account on each mandatory early redemption date is the early retirement value of a bond on such date. See paragraph (c)(2)(iii) of this section. The early retirement value of a bond assumed to be retired on each mandatory early redemption date is the present value of the bond on such date. See paragraph (b)(7)(i) of this section. This present value is computed by treating the scheduled early retirement date (in satisfaction of which the bond is to be retired) and the stated retirement price on such date as the final maturity date and stated retirement price of the bond on the final maturity date. See paragraph (b)(8)(ii)(B)(3) of this section. The present value of each bond on the assumed retirement date (determined in this manner) is equal to the stated retirement price of the bond on the assumed retirement date ($5.35 million). Accordingly, the yield on the issue as of the first installment computation date (7/01/93) is 7.085 percent per annum compounded annually, computed as follows:

 Date            Issue Payments        PV (7.0845525262%)

 

 ____            ______________        __________________

 

 7/01/89          $1,750,000.00         $ 1,634,222.64

 

 7/01/90           1,750,000.00           1,526,104.93

 

 7/01/91           1,750,000.00           1,425,140.13

 

 7/01/92           1,750,000.00           1,330,855.01

 

 7/01/93           1,750,000.00           1,242,807.65

 

 7/01/94           6,750,000.00           4,476,543.57

 

 7/01/95           6,400,000.00           3,963,621.64

 

 7/01/96           6,050,000.00           3,498,974.40

 

 7/01/97           5,700,000.00           3,078,459.32

 

 7/01/98           5,350,000.00           2,698,270.71

 

 ______________

 

 PV Issue Prices (7/01/88)              $24,875,000.00

 

 

See paragraphs (c)(2)(i), (c)(2)(iii), (c)(2)(iv), (c)(3)(i)(A), and (c)(3)(ii) of this section.

(B) The special rule in paragraph (b)(7)(iii)(A) of this section for determining the early retirement value of certain discount bonds does not apply, because the yield-to-maturity is not more than one fourth of one percent lower than the composite yield-to-maturity. See paragraph (iii) of this example.

(iii) The special rule in paragraph (b)(7)(iii)(A) of this section for determining the early retirement value of certain discount bonds did not apply to the bonds, because the yield-to- maturity on the bonds is not more than one fourth of one percent lower than the composite yield-to-maturity determined as provided in paragraph (b)(8)(ii)(B) of this section (7.085%), and because the bond qualifies under the exception provided in paragraph (b)(7)(iii)(C) of this section. The yield-to-maturity on the bonds is 7.071 percent per annum compounded annually, computed as follows:

 Dates               Payments          PV (7.0714239676%)

 

 _____               ________          __________________

 

 7/01/89          $  350,000.00          $  326,884.60

 

 7/01/90             350,000.00             305,295.84

 

 7/01/91             350,000.00             285,132.89

 

 7/01/92             350,000.00             266,301.57

 

 7/01/93             350,000.00             248,713.95

 

 7/01/94             350,000.00             232,287.89

 

 7/01/95             350,000.00             216,946.67

 

 7/01/96             350,000.00             202,618.65

 

 7/01/97             350,000.00             189,236.91

 

 7/01/98           5,350,000.00           2,701,581.02

 

 _____________

 

 Issue Price                             $4,975,000.00

 

 

See paragraph (b)(5)(ii) of this section.

EXAMPLE 8. The facts are the same as in Example 7, except that the transition rule for fixed yield issues applies. The yield on the issue for purposes of computing the rebatable arbitrage as of each computation date is the yield on the issue determined by treating the date of issue as the only computation date. See paragraph (c)(5) of this section. This yield (7.085%) is the same as the yield computed as of the first installment computation date in Example 7 (ii) when all the bonds were outstanding.

EXAMPLE 9. (i) The facts are the same as in Example 7, except that the issue price of each bond is 80 percent of par ($4 million).

(ii)(A) The special rule in paragraph (b)(7)(iii)(A) of this section for determining the early retirement value of the bonds applies to the bonds, because the yield-to-maturity on the bonds is more than one fourth of one percent lower than the composite yield-to-maturity determined as provided in paragraph (b)(8)(ii)(B) of this section, and because the bonds do not meet the provisions in paragraph (b)(4)(iii) of this section. The yield-to-maturity and composite yield-to-maturity are 10.296 percent and 10.906 percent per annum compounded annually, computed as follows:

(B) Table 1.

 Date                Payments          PV (10.2964780071%)

 

 ____                ________          ___________________

 

 7/01/89          $  350,000.00          $  317,326.54

 

 7/01/90             350,000.00             287,703.24

 

 7/01/91             350,000.00             260,845.36

 

 7/01/92             350,000.00             236,494.73

 

 7/01/93             350,000.00             214,417.30

 

 7/01/94             350,000.00             194,400.86

 

 7/01/95             350,000.00             176,253.01

 

 7/01/96             350,000.00             159,799.31

 

 7/01/97             350,000.00             144,881.60

 

 7/01/98           5,350,000.00           2,007,878.06

 

 _____________

 

 Issue Price                             $4,000,000.00

 

 See paragraph (b)(5)(ii) of this section.

 

 (C) Table 2.

 

 Date         Payments            PV (10.9059654240%)

 

 ________            ___________________

 

 7/01/89     $1,750,000.00             $ 1,577,913.32

 

 7/01/90      1,750,000.00               1,422,748.82

 

 7/01/91      1,750,000.00               1,282,842.47

 

 7/01/92      1,750,000.00               1,156,693.84

 

 7/01/93      1,750,000.00               1,042,950.06

 

 7/01/94      6,750,000.00               3,627,223.64

 

 7/01/95      6,400,000.00               3,100,956.17

 

 7/01/96      6,050,000.00               2,643,115.38

 

 7/01/97      5,700,000.00               2,245,332.67

 

 7/01/98      5,350,000.00               1,900,223.63

 

 ______________

 

 Issue Prices (7/01/88)                $20,000,000.00

 

 

See paragraph (b)(8)(ii)(B) of this section.

(iii)(A) The yield on the issue as of the first installment computation date is determined by assuming the bonds are retired on the scheduled early retirement dates for the early retirement value of the bonds on such dates. See paragraph (c)(2)(iii) and (c)(3)(i)(A) of this section. The early retirement value is equal to the present value of the bonds, determined by using a discount rate equal to the yield-to-maturity on the bonds (10.296%). See paragraphs (b)(7)(i) and (b)(8)(ii)(A) of this section. The present value of a bond on each mandatory early redemption date is computed as follows:

 (B) Table 1.

 

 Date           Payments            PV (10.296%)

 

 ____           ________            ____________

 

 7/01/94     $ 350,000.00           $350,000.00

 

 7/01/95       350,000.00            317,327.92

 

 7/01/96       350,000.00            287,705.74

 

 7/01/97       350,000.00            260,848.75

 

 7/01/98     5,350,000.00          3,615,053.52

 

 _____________

 

 PV (7/01/94)                     $4,830,935.92

 

 (C) Table 2.

 

 Date           Payments            PV (10.296%)

 

 ____           ________            ____________

 

 7/01/95     $ 350,000.00           $350,000.00

 

 7/01/96       350,000.00            317,327.92

 

 7/01/97       350,000.00            287,705.74

 

 7/01/98     5,350,000.00          3,987,259.43

 

 _____________

 

 PV (7/01/95)                     $4,942,293.09

 

 (D) Table 3.

 

 Date           Payments            PV (10.296%)

 

 ____           ________            ____________

 

 7/01/96     $ 350,000.00           $ 350,000.00

 

 7/01/97       350,000.00             317,327.92

 

 7/01/98     5,350,000.00           4,397,787.67

 

 _____________

 

 PV (7/01/96)                      $5,065,115.58

 

 (E) Table 4.

 

 Date           Payments            PV (10.296%)

 

 ____           ________            ____________

 

 7/01/97      $ 350,000.00          $ 350,000.00

 

 7/01/98      5,350,000.00          4,850,583.88

 

 _____________

 

 PV (7/01/97)                      $5,200,583.88

 

 

(F) The yield on the issue as of the first installment computation date (7/01/93) is 10.297 percent per annum compounded annually, computed as follows:

 Date           Issue Payments           PV (10.2965625327%)

 

 ____           ______________           ___________________

 

 7/01/89        $1,750,000.00               $ 1,586,631.50

 

 7/01/90         1,750,000.00                 1,438,514.00

 

 7/01/91         1,750,000.00                 1,304,223.78

 

 7/01/92         1,750,000.00                 1,182,470.02

 

 7/01/93         1,750,000.00                 1,072,082.39

 

 7/01/94         6,230,935.92                 3,460,839.19

 

 7/01/95         5,992,293.09                 3,017,582.86

 

 7/01/96         5,765,115.58                 2,632,159.47

 

 7/01/97         5,550,583.88                 2,297,634.12

 

 7/01/98         5,350,000.00                 2,007,862.67

 

 ______________

 

 Issue Prices (7/01/88)                     $20,000,000.00

 

 

See paragraph (c)(2)(i), (c)(2)(iii), (c)(2)(iv), and (c)(3)(ii) of this section.

(G) The issue payment taken into account on each mandatory early redemption date includes the early retirement value of the bond assumed to be retired on that date and interest on any other bond still outstanding on that date. The discrepancy between this yield (10.297%) and the yield-to-maturity on the bonds (10.296%) is due solely to rounding of the discount rate used in computing the present values of the bonds.

EXAMPLE 10. The facts are the same as in EXAMPLES 7, 8, and 9, except that the bonds are subject to mandatory early redemption at par plus accrued interest ($5.35 million) on July 1 of each year beginning July 1, 1994 only to the extent there are excess revenues available for such purpose in a special redemption fund established under the indenture securing the bonds. On the date of issue and the first installment computation date, the issuer is reasonably certain that the excess revenues will be sufficient to redeem one bond on each July 1 beginning July 1, 1994. The results are the sane as in EXAMPLES 7, 8, and 9. See paragraph (b)(8)(ii)(B) of this section (last sentence) and section 1.148-8(b)(4).

EXAMPLE 11. (i) The facts are the same as in EXAMPLE 4 in paragraph (d)(4) of this section, except that the issuer of the tender bonds elected to treat the variable yield issue as a fixed yield issue. See paragraph (b)(1)(ii) of this section.

(ii)(A) The yield on the issue as of the first installment computation date (9/01/93) is 6.518 percent per annum compounded semiannually, computed as follows:

 Date      Debt Service        Guarantee      PV (6.5181030537%)

 

 ____      ____________        _________      __________________

 

 9/01/88                     $175,000.00           $175,000.00

 

 9/01/89  $1,393,750.00       140,000.00          1,438,461.73

 

 9/01/90   1,393,750.00       140,000.00          1,349,093.50

 

 9/01/91   1,393,750.00       140,000.00          1,265,277.50

 

 9/01/92   1,651,250.00       140,000.00          1,385,897.63

 

 9/01/93   1,651,250.00       140,000.00          1,299,795.08

 

 9/01/94   1,522,500.00       140,000.00          1,131,420.58

 

 9/01/95   1,522,500.00       140,000.00          1,061,128.09

 

 9/01/96   1,522,500.00       140,000.00            995,202.71

 

 9/01/97   1,522,500.00       140,000.00            933,373.11

 

 9/01/98  26,522,500.00                          13,965,350.07

 

                                                 ______________

 

 PV Issue Prices (9/01/88)                      $25,000,000.00

 

 

See paragraphs (c)(3)(ii), (c)(6), (d)(2)(i)(A), (d)(2)(i)(B), and (d)(2)(i)(E) of this section.

(B) The interest rate on the tender bonds after the first installment computation date (9/01/93) is assumed to be 6 percent per annum (the same as the interest rate on the bonds for the period beginning on that date). See paragraph (c)(6)(ii) of this section. All payments for the qualified guarantee are treated as paid when paid (but not earlier than when actually due). See paragraph (b)(13)(ii)(A) of this section.

(iii)(A) All the bonds are redeemed on September 1, 1995 at par ($25 million) plus accrued interest ($1,651,250). The yield on the issue as of the final computation date is 6.614 percent per annum compounded semiannually, computed as follows:

 Date      Debt Service        Guarantee      PV (6.6135975396%)

 

 ____      ____________        __________     __________________

 

 9/01/88                      $144,579.16          $144,579.16

 

 9/01/89  $1,393,750.00        144,579.16         1,441,423.06

 

 9/01/90   1,393,750.00        144,579.16         1,350,621.49

 

 9/01/91   1,393,750.00        144,579.16         1,265,539.92

 

 9/01/92   1,651,250.00        144,579.16         1,384,311.37

 

 9/01/93   1,651,250.00        144,579.16         1,297,107.53

 

 9/01/94   1,651,250.00        144,579.16         1,215,397.03

 

 9/01/95  26,651,250.00                          16,901,020.44

 

 ______________

 

 PV Issue Prices (9/01/88)                      $25,000,000.00

 

 

See paragraphs (c)(6), (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(D) and (b)(7)(ii) of this section.

(B) The initial fee for the guarantee is a nonlevel payment and is treated as paid on the first day of each bond year in amounts equal to the constant payment amount ($4,579.16). See paragraph (b)(13)(ii)(B) of this section and paragraph (d)(4) of this section (EXAMPLE 4).

(d) COMPUTATION OF YIELD ON VARIABLE YIELD ISSUE -- (1) GENERAL RULE. The yield on a variable yield issue during any yield period is the discount rate that produces the same present value when used in computing.

(i) ISSUE PAYMENTS. The present value of all the issue payments in connection with the bonds that are part of the variable yield issue that are attributable to the yield period; and

(ii) ISSUE PRICES. The present value of all the issue prices of the bonds issued as part of the variable yield issue during the yield period.

Present value is computed as of the first day of the yield period. See section 1.148-8(b)(5) for formula for determining present value. See paragraph (d)(2) of this section for rules for variable yield bonds. See paragraph (d)(3) of this section for rules for fixed yield bonds. See paragraph (b) of this section for definitions and special rules.

(2) VARIABLE YIELD BONDS -- (i) ISSUE PAYMENTS. For purposes of paragraph (d)(1)(i) of this section, the issue payments in connection with a variable yield bond that are attributable to a yield period are --

(A) INTEREST. Any amounts paid during the yield period to discharge interest that accrued on the bond during the yield period;

(B) QUALIFIED GUARANTEE. Any amounts paid during the yield period for a qualified guarantee with respect to the bond;

(C) TENDER PRICE. If the bond is a tender bond and is purchased pursuant to the tender right during the yield period, the amount paid pursuant to the tender right to purchase the bond;

(D) EARLY RETIREMENT. If the bond is retired before the final maturity date and during the yield period, an amount equal to the early retirement value of the bond on the retirement date;

(E) RETIREMENT PRICE. If the bond is retired on the final maturity date and during the yield period, an amount equal to the retirement price of the bond (not including any payment of interest taken into account under paragraph (d)(2)(i)(A) or (d)(2)(i)(C) of this section); and

(F) END-OF-PERIOD (AND CONVERSION) VALUE. If the bond is outstanding at the close of business on the last day of the yield period or is treated under paragraph (b)(3)(i) of this section as a fixed yield bond immediately after the close of business on a day (and is not a tender bond that is purchased pursuant to the tender right on such day) --

(1) An amount equal to the early retirement value of the bond at such time; and

(2) An amount equal to any unpaid interest at such time that accrued on the bond during the yield period (taken into account as of the next regular interest payment date when such amount is scheduled to be paid).

(ii) ISSUE PRICES. For purposes of paragraph (d)(1)(ii) of this section --

(A) TENDER BOND REMARKETING. A tender bond to which paragraph (d)(2)(i)(C) of this section applied on a day shall be treated as if issued immediately after the close of business on the day the bond is remarketed for an issue price equal to the issue price of the bond (determined under section 1.148-8(c)); and

(B) START-OF-PERIOD (AND CONVERSION) VALUE. A bond to which paragraph (d)(2)(i)(F) of this section applied on a day shall be treated as if issued immediately after the close of business on such day for an issue price equal to the early retirement value of the bond taken into account on such day under paragraph (d)(2)(i)(F)(1) of this section.

(3) FIXED YIELD BONDS -- (i) ISSUE PAYMENTS. For purposes of paragraph (d)(1)(i) of this section, the issue payments in connection with a fixed yield bond that are attributable to a yield period are --

(A) PRINCIPAL AND INTEREST. Any amounts paid during the yield period to discharge principal or interest on the bond;

(B) QUALIFIED GUARANTEE. Any amounts paid during the yield period for a qualified guarantee with respect to the bond;

(C) EARLY RETIREMENT VALUE. If the bond is retired before the final maturity date and during the yield period, an amount equal to the early retirement value of the bond on the retirement date;

(D) RETIREMENT PRICE. If the bond is retired on the final maturity date and during the yield period, an amount equal to the retirement price of the bond; and

(E) END-OF-PERIOD VALUE. If the bond is outstanding at the close of business on the last day of the yield period, the early retirement value of the bond on such day. The amount taken into account under paragraphs (d)(3)(i)(C), (d)(3)(i)(D), and (d)(3)(i)(E) on a date shall not include any amount taken into account under paragraph (d)(3)(i)(A) or (d)(3)(i)(B) on such date.

(ii) ISSUE PRICES. For purposes of paragraph (d)(1)(ii) of this section, a bond to which paragraph (d)(3)(i)(E) of this section applied on the last day of a yield period shall be treated as if issued on the first day of the next succeeding yield period for an issue price equal to the amount taken into account with respect to the bond on such last day under paragraph (d)(3)(i)(E) of this section.

(4) EXAMPLES. The following examples illustrate the application of this paragraph (d):

EXAMPLE 1. (i) On December 1, 1988, County C issues an issue consisting of identical current index bonds. The aggregate principal amount and issue price of the bonds (determined under section 1.148-8(c)) is $10 million. The final maturity date of each bond is December 1, 1995. The bonds are not subject to redemption or purchase before maturity. Interest on the bonds is payable on December 1 of each year. The interest rate on the bonds for each 1-year period beginning December 1 is 85 percent of the prime rate of Bank B as of such December 1. The prime rate of Bank B as of the date of issue is 7 percent per annum. Therefore, the assumed interest rate for purposes of computing the yield on and present value of the bonds is 5.95 percent (85% of 7%). See paragraph (b)(9)(ii) of this section. The prime rate of Bank B as of each December 1 beginning December 1, 1989 is 6 percent per annum. Therefore, the actual rate of interest on the bonds after the first 1-year period is 5.1 percent for each year. All the bonds are outstanding at the end of the first yield period (12/01/93).

(ii)(A) The yield-to-maturity on the bonds is 5.950 percent per annum compounded annually, computed as follows:

 Date           Issue Payments           PV (5.9500000000%)

 

 ____           _______________          ___________________

 

 12/01/89        $ 595,000.00                $561,585.65

 

 12/01/90          595,000.00                 530,047.81

 

 12/01/91          595,000.00                 500,281.08

 

 12/01/92          595,000.00                 472,186.02

 

 12/01/93          595,000.00                 445,668.73

 

 12/01/94          595,000.00                 420,640.61

 

 12/01/95       10,595,000.00               7,069,590.10

 

 ______________

 

 PV Issue Prices (12/01/88 )              $10,000,000.00

 

 

See paragraph (b)(5)(ii), (b)(9)(i), and (b)(9)(ii) of this section.

(B) The aggregate present value of the bonds on the last day of the first yield period (12/01/93) determined by using the exact method is $10,000,000, computed as follows:

 Date           Payments            PV (5.950%)

 

 ____           ________            ___________

 

 12/01/94     $ 595,000.00          $ 561,585.65

 

 12/01/95    10,595,000.00          9,438,414.35

 

 ______________

 

 PV (12/01/93)                    $10,000,000.00

 

 

See paragraph (b)(8)(i) and (b)(9) of this section.

(C) The present value on December 1, 1993 is determined without regard to interest at the assumed rate that accrued on or before that date and is payable on or after that date (i.e., without regard to the $595,000 payable on 12/01/93). See paragraph (b)(9)(iv) of this section. The present value would be the same if the issuer used the approximate method to determine the present value. See paragraph (b)(8)(iii) of this section. The aggregate early retirement value of the bonds on the last day of the first yield period is the aggregate present value of the bonds. See paragraph (b)(7)(i) of this section.

(iii) The aggregate early retirement value of the bonds on the last day of the first yield period ($10 million) and the actual interest paid on that date ($510,000) are taken into account as issue payments on that date for purposes of computing the yield on the issue during the first yield period (the period ending 12/01/93). See paragraphs (d)(2)(i)(A) and (d)(2)(i)(F)(1) of this section. The yield on the issue during the first yield period is 5.288 percent per annum compounded annually, computed as follows:

 Date           Payments            PV (5.2879549712%)

 

 ____           ________            __________________

 

 12/01/89     $ 595,000.00              $565,116.87

 

 12/01/90       510,000.00               460,058.22

 

 12/01/91       510,000.00               436,952.38

 

 12/01/92       510,000.00               415,006.99

 

 12/01/93    10,510,000.00             8,122,865.54

 

 ______________

 

 PV Issue prices (12/01/88)          $10,000,000.00

 

 

(iv) Assume all the bonds are retired on December 1, 1994 for 99.9 percent of par ($9.99 million) plus accrued interest ($510,000). For purposes of computing the yield on the issue during the second yield period (the period ending 12/01/94), the aggregate issue price of the bonds taken into account on the first day of the second yield period is the same as the early retirement value of the bonds taken into account on the last day of the first yield period ($10 million). See paragraph (d)(2)(ii)(B) of this section. The issue payments taken into account on the early retirement date (12/01/94) are the accrued interest paid on that date ($510,000) and the aggregate early retirement value of the bonds on that date. See paragraphs (d)(2)(i)(A) and (d)(2)(i)(D) of this section. The aggregate early retirement value of the bonds on the early retirement date is the present value of the bonds on that date, which is $10 million (determined by using the exact or the approximate method). See paragraphs (b)(7)(i), (b)(8)(i), (b)(8)(iii), and (b)(9) of this section. The yield on the issue during the second yield period is 5.100 percent per annum compounded annually, computed as follows:

 Date           Issue Payment            PV (5.1000000000%)

 

 ____           ______________           __________________

 

 12/01/94       $10,510,000.00             $10,000,000.00

 

 ______________

 

 PV Issue Prices (12/01/93)                $10,000,000.00

 

 

EXAMPLE 2. (i) The facts are the same as in Example 1, except that the aggregate issue price of the bonds is $10,025,000, and the bonds are subject to optional redemption at par plus accrued interest on or after December 1, 1993.

(ii)(A) The bonds are not yield-to-call bonds, because the yield-to-maturity on the bonds is not more than one sixteenth of one percent higher than the lowest yield. See paragraph (b)(4)(i)(B) of this section. The yield-to-maturity on the bonds is 5.905 percent per annum compounded annually, computed as follows:

 Date                Payments            PV (5.9053667634%)

 

 ____                ________            __________________

 

 12/01/89          $ 595,000.00               $561,822.33

 

 12/01/90            595,000.00                530,494.67

 

 12/01/91            595,000.00                500,913.87

 

 12/01/92            595,000.00                472,982.52

 

 12/01/93            595,000.00                446,608.64

 

 12/01/94            595,000.00                421,705.39

 

 12/01/95         10,595,000.00              7,090,472.57

 

 ______________

 

 PV Issue Prices (12/01/88)                $10,025,000.00

 

 

See paragraphs (b)(5)(ii) and (b)(9) of this section.

(B) The lowest yield on the bonds is 5.891 percent per annum compounded annually, computed as follows:

 Date           Payments            PV (5.8908270554%)

 

 ____           ________            __________________

 

 12/01/89    $ 595,000.00              $ 561,899.47

 

 12/01/90      595,000.00                530,640.37

 

 12/01/91      595,000.00                501,120.24

 

 12/01/92      595,000.00                473,242.35

 

 12/01/93   10,595,000.00              7,958,097.57

 

 ______________

 

 PV Issue Prices (12/01/88)          $10,025,000.00

 

 

See paragraph (b)(5)(iii) and (b)(9) of this section.

(iii)(A) The aggregate present value and early retirement value of the bonds on the last day of the first yield period (12/01/93) is $10,008,261.26, computed as follows:

 Date           Payments                 PV (5.9055)

 

 ____           ________                 ___________

 

 12/01/94     $595,000.00                $561,824.28

 

 12/01/95   10,595,000.00               9,446,436.99

 

 ______________

 

 PV (12/01/93)                        $10,008,261.26

 

 

See paragraphs (b)(7)(i), (b)(8)(i) and (b)(9) of this section.

(B) The yield on the issue during the first yield period (the period ending 12/01/93) is 5.245 percent per annum compounded annually, computed as follows:

 Date           Issue Payments           PV (5.2445513152%)

 

 ____           ______________           __________________

 

 12/01/89       $ 595,000.00                $ 565,349.93

 

 12/01/90         510,000.00                  460,437.76

 

 12/01/91         510,000.00                  437,493.21

 

 12/01/92         510,000.00                  415,692.02

 

 12/01/93     $10,518,261.26                8,146,027.07

 

 ______________

 

 PV Issue Prices (12/01/88)               $10,025,000.00

 

 

See paragraph (d)(2)(i)(A) and (d)(2)(i)(F)(1) of this section.

(iv) Assume that all the bonds remain outstanding to maturity (12/01/95). The aggregate issue price taken into account on the first day of the second yield period is the aggregate early retirement value of the bonds on such date ($10,008,261.26, computed in subdivision (iii) above). See paragraph (d)(2)(ii)(B) of this section. The aggregate issue payments taken into account on the final maturity date are the accrued interest paid on the retirement date ($510,000) and the aggregate retirement price of the bonds less such accrued interest ($10 million). See paragraphs (d)(2)(i)(A) and (d)(2)(i)(E) of this section. The yield on the issue during the second yield period is 5.056 percent per annum compounded annually, computed as follows:

 Date           Issue Payments           PV (5.0555355756%)

 

 ____           ______________           __________________

 

 12/01/94        $ 510,000.00               $ 485,457.52

 

 12/01/95       10,510,000.00               9,522,803.74

 

 ______________

 

 PV Issue Prices (12/01/93)               $10,008,261.26

 

 

EXAMPLE 3. (i) The facts are the same as in Example 2, except that the bonds are subject to optional redemption at par plus accrued interest on December 1, 1990. County C spent all the proceeds of the issue before that date.

(ii)(A) The bonds are yield-to-call bonds, because the yield- to-maturity on the bonds is more than one sixteenth of one percent higher than the lowest yield. See paragraph (b)(4)(ii)(B) of this section. The yield-to-maturity on the bonds is the same as the yield-to-maturity computed in Example 2 (5.905%). The lowest yield on the bonds is 5.814 percent per annum compounded annually, computed as follows:

 Date           Payments            PV (5.8139961083%)

 

 ____           ________            __________________

 

 12/01/89     $ 595,000.00            $ 562,307.47

 

 12/01/90   $10,595,000.00            9,462,692.53

 

 ______________

 

 PV Issue Prices (12/01/88)         $10,025,000.00

 

 

See paragraphs (b)(5)(iii) and (b)(9) of this section.

(B) The bonds are treated as if the final maturity date of the bonds were December 1, 1990 and as if the stated retirement price on the final maturity date were $10.595 million. See paragraph (b)(4)(i) of this section. Since the bonds are not actually retired on or before December 1, 1990, the bonds are treated as if issued on that date for $10 million. See paragraph (b)(4)(i) of this section. The yield-to-maturity on the reissued bond is 5.950 percent per annum compounded annually, computed as follows:

 Date           Payments            PV (5.9500000000%)

 

 ____           ________            __________________

 

 12/01/91     $ 595,000.00             $ 561,585.65

 

 12/01/92       595,000.00               530,047.81

 

 12/01/93       595,000.00               500,281.08

 

 12/01/94       595,000.00               472,186.02

 

 12/01/95    10,595,000.00            7,9335,899.44

 

 _____________

 

 PV Issue Prices (12/01/90)           10,000,000.00

 

 

See paragraph (b)(4)(i), (b)(5)(ii), and (b)(9) of this section.

(C) The early retirement value of the reissued bond on the last day of the first yield period (12/01/93) is $10 million, computed as follows:

 Date                Payments            PV (5.950%)

 

 ____                ________            ___________

 

 12/01/94         $ 595,000.00           $ 561,585.65

 

 12/01/95        10,595,000.00           9,438,414.35

 

 ______________

 

 PV (12/01/93)                         $10,000,000.00

 

 

See paragraph (b)(7)(i) and (b)(9) of this section.

(iii)(A) The yield on the issue during the first yield period is 5.230 percent per annum compounded annually, computed as follows:

 Date           Issue Payments           PV (5.2296467486%)

 

 ____           ______________           __________________

 

 12/01/89       $ 595,000.00                $ 565,430.01

 

 12/01/90      10,510,000.00                9,491,317.27

 

 12/01/90     (10,000,000.00)              (9,030,749.07)

 

 12/01/91         510,000.00                  437,679.13

 

 12/01/92         510,000.00                  415,927.59

 

 12/01/93      10,510,000.00                8,145,395.07

 

 ______________

 

 PV Issue Prices (12/01/88)               $10,025,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(E), and (d)(2)(i)(F)(1) of this section.

(B) The yield on the issue during the second yield period is 5.100 percent per annum compounded annually, computed as follows:

 Date           Issue Payments           PV (5.1000000000%)

 

 ____           ______________           __________________

 

 12/01/94       $ 510,000.00                $ 485,252.14

 

 12/01/95      10,510,000.00                9,514,747.86

 

 ______________

 

 PV Issue Prices (12/01/93)               $10,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(E), and (d)(2)(ii)(B) of this section.

EXAMPLE 4. (i) On September 1, 1988, City A issues an issue consisting of identical tender bonds. The aggregate principal amount and issue price of the bonds (determined under section 1.148-8(c)) is $25 million, and the final maturity date of the bonds is September 1, 1998. Interest on the bonds is payable on September 1 of each year. The bondholders are entitled to tender the bonds at par (plus accrued interest if the tender date is not an interest payment date) to an independent remarketing agent on March 1 and September 1 of each year. On February 20 and August 20 of each year, the remarketing agent determines the lowest interest rate on the bonds that would enable the bonds that will be tendered on the next tender date to be remarketed on such date at par (plus any accrued interest). Under the terms of the bonds, this interest rate will be the interest rate for the next 6-month period beginning on the tender date (unless such rate exceeds 12 percent, which is the maximum interest rate payable on the bonds). Interest is compounded on each tender date. The remarketing agent is required to use best efforts to remarket tendered bonds at par (plus any accrued interest) on each tender date and, if any tendered bonds cannot be remarketed on such date, to continue to use best efforts to remarket the bonds. The tender price of tendered bonds is to be paid with proceeds received from remarketing the bonds. If the remarketing proceeds (and other available funds) are insufficient to make full payment, the remarketing agent is required to draw on an irrevocable letter of credit issued by Bank A to the extent necessary to make full payment. The letter of credit also guarantees regular payments of principal and interest on the bonds. Any bond that cannot be remarketed on a tender date is delivered to Bank A as security for repayment of the letter of credit advance. Advances under the letter of credit bear interest at the maximum interest rate payable on the bonds (compounded semiannually and payable each September 1). Any interest due on the bonds held by Bank A is paid to Bank A and credited against the interest accruing on the letter of credit advance. Bank A is entitled to reimbursement for any advances under the letter of credit and interest thereon from proceeds of any subsequent remarketing of the bonds delivered to Bank A (and from other available funds). The term of the letter of credit ends on the final maturity date of the bonds. The initial fee for providing the letter of credit is $35,000 payable on the date of issue. Annual fees for providing the letter of credit are payable in advance on the date of issue and on each September 1 thereafter in an amount equal to one-half of one percent, of the sum of the outstanding par amount of the bonds on such date and simple interest for one year at the maximum interest rate.

(ii) Assume that the letter of credit is a qualified guarantee, that all bonds tendered on each tender date are remarketed at par (plus any accrued interest) on the same date, and that no draws are made under the letter of credit. Assume further that if all the bonds remain outstanding until maturity, the interest rates and payments for debt service and for the qualified guarantee are as follows:

 Date      Interest Rate       Debt Service        Guarantee

 

 ____      _____________       _____________       __________

 

 9/01/88        5%                                 $175,000.00

 

 3/01/89        6%

 

 9/01/89        5%             $1,393,750.00        140,000.00

 

 3/01/90        6%

 

 9/01/90        5%              1,393,750.00        140,000.00

 

 3/01/91        6%

 

 9/01/91        6%              1,393,750.00        140,000.00

 

 3/01/92        7%

 

 9/01/92        6%              1,651,250.00        140,000.00

 

 3/01/93        7%

 

 9/01/93        6%              1,651,250.00        140,000.00

 

 3/01/94        7%

 

 9/01/94        6%              1,651,250.00        140,000.00

 

 3/01/95        7%

 

 9/01/95        5%              1,651,250.00        140,000.00

 

 3/01/96        6%

 

 9/01/96        6%              1,393,750.00        140,000.00

 

 3/01/97        5%

 

 9/01/97        7%              1,393,750.00        140,000.00

 

 3/01/98        6%

 

 9/01/98                       26,651,250.00

 

 

(iii) The annual letter of credit fees are level payments and are treated as paid when actually paid (but not earlier than when actually due). See paragraphs (b)(13)(ii)(A) and (b)(13)(iii)(A) of this section. The initial fee for the letter of credit ($35,000) is a nonlevel payment and is treated as paid on the first day of each bond year during the term of the letter of credit. See paragraphs (b)(13)(ii)(B) and (b)(13)(iii)(B) of this section. The amount of the initial letter of credit fee treated as paid on each September 1 is the constant payment amount. The aggregate constant payment amount is the present value of the initial fee on September 1, 1988 ($35,000), divided by the sum of the present values on September 1, 1988 of $1 paid on each September 1. For this purpose, the yield on the tender bonds during the first yield period (without regard to the initial fee) is used as the discount rate. See paragraph (b)(13)(iii)(C) of this section.

(iv)(A) Assume all the bonds are outstanding on the last day of the first yield period (9/01/93). For purposes of computing the yield on the issue during the first yield period, the aggregate issue payments taken into account as of the last day of the first yield period are the early retirement value of the bonds ($25 million) and the accrued interest paid on such day ($1,651,250). See paragraphs (d)(2)(i)(A) and (d)(2)(i)(F)(1) of this section. The aggregate early retirement value of the bonds is the outstanding par amount of the bonds. See paragraph (b)(7)(ii) of this section. The yield on the tender bonds during the first yield period (determined without regard to the initial letter of credit fee) is 6.441 percent per annum compounded semiannually, computed as follows:

 Date      Debt Service        Guarantee      PV(6.4412399054%)

 

 ____      ____________        _________      _________________

 

 9/01/88                      $140,000.00        $140,000.00

 

 9/01/89  $1,393,750.00        140,000.00       1,439,533.08

 

 9/01/90   1,393,750.00        140,000.00       1,351,103.82

 

 9/01/91   1,393,750.00        140,000.00       1,268,106.70

 

 9/01/92   1,651,250.00        140,000.00       1,390,031.04

 

 9/01/93  26,651,250.00                        19,411,225.36

 

                                               ______________

 

 PV Issue Prices (9/01/88)                    $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(F)(1), and (b)(13)(ii)(A) of this section.

(B) Since the amounts paid to purchase tendered bonds were exactly offset on the same date by amounts received from remarketing the tendered bonds, both amounts may be disregarded in computing the yield. See paragraphs (d)(2)(i)(C) and (d)(2)(ii)(A) of this section.

(C) The present value of $1 paid on each September 1 is $7.64332, computed as follows:

 Date                Payment             PV (6.441%)

 

 ____                _______             ___________

 

 9/01/88               $1                 $1.00000

 

 9/01/89                1                   .93857

 

 9/01/90                1                   .88092

 

 9/01/91                1                   .82681

 

 9/01/92                1                   .77602

 

 9/01/93                1                   .72835

 

 9/01/94                1                   .68361

 

 9/01/95                1                   .64162

 

 9/01/96                1                   .60221

 

 9/01/97                1                   .56521

 

                                           _______

 

 PV (9/01/88)                             $7.64332

 

 

The aggregate constant payment amount is $4,579.16 ($35,000 divided by $7.64332). See paragraph (b)(13)(iii)(C) of this section.

(D) The yield on the issue during the first yield period is 6.460 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service       Guarantee      PV (6.4601482415%)

 

 ____       ____________       _________      ___________________

 

 9/01/88                      $144,579.16         $144,579.16

 

 9/01/89   $1,393,750.00       144,579.16        1,443,566.50

 

 9/01/90    1,393,750.00       144,579.16        1,354,641.31

 

 9/01/91    1,393,750.00       144,579.16        1,271,194.01

 

 9/01/92    1,651,250.00       144,579.16        1,392,563.81

 

 9/01/93   26,651,250.00                        19,393,455.21

 

                                                ______________

 

 PV Issue Prices (9/01/88)                     $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(F)(1), (b)(13)(ii)(A), and (b)(13)(ii)(B) of this section.

(v) Assume all the bonds are outstanding until maturity (9/01/98). For purposes of computing the yield on the issue during the second yield period (the period ending 9/01/98), the bonds are treated as if issued for an aggregate issue price equal to the early retirement value of the bonds that was taken into account on the last day of the first yield period ($25 million). See paragraph (d)(2)(ii)(B) of this section. The aggregate issue payment taken into account on the final maturity date is the retirement price of the bonds ($26,651,250). See paragraphs (d)(2)(i)(A) and (d)(2)(i)(E) of this section. The yield on the issue during the second yield period is 6.713 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service       Guarantee      PV (6.7130248542%)

 

 ____       ____________       _________      ___________________

 

 9/01/93                      $144,579.16        $  144,579.16

 

 9/01/94   $ 1,651,250.00      144,579.16         1,681,083.66

 

 9/01/95     1,651,250.00      144,579.16         1,573,669.88

 

 9/01/96     1,393,750.00      144,579.16         1,261,892.02

 

 9/01/97     1,393,750.00      144,579.16         1,181,262.73

 

 9/01/98    26,651,250.00                        19,157,512.55

 

                                                 ______________

 

 PV Issue Prices (9/01/93)                      $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(F)(1), (b)(13)(ii)(A) and (b)(13)(ii)(B) of this section.

EXAMPLE 5. The facts are the same as in Example 4, except that all the bonds are redeemed on the first installment computation date (9/01/93) at par ($25 million) plus accrued interest ($1,651,250). The aggregate issue payments taken into account on September 1, 1993 total $26,651,250. See paragraph (d)(2)(i)(A), (d)(2)(i)(b), and (b)(7)(ii) of this section. The yield on the issue during the first yield period is 6.460 percent per annum compounded semiannually (the same as the yield on the issue during the first yield period computed in Example 4 (iv)).

EXAMPLE 6. (i) The facts are the same as in Example 4, except that $10 million of the bonds are redeemed on September 1, 1992 at par ($10 million) plus accrued interest ($660,500), and all the remaining bonds are redeemed on June 1, 1996 at par ($15 million) plus accrued interest ($605,625). The annual letter of credit fee paid on each September 1 on and after September 1, 1992 (when $10 million of the bonds are retired) is $84,000 (the product of $140,000 and 15 divided by 25). The last annual letter of credit fee is paid on September 1, 1995 (the last September 1 before the remaining $15 million of bonds are retired).

(ii)(A) The yield on the tender bonds during the first yield period (without regard to the initial letter of credit fee) is 6.393 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service       Guarantee      PV (6.3931795670%)

 

 ____       ____________       _________      __________________

 

 9/01/88                      $140,000.00        $   140,000.00

 

 9/01/89   $1,393,750.00       140,000.00          1,440,203.57

 

 9/01/90    1,393,750.00       140,000.00          1,352,362.73

 

 9/01/91    1,393,750.00       140,000.00          1,269,879.46

 

 9/01/92   11,651,250.00        84,000.00          9,123,670.21

 

 9/01/93   15,990,750.00                          11,673,884.03

 

 ______________

 

 PV Issue Prices (9/01/88)                       $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(D), (d)(2)(i)(F)(1), and (b)(13)(ii)(A) of this section.

(B) The present value as of September 1, 1988 (using a discount rate equal to 6.393%) of $1 paid on each September 1 on which an annual letter of credit fee is payable (i.e., each September 1 beginning 9/01/88 and ending 9/01/97) is $7.65749. The aggregate constant payment amount is $4,570.69 ($35,000 divided by $7.65749). See paragraph (b)(13)(iii)(C) of this section. The aggregate constant payment amount taken into account on September 1, 1992 includes only the portion of such amount attributable to the $15 million of bonds remaining outstanding after September 1, 1992 ($2,742.41; the product of $4,570.69 and 15 divided by 25). See paragraph (b)(13)(ii)(C) of this section.

(C) The yield on the issue during the first yield period is 6.412 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service       Guarantee      PV (6.4120605006%)

 

 ____       ____________       _________      ___________________

 

 9/01/88                       144,570.69         144,570.69

 

 9/01/89    $1,393,750.00      144,570.69       1,444,231.24

 

 9/01/90     1,393,750.00      144,570.69       1,355,896.65

 

 9/01/91     1,393,750.00      144,570.69       1,272,964.93

 

 9/01/92    11,651,250.00       86,742.41       9,119,126.41

 

 9/01/93    15,990,750.00                      11,663,210.08

 

                                              ______________

 

 PV Issue Prices (9/01/88)                    $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(D), (d)(2)(i)(F)(1), (b)(13)(ii)(A), (b)(13)(ii)(B), and (b)(13)(ii)(C) of this section.

(iii) For purposes of computing the yield on the issue during the second yield period, both the annual letter of credit fee paid on September 1, 1995 and, the aggregate constant payment amount normally treated as paid on September 1, 1995 are reduced to reflect the fact that the bonds were retired before the end of the bond year. The aggregate amount taken into account on September 1, 1995 is the product of $86,742.41 and 9 divided by 12 (the portion of the bond year during which the bonds were not retired). See paragraph (b)(13)(ii)(C) of this section. The yield on the issue during the second yield period is 6.807 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service       Guarantee      PV (6.8066199593%)

 

 ____       ____________       _________      ___________________

 

 9/01/93                       $86,742.41          $86,742.41

 

 9/01/94     $990,750.00        86,742.41        1,007,732.67

 

 9/01/95      990,750.00        65,056.81          923,520.83

 

 6/01/96   15,605,625.00                        12,982,004.09

 

                                                ______________

 

 PV Issue Prices (9/01/93)                     $15,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(E), (d)(2)(i)(D), (d)(2)(ii)(B), (b)(13)(ii)(A), (b)(13)(ii)(B), and (b)(13)(ii)(C) of this section.

EXAMPLE 7. (i) The facts are the same as in Example 4, except that the annual letter of credit fee for each of the first five years is an amount equal to two thirds of one percent of the sum of the outstanding par amount of the bonds and simple interest for one year at the maximum interest rate and thereafter is an amount equal to one third of one percent of such sum.

(ii)(A) All the bonds are outstanding on the first installment computation date (9/01/93). Both the initial and the annual letter of credit fees are nonlevel payments and must be reallocated. See paragraph (b)(13)(iii)(B) of this section. The aggregate constant payment amount is the present value of all the fees on September 1, 1988, divided by the sum of the present values as of September 1, 1988 of $1 paid on each September 1. See paragraph (b)(13)(iii)(C) of this section. The yield on the tender bonds during the first yield period (without regard to any of the fees) is used as the discount rate. The yield on the tender bonds during the first yield period (as so determined) is 5.866 percent per annum compounded semiannually, computed as follows:

 Date                Debt Service          PV (5.8656597372%)

 

 ____                ____________          __________________

 

 9/01/89            $1,393,750.00             $1,315,458.21

 

 9/01/90             1,393,750.00              1,241,564.34

 

 9/01/91             1,393,750.00              1,171,821.34

 

 9/01/92             1,651,250.00              1,310,332.55

 

 9/01/93            26,651,250.00             19,960,823.56

 

                                              ______________

 

 PV Issue Prices (9/01/88)                   $25,000,000.00

 

 

See paragraph (d)(2)(i)(A) and (d)(2)(i)(F)(1) of this section.

(B) The present value of all the fees as of September 1, 1988 is $1,181,584.35, computed as follows:

 Date                  Guarantee               PV (5.866%)

 

 ____                  _________               ___________

 

 9/01/88              $221,666.67              $221,666.67

 

 9/01/89               186,666.67               176,180.37

 

 9/01/90               186,666.67               166,283.16

 

 9/01/91               186,666.67               156,941.93

 

 9/01/92               186,666.67               148,125.47

 

 9/01/93                93,333.33               169,902.14

 

 9/01/94                93,333.33                65,975.27

 

 9/01/95                93,333.33                62,269.01

 

 9/01/96                93,333.33                58,770.94

 

 9/01/97                93,333.33                55,469.39

 

                                              ___________

 

 PV (9/01/88)                                $1,181,584.35

 

 

(C) The present value as of September 1, 1988 of $1 paid on each September 1 during the term of the guarantee is $7.81592. The aggregate constant payment amount is $151,176.62 ($1,181,584.35 divided by $7.81592). See paragraph (b)(13)(iii)(C) of this section.

(D) The yield on the issue during the first yield period is 6.487 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service       Guarantee      PV (6.4873997624%)

 

 ____       ____________       _________      _________________

 

 9/01/88                      $151,176.62      $   151,176.62

 

 9/01/89   $1,393,750.00       151,176.62        1,449,374.90

 

 9/01/90    1,393,750.00       151,176.62        1,359,732.94

 

 9/01/91    1,393,750.00       151,176.62        1,275,635.21

 

 9/01/92    1,651,250.00       151,176.62        1,396,204.76

 

 9/01/93   26,651,250.00                        19,367,875.57

 

                                                ______________

 

 PV Issue Prices (9/01/88)                     $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(F)(1), and (b)(13)(ii)(B) of this section.

EXAMPLE 8. (i) The facts are the same as in Example 7, except that the bonds are issued on March 1, 1989, and the annual letter of credit fee payable on March 1, 1989 (for the first bond year) is one half of the regular annual fee ($93,333.34).

(ii)(A) The yield on the tender bonds during the first yield period (without regard to any of the fees) is 5.974 percent per annum compounded semiannually, computed as follows:

 Date                Debt Service          PV (5.9742161006%)

 

 ____                ____________          __________________

 

 9/01/89           $   750,000.00           $   728,246.49

 

 9/01/90             1,393,750.00             1,275,957.74

 

 9/01/91             1,393,750.00             1,203,013.68

 

 9/01/92             1,651,250.00             1,343,794.28

 

 9/01/93            26,651,250.00            20,448,987.81

 

                                            ______________

 

 PV Issue Prices (3/01/89)                  $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A) and (d)(2)(i)(F)(1) of this section.

(B) The present value of all the fees as of March 1, 1989 (the first day of the first bond year) is $1,112,913.51, computed as follows:

 Date                  Guarantee               PV (5.974%)

 

 ____                  _________               ___________

 

 3/01/89               $128,333.34             $128,333.34

 

 9/01/89                186,666.67              181,252.65

 

 9/01/90                186,666.67              170,891.14

 

 9/01/91                186,666.67              161,121.96

 

 9/01/92                186,666.67              151,911.25

 

 9/01/93                 93,333.33               71,613.53

 

 9/01/94                 93,333.33               67,519.67

 

 9/01/95                 93,333.33               63,659.83

 

 9/01/96                 93,333.33               60,020.64

 

 9/01/97                 93,333.33               56,589.50

 

                                              ____________

 

 PV (3/01/89)                                $1,112,913.51

 

 

(C) The present value as of March 1, 1989 of $0.50 paid on March 1, 1989 and $1 paid on each September 1 thereafter is $7.48563, computed as follows:

 Date                   Payment               PV (5.974%)

 

 ____                   _______               ___________

 

 3/01/89                 $0.50                 $0.50000

 

 9/01/89                  1.00                   .97100

 

 9/01/90                  1.00                   .91549

 

 9/01/91                  1.00                   .86315

 

 9/01/92                  1.00                   .81381

 

 9/01/93                  1.00                   .76729

 

 9/01/94                  1.00                   .72343

 

 9/01/95                  1.00                   .68207

 

 9/01/96                  1.00                   .64308

 

 9/01/97                  1.00                   .60632

 

                                                _______

 

 PV (3/01/89)                                  $7.48563

 

 

(D) The aggregate constant payment amount is $148,673.33 ($1,112,913.51, divided by $7.48563). See paragraph (b)(13)(iii)(C) of this section. The amount treated as paid on March 1, 1989 (the first day of the short bond year) is $74,336.67 ($148,673.33, divided by 2). See paragraph (b)(13)(ii)(B) of this section.

(E) The yield on the issue during the first yield period is 6.587 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service       Guarantee      PV (6.586752004%)

 

 ____       ____________       _________      _________________

 

 3/01/89                      $ 74,336.56      $    74,336.57

 

 9/01/89  $   750,000.00       148,673.33          870,020.10

 

 9/01/90    1,393,750.00       148,673.33        1,399,542.57

 

 9/01/91    1,393,750.00       148,673.33        1,311,720.09

 

 9/01/92    1,651,250.00       148,673.33        1,434,652.28

 

 9/01/93   26,651,250.00                        19,909,728.39

 

                                                ______________

 

  PV Issue prices (3/01/89)                     $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(F)(1), and (b)(13)(ii)(B) of this section.

EXAMPLE 9. (i) The facts are the same as in Example 4, except that the final maturity date of the bonds is September 1, 2003, and the bonds provide that the issuer may elect to convert the tender bonds to fixed rate bonds without a tender right. If the issuer so elects, (A) the remarketing agent determines the lowest interest rate at which tendered bonds could be remarketed on the next tender date at par without the tender right and this interest rate is the interest rate on the fixed rate bonds from that date until maturity; (B) interest on the fixed rate bonds is still payable on September 1 of each year but is not compounded semiannually; and (C) the fixed rate bonds are subject to optional redemption at 103 percent of par plus accrued interest 5 years after the conversion date or at any time thereafter. Principal and interest on the fixed rate bonds is not secured by the letter of credit issued by Bank A.

(ii)(A) The issuer elects to convert all the tender bonds to fixed rate bonds on September 1, 1991. All the proceeds of the bonds are expended by that date. The interest rate on the fixed rate bonds is 8.5 percent per annum. All the proceeds of the bonds are expended by that date. All the bonds are outstanding on the first installment computation date (9/01/93). The bonds are treated as fixed yield bonds after the close of business on September 1, 1991. See paragraph (b)(3)(i) of this section. The aggregate issue payments taken into account on September 1, 1991 with respect to the tender bonds are the outstanding par amount of the bonds ($25 million) and accrued interest paid on that date ($1,393,750). See paragraphs (d)(2)(i)(A), (d)(2)(i)(F)(1), and (b)(7)(ii) of this section.

(B) The composite yield on the tender bonds (without regard to the nonlevel initial letter of credit fee) is 6.077 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service      Guarantee      PV (6.0772180296%)

 

 ____       ____________      _________      __________________

 

 9/01/88                     $140,000.00      $   140,000.00

 

 9/01/89   $1,393,750.00      140,000.00        1,444,623.25

 

 9/01/90    1,393,750.00      140,000.00        1,360,675.69

 

 9/01/91   26,393,750.00                       22,054,701.05

 

                                              ______________

 

 PV Issue Prices (9/01/88)                    $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(F)(1), (b)(13)(ii)(A), and (b)(7)(ii) of this section.

(C) The present value as of September 1, 1988 of $1 paid on each September 1 an annual letter of credit fee is payable (i.e., on each September 1 beginning 9/01/88 and ending 9/01/97) is $7.75185. The aggregate constant payment amount is $4,515.05 ($35,000 divided by $7.75185). See paragraph (b)(13)(iii)(C) of this section. This amount is taken into account as an issue payment with respect to the variable yield bonds before the conversion and with respect to the fixed yield bonds after the conversion. See paragraphs (b)(13)(ii)(B) and (b)(13)(ii)(D) of this section. The fixed yield bonds are treated as if issued immediately after the close of business on September 1, 1991 for par. See paragraphs (b)(3)(i) and (d)(2)(ii) of this section. The aggregate issue payments taken into account with respect to the fixed yield bonds on the last day of the first yield period (9/01/93) are the accrued interest paid on such date ($2,125,000) and the aggregate early retirement value of the fixed yield bonds as of such date less the interest paid on such date ($25 million). See paragraphs (d)(3)(i)(A), (d)(3)(i)(E), (b)(7)(i), (b)(8)(i), and (b)(8)(iii) of this section.

(D) The yield on the issue during the first yield period is 6.911 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service      Guarantee      PV (6.9110284128%)

 

 ____       ____________      _________      __________________

 

 9/01/88                     $144,515.05        $ 144,515.05

 

 9/01/89   $ 1,393,750.00     144,515.05        1,437,222.10

 

 9/01/90     1,393,750.00     144,515.05        1,342,816.28

 

 9/01/91    26,393,750.00       4,515.05       21,530,470.64

 

 9/01/91   (25,000,000.00)                    (20,390,043.25)

 

 9/01/92     2,125,000.00       4,515.05        1,622,749.80

 

 9/01/93    27,125,000.00                      19,312,269.38

 

                                              _______________

 

 PV Issue Prices (9/01/88)                    $25,000,000.00

 

 

See paragraphs (d)(2)(i)(A), (d)(2)(i)(B), (d)(2)(i)(F)(1), (d)(2)(ii)(B), (d)(3)(i)(A), (d)(3)(i)(B), (d)(3)(i)(E), (b)(13)(ii)(A), (b)(13)(ii)(B), (b)(3)(i), (b)(7)(i), (b)(8)(i) and (b)(8)(iii) of this section.

(iii)(A) All the bonds are outstanding on the second installment computation date (9/01/98). The issue is treated as a fixed yield issue issued as of the first day of the second yield period (9/01/93), and each fixed yield bond that is part of the issue is treated as if issued after the close of business on such date for an issue price equal to the outstanding par amount of the bond on such date. See paragraphs (b)(3)(ii), (b)(7)(i), (b)(8)(i), (b)(8)(iii), and (d)(3)(ii) of this section. The yield on the fixed yield issue as of the second installment computation date is 8.338 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service      Guarantee      PV (8.338 percent)

 

 ____       ____________      _________      __________________

 

 9/01/93                      $4,515.05      $     4,515.05

 

 9/01/94    $2,125,000.00      4,515.05        1,962,473.75

 

 9/01/95     2,125,000.00      4,515.05        1,808,535.34

 

 9/01/96     2,125,000.00      4,515.05        1,666,672.01

 

 9/01/97     2,125,000.00      4,515.05        1,535,936.58

 

 9/01/98     2,125,000.00                      1,412,455.09

 

 9/01/99     2,125,000.00                      1,301,660.69

 

 9/01/00     2,125,000.00                      1,199,557.12

 

 9/01/01     2,125,000.00                      1,105,462.65

 

 9/01/02     2,125,000.00                      1,018,749.05

 

 9/01/03    27,125,000.00                     11,983,982.68

 

                                              ______________

 

 PV Issue prices (9/01/93)                    25,000,000.00

 

 

(B) Since no event described in paragraphs (c)(4)(ii) and (c)(4)(iii) has occurred, no further adjustment of the yield on this fixed yield issue is required. See paragraph (c)(4) of this section.

(iv) All the bonds are redeemed on September 1, 2000, at 103 percent of par ($25,750,000) plus accrued interest ($2,125,000). The yield on the fixed yield issue as of the final computation date (9/01/00) is 8.338 percent per annum compounded semiannually.

EXAMPLE 10. The facts are the same as in Example 9, except that all the bonds are retired on March 1, 1997, at par. Because the bonds are retired on a date (3/01/97) that is less than five years from the date on which the issue was first treated as a fixed yield issue (9/01/93), the yield on the issue must be recomputed. See paragraph (c)(4)(iii) of this section. The yield on the fixed yield issue as of the final computation date (3/01/97) is 8.367 percent per annum compounded semiannually, computed as follows:

 Date       Debt Service       Guarantee      PV (8.367 percent)

 

 ____       ____________       _________      __________________

 

 9/01/93                       $4,515.05          $ 4,515.05

 

 9/01/94   $ 2,125,000.00       4,515.05        1,961,928.33

 

 9/01/95     2,125,000.00       4,515.05        1,807,530.20

 

 9/01/96     2,125,000.00       2,257.53        1,663,517.37

 

 3/01/97    26,062,500.00                      19,562,509.05

 

                                               ______________

 

 PV Issue prices (9/01/93),                    25,000,000.00

 

 

EXAMPLE 11. (i) The facts are the same as in Example 9, except that the issuer elected to convert all the tender bonds to fixed rate bonds on March 1, 1991 (instead of September 1, 1991), the interest rate on the fixed rate bonds is 8.5 percent per annum, $20 million of the bonds are tendered and remarketed at par on March 1, 1991, and all the bonds are outstanding on the first installment computation date (9/01/93).

(ii)(A) The aggregate issue payment taken into account on March 1, 1991 with respect to the tendered bonds is par ($20 million) plus accrued interest paid on March 1, 1991 ($500,000). See paragraph (d)(2)(i)(C) of this section. The aggregate issue payments taken into account with respect to the nontendered bonds on March 1, 1991 is par ($5 million) on March 1, 1991 and accrued interest to March 1, 1991 (to be paid on 9/01/91) as of September 1, 1991 ($125,000). See paragraph (d)(2)(i)(F) of this section.

(B) The yield on the tender bonds (without regard to the initial letter of credit fee) is 5.978 percent per annum compounded semiannually, computed as follows:

 Date        Debt Service      Guarantee      PV (5.9782082303%)

 

 ____        ____________      _________      __________________

 

 9/01/88                      $140,000.00      $   140,000.00

 

 9/01/89    $ 1,393,750.00     140,000.00        1,446,012.39

 

 9/01/90      1,393,750.00      70,000.00        1,301,073.37

 

 3/01/91     25,500,000.00                      22,008,162.24

 

 9/01/91        125,000.00                         104,752.00

 

 ______________

 

 PV Issue Prices (9/01/88)                     $25,000,000.00

 

 

(C) The present value as of September 1, 1988 of $1 paid on each September 1 an annual letter of credit fee is payable is $7.78180. The aggregate constant payment amount is $4,497.67 ($35,000 divided by $7.78180). See paragraph (b)(13)(iii)(C) of this section. The fixed yield bonds are treated as if issued on March 1, 1991 for par ($25 million). The accrued interest to be paid on the bonds that were not tendered on March 1, 1991 is not treated as interest on the fixed yield bonds issued on March 1, 1991. See paragraph (b)(3)(i) of this section. The early retirement value of the fixed yield bonds on the first installment computation date (9/01/93) is the present value of the bonds on that date. See paragraph (b)(7)(i) of this section.

(D) The yield-to-maturity on the fixed yield bonds is 8.511 percent per annum compounded annually, computed as follows:

 Date                Payments            PV (8.5110819458%)

 

 ____                _________           __________________

 

 9/01/91           $1,062,500.00            $1,019,980.55

 

 9/01/92            2,125,000.00             1,879,956.47

 

 9/01/93            2,125,000.00             1,732,501.82

 

 9/01/94            2,125,000.00             1,596,612.80

 

 9/01/95            2,125,000.00             1,471,382.25

 

 9/01/96            2,125,000.00             1,355,974.18

 

 9/01/97            2,125,000.00             1,249,618.15

 

 9/01/98            2,125,000.00             1,151,604.18

 

 9/01/99            2,125,000.00             1,061,277.94

 

 9/01/00            2,125,000.00               978,036.46

 

 9/01/01            2,125,000.00               901,324.03

 

 9/01/02            2,125,000.00               830,628.55

 

 9/01/03           27,125,000.00             9,771,102.62

 

                                            ______________

 

 PV Issue Prices (3/01/91)                 $25,000,000.00

 

 

See paragraph (b)(5)(ii) of this section.

(E) The aggregate present value of the fixed yield bonds on September 1, 1993 determined by using the exact method is $27,106,965.13, computed as follows:

 Date                Payments            PV (8.511%)

 

 ____                ________            ___________

 

 9/01/93           $2,125,000.00        $2,125,000.00

 

 9/01/94            2,125,000.00         1,958,326.81

 

 9/01/95            2,125,000.00         1,804,726.53

 

 9/01/96            2,125,000.00         1,663,173.81

 

 9/01/97            2,125,000.00         1,532,723.69

 

 9/01/98            2,125,000.00         1,412,505.36

 

 9/01/99            2,125,000.00         1,301,716.29

 

 9/01/00            2,125,000.00         1,199,616.90

 

 9/01/01            2,125,000.00         1,105,525.61

 

 9/01/02            2,125,000.00         1,018,814.32

 

 9/01/03           27,125,000.00        11,984,835.81

 

                                       _____________

 

 PV (9/01/93)                         $27,106,965.13

 

 

See paragraph (b)(8)(i) of this section.

(F) The aggregate present value of the bonds determined by using the approximate method is $27,125,000, which is higher. See paragraph (b)(8)(iii) of this section.

(G) The yield on the variable yield issue as of the first installment computation date is 7.149 percent per annum compounded semiannually, computed as follows:

 Date      Debt Service      Guarantee      PV (7.1485008956%)

 

  ____      ____________      _________      __________________

 

 9/01/88  $   144,497.67    $ 144,497.67

 

 9/01/89  $ 1,393,750.00      144,497.67       1,433,912.56

 

 9/01/90    1,393,750.00      144,497.67       1,336,654.21

 

 3/01/91   25,500,000.00                      21,393,467.67

 

 3/01/91  (25,000,000.00)                    (20,973,987.91)

 

 9/01/91    1,187,500.00        4,497.67         965,527.42

 

 9/01/92    2,125,000.00        4,497.67       1,607,913.85

 

 9/01/93   27,125,000.00                      19,092,014.53

 

                                             _______________

 

 PV Issue Prices (9/01/88)                   $25,000,000.00

 

 

SECTION 1.148-4 ALLOCATION AND ACCOUNTING RULES.

(a) IN GENERAL -- (1) REASONABLE ACCOUNTING METHODS REQUIRED.Except as otherwise provided in section 148, this section, or another regulation under section 148, an issuer may use any reasonable,consistently applied accounting method to account for gross proceeds of an issue for purposes of section 148. The reasonableness of any accounting method is based on all the facts and circumstances.

(2) ANTI-ABUSE RULE FOR ACCOUNTING METHODS. For purposes of this section, an accounting method is not reasonable if it is employed asan artifice or device under section 1.103-13(j) or section 1.148-9(g)to avoid, in whole or in part, the requirements of section 148.

(3) APPLICATION OF RULES TO CONDUIT BORROWERS. Except as otherwise provided in this section, the allocation and accounting rules of this section apply to a conduit borrower (as defined insection 1.150-1(g)) of gross proceeds of an issue to the same extentas they apply to the issuer. Accordingly, a conduit borrower must comply with this section to account for any gross proceeds of an issue received by it under a purpose investment.

(4) CERTAIN DEFINITIONS. For purposes of this section, the following definitions apply:

ACCOUNTING METHOD means both the overall method used to account for gross proceeds of an issue (e.g., the cash method or a modified accrual method) and the method used to account for or allocate any particular item within that overall accounting method (e.g., accounting for investments, expenditures, allocations to and from different sources, and particular items of the foregoing).

COMMINGLED FUND means any fund or account if:

(A) the fund or account contains both gross proceeds of an issue and amounts in excess of $25,000 that are not gross proceeds of that issue; and

(B) amounts in the fund or account are invested collectively without regard to source of funds deposited in the fund or account. An open-end regulated investment company (as defined in section 851)is not a commingled fund. For purposes of this definition, a regulated investment company is open-end if it is offering for sale or has outstanding any redeemable security, as defined in section 2(a)(32) of the Investment Company Act of 1940, of which it is the issuer.

CONSISTENTLY APPLIED. With reference to an accounting method,"consistently applied" means that the method accounts uniformly for:

(A) gross proceeds of an issue in a commingled fund and any other amounts in the same commingled fund containing those gross proceeds; and

(B) gross proceeds of an issue for each fiscal year or interimfiscal period therein during which the issue is outstanding. An accounting method does not fail to be consistently applied solely because the issuer uses a different accounting method to account for a particular amount, provided that this use of a different accounting method is for a bona fide purpose and is not an artifice or device under section 1.103-13(j) or section 1.148-9(g) to avoid, in whole orin part, the requirements of section 148. For example, a bona fide purpose for a different accounting method may include a change in accounting method to improve the accuracy of the accounting method.

GRANT means a transfer of money or property by a grantor to a grantee that accomplishes a governmental purpose of the grantor and that, except as expressly permitted by this definition, imposes no obligation or condition on the grantee:

(A) to repay the grant directly or indirectly with money, property, or services furnished to or for the benefit of the grantor;

(B) to satisfy a legal, nondiscretionary funding obligation ofthe grantor; or

(C) to provide any other consideration whatsoever to or for the benefit of the grantor.

Whether a grantor imposes an impermissible obligation or condition is determined on the basis of all the facts and circumstances. Conditions intended solely to assure expenditure of the transferred moneys in accordance with the governmental purpose of the transfer donot prevent an otherwise eligible transfer from being a grant. For example, if a transferee is required to repay the transferred amountfor failure to satisfy conditions that are described in the preceding sentence, this requirement does not disqualify an otherwise qualifying transfer as a grant. Satisfaction of a general governmental obligation of a grantor to promote public purposes does not violate the limitation of paragraph (B) of this definition. For example, if a state makes a discretionary transfer of funds to alocal political subdivision to finance a school in furtherance of the state's general governmental obligation to oversee public education, the transferee's use of the funds for that purpose is not an impermissible satisfaction of a legal obligation of the grantor that prevents an otherwise qualifying transfer from being a grant. In contrast, if the state had a mandatory legal obligation to provide funding to local political subdivisions for public school purposes, satisfaction of that obligation through a transfer of funds would not be a grant. See paragraph (d)(4)(iii) of this section for characterization of repayments of grants.

WORKING CAPITAL EXPENDITURE. The term "working capital expenditure" means any cost of a type that does not constitute a capital expenditure (as defined in section 1.150-1(h)). For example, working capital expenditures generally include current operating expenses. For purposes of this definition, section 1.103-8(a)(5) applies to determine when a facility is placed in service. See paragraph (d)(3)(v) of this section regarding the treatment of working capital expenditures under section 147(b).

(b) ALLOCATION OF GROSS PROCEEDS TO AN ISSUE -- (1) IN GENERAL. Except as otherwise provided in this section or in applicable regulations on refunding issues under section 148, amounts are allocable to an issue as gross proceeds in the manner required by the definition of gross proceeds under section 1.148-8. Transferred proceeds and proceeds of a refunding issue are allocable to an issue based on the requirements of any applicable regulations on refunding issues under section 148.

(2) ONE-ISSUE RULE AND GENERAL ORDERING RULES. Except as otherwise provided in this section, amounts are allocable to only one issue (including a taxable issue) at a time as gross proceeds. Except as otherwise provided in this section, amounts that are original proceeds or transferred proceeds allocable to an issue must be so allocated to that issue and may not be allocated instead as replacement proceeds to another issue. Amounts cease to be original proceeds or transferred proceeds allocated to an issue only when they are properly allocated to an expenditure for a governmental purpose, when they become transferred proceeds of another issue, or when they cease to be allocated to that issue by operation of the limitation under paragraph (b)(3) of this section.

(3) UNIVERSAL CAP ON VALUE OF NONPURPOSE INVESTMENTS ALLOCATED TO AN ISSUE -- (i) UNIVERSAL CAP IN GENERAL. Except as otherwise provided in paragraph (b)(3)(ii) of this section, nonpurpose investments of gross proceeds of an issue are allocated (and remain allocated) to the issue only to the extent that the value (as defined in paragraph (b)(3)(iv)(B) of this section) of these nonpurpose investments does not exceed the value (as defined in paragraph (b)(3)(iv)(A) of this section) of all outstanding bonds of the issue.(The value of all outstanding bonds of the issue is referred to as the "universal cap.") Paragraphs (b)(3)(ii) through (v) of this section provide rules on exceptions, frequency of computations, valuation, and reallocations for purposes of this rule.

(ii) NONPURPOSE INVESTMENTS IN A BONA FIDE DEBT SERVICE FUND NOT COUNTED. Nonpurpose investments of gross proceeds of an issue held ina bona fide debt service fund for the issue are allocated to an issue in any event and are not subject to the limitations imposed by the universal cap under paragraph (b)(3)(i) of this section. Thus, the value of these nonpurpose investments does not reduce the aggregate value of nonpurpose investments that may be allocated to the issue under the universal cap.

(iii) WHEN THE UNIVERSAL CAP IS COMPUTED AND APPLIED -- (A) COMPUTATION. For purposes of paragraph (b)(3)(i) of this section, the values of the universal cap and the nonpurpose investments must be computed as of the second anniversary of the date of issue of an issue and as of the first day of each bond year thereafter. In addition, in the case of a refunding issue and a refunded issue, these values must be computed as of each date that, without regard to the limitations in this paragraph (b)(3), proceeds of the refunded issue would become transferred proceeds of the refunding issue under applicable regulations on refunding issues under section 148.

(B) APPLICATION. The rule of paragraph (b)(3)(i) of this section applies commencing as of the date first required under paragraph (b)(3)(iii)(A) of this section. Thus, absent a refunding, the universal cap rule does not apply to a new money issue during the first two years after its date of issue. Between required dates of computation of the universal cap under paragraph (b)(3)(i)(A) of this section, nonpurpose investments cease to be allocated to an issue to the extent that they are expended on a governmental purpose of the issue or otherwise cease to be allocated to the issue under the rules of paragraphs (b)(1) and (b)(2) of this section. To the extent that nonpurpose investments cease to be allocated to the issue, other nonpurpose investments of gross proceeds are allocated to the issue up to the amount of the unused universal cap. Allocations of nonpurpose investments under this paragraph (b)(3)(iii)(B) must bedone not less frequently than annually, commencing as of the second anniversary of the date of issue of an issue. To the extent that nonpurpose investments do not cease to be allocated to the issue under this paragraph (b)(3)(iii)(B) at any time, their values continue to be their values as of the most recent date that these values were computed under paragraph (b)(3)(iii)(A) of this section.

(iv) VALUATION FOR PURPOSES OF UNIVERSAL CAP. For purposes of paragraph (b)(3)(i) of this section, the values of outstanding bonds and nonpurpose investments are computed as follows --

(A) VALUE OF OUTSTANDING BONDS. Except as otherwise permitted by this paragraph (b)(3)(iv)(A), the value of all outstanding bonds of an issue on a date is equal to the present value of those bonds determined under section 1.148-3. For example, the value of an eligible bond under section 1.148-3(b)(8)(iii) generally is equal to its outstanding principal amount. In addition, any bond may be valued at its outstanding principal amount if that bond was issued withoriginal issue discount or premium not in excess of one-fourth of one percent multiplied by the number of complete years to maturity of the bond.

(B) VALUE OF NONPURPOSE INVESTMENTS. The value of a nonpurpose investment on a date is equal to the receipt that would be taken into account on that date under section 1.148-2(b)(2)(iii) if that date were a rebate installment computation date.

(v) ALLOCATIONS OF AMOUNTS IN EXCESS OF THE UNIVERSAL CAP -- (A) GENERAL ORDERING RULE. If, on a date specified in paragraph (b)(3)(iii) of this section, nonpurpose investments of gross proceeds allocated to an issue have a value in excess of the universal cap, an amount of those investments necessary to eliminate that excess cease to be allocated to the issue. Nonpurpose investments cease to be allocated to gross proceeds of the issue in the following order --

(1) First, nonpurpose investments of replacement proceeds of the issue;

(2) Second, nonpurpose investments of transferred proceeds ofthe issue; and

(3) Third, nonpurpose investments of original proceeds of the issue.

(B) RE-ALLOCATION AFTER ORDERING. If nonpurpose investments of gross proceeds of an issue exceed the universal cap and therefore cease to be allocable to an issue, they become eligible for allocation to another issue. For example, they may be allocated to another issue as replacement proceeds in accordance with the rules governing replacement proceeds.

(C) VALUATION OF RE-ALLOCATED INVESTMENTS. Notwithstanding any provision of section 1.148-2 to the contrary, a nonpurpose investment that is re-allocated to another issue as a consequence of this paragraph (b)(3) may be valued upon re-allocation using the same method of valuation that was used to apply the universal cap under paragraph (iv)(B) of this section. Thus, for example, if the nonpurpose investments were valued at present value in accordance with section 1.148-2(b)(2)(iii), they may be re-allocated at present value.

(vi) CONSEQUENCES OF CERTAIN FAILURES TO DO COMPUTATIONS. A failure to do any computation under this paragraph (b)(3) does not violate this section if, in the absence of that failure, the issue nevertheless would have satisfied paragraph (b)(3)(i) of this section.

(vii) ANTI-ABUSE RULE. Any allocation of nonpurpose investments of proceeds to an issue for a purpose of causing other nonpurpose investments to cease to be allocated to an issue to avoid, in wholeor in part, this paragraph (b)(3) is disregarded.

(c) ALLOCATIONS OF GROSS PROCEEDS TO INVESTMENTS -- (1) IN GENERAL. Except as otherwise provided in this section, gross proceeds of an issue may be allocated to investments pursuant to any reasonable, consistently applied accounting method.

(2) FAIR MARKET VALUE LIMIT ON ALLOCATIONS TO NONPURPOSE INVESTMENTS. Gross proceeds of an issue are not allocated to a payment for a nonpurpose investment in an amount greater than, or to a receipt from the sale or other disposition of a nonpurpose investment in an amount less than, the fair market value (as defined in section 1.148-2(d)) of the nonpurpose investment.

(3) ADMINISTRATIVE COSTS OF NONPURPOSE INVESTMENTS -- (i) In general. Except as otherwise provided in this paragraph (c)(3), an allocation of gross proceeds of an issue to a payment under section 1.148-2(b)(3) or a receipt under section 1.148-2(b)(2) with respect to a nonpurpose investment is not adjusted to take into account any administrative costs (as defined in paragraph (c)(3)(iii)(A) of this section) of the investment. Thus, administrative costs generally do not increase the costs for investments or reduce the income from investments.

(ii) REASONABLE ADMINISTRATIVE COSTS OF QUALIFIED INVESTMENTS TAKEN INTO ACCOUNT. In determining payments and receipts under section 1.148-2(b)(3) and section 1.148-2(b)(2) with respect to qualified investments (as defined in paragraph (c)(3)(iv) of this section), administrative costs not in excess of the limitation described in paragraph (c)(3)(iii) of this section are taken into account. Thus, in the case of qualified investments, income passed through to the investors is not "grossed up" to reflect permitted administrative costs before being allocated to investors.

(iii) DEFINITION OF ADMINISTRATIVE COSTS -- (A) IN GENERAL. For purposes of this paragraph (c)(3), "administrative costs" includecosts paid by or on behalf of an issuer for brokerage or selling commissions, legal and accounting fees, investment advisory fees, recordkeeping, safekeeping, custody, and similar costs and expenses of a fund. Administrative costs include 12(b)-1 fees charged by aregulated investment company. Administrative costs include a brokerage commission for an investment contract purchased with gross proceeds of an issue, regardless of whether the brokerage commission is paid or incurred on behalf of the issuer or the provider of the investment contract.

(B) LIMITATION ON ADMINISTRATIVE COSTS. In the case of a qualified investment (as defined in paragraph (c)(3)(iv) of this section), reasonable administrative costs are taken into account under paragraph (c)(3)(i) of this section. In the case of an investment in any regulated investment company (as defined in section 851) that is not a qualified investment or any commingled fund that is not a qualified investment, reasonable administrative costs not in excess of .25 percent of the average daily balance (as defined in paragraph (e)(2)(iv) of this section) of amounts invested in the fund for the fiscal year are taken into account under paragraph (c)(3)(i) of this section. Whether administrative costs are reasonable is based on all the facts and circumstances including, without limitation, whether or not the administrative costs are comparable in nature and amount to customary administrative costs that would be charged for the same investment if the investment were made from a source of funds other than gross proceeds of an issue of tax-exempt bonds. Administrative costs paid or incurred for computing arbitrage rebate amounts under section 148(f) are not taken into account.

(C) ANTI-ABUSE RULE FOR ADMINISTRATIVE COSTS. Administrative costs are not reasonable if they are charged directly or indirectly for a purpose to avoid, in whole or in part, the requirements of section 148.

(iv) QUALIFIED INVESTMENTS. An investment of gross proceeds of an issue is a qualified investment if it satisfies the following requirements:

(A) NATURE OF INVESTMENT. The investment is:

(1) A share of stock in a regulated investment company (as defined in section 851); or

(2) An interest in a commingled fund in which the issuer and all members of the same controlled group (as defined in section 1.150-1(f)) as the issuer own less than 10 percent of the beneficial interest in the investments of the commingled fund ("an external commingled fund").

Funds described in paragraphs (1) and (2) of this paragraph (c)(3)(iv) are referred to as "funds" in this paragraph (c)(3).

(B) OTHER INTEREST HOLDERS. As of the date the proceeds of an issue are invested in a fund described in paragraph (A), the fund must comply with one of the following requirements:

(1) The fund has a reasonable expectation that the average daily balance (as defined in paragraph (e)(2)(iv) of this section) of monies invested in the fund from sources other than gross proceeds of tax-exempt bonds will equal or exceed the lesser of $50 million or 50percent of total average daily balance of funds invested in the fund, for the current fiscal year

. (2) The fund qualifies as a publicly offered regulated investment company (as defined in section 67(c)(2)(B)). For purposes of this paragraph (c)(3)(iv)(B)(2), a fund does not qualify as a publicly offered regulated investment company if it is marketed or structured for a principal purpose of attracting investors of proceeds of issues of tax-exempt bonds that are subject to the limitations of section 148.

(C) FAILURE TO SATISFY DIVERSIFICATION REQUIREMENT. If the fund fails to satisfy the diversification requirement of paragraph (c)(3)(iii)(B)(1) for any quarter, the fund will cease to be a qualified investment unless the fund takes prompt remedial action to bring the fund into compliance with this diversification requirementwith respect to the next succeeding quarterly accounting period. If afailure to satisfy this diversification requirement is intentional, the fund is treated as never having been qualified.

(4) REQUIREMENTS FOR PURCHASE OF AN INVESTMENT CONTRACT -- (i) IN GENERAL. Except as otherwise provided in this section, the purchase price of an investment contract is considered to be fairmarket value only if the following requirements are satisfied:

(A) The issuer makes a bona fide solicitation for an investment contract with specified material terms and receives at least three qualifying bids that satisfy this paragraph (c)(4)(i) from different reasonably competitive providers of investment contracts that have no material financial interest in the issue.

(B) The issuer purchases the highest-yielding investment contract for which a qualifying bid is made, or has significant bona fide non-tax reasons, such as creditworthiness of the bidder, for failure to purchase the highest-yielding investment contract offered. If an issuer purchases an investment contract from a provider that has a material financial interest in the issue, the purchase price ofthe contract is presumed to be more than fair market value unless the yield of the investment contract is at least as high as the highest-yielding investment contract for which a qualifying bid is made.

(C) The determination of the price of the investment contract takes into account as a significant factor the issuer's reasonably expected drawdown schedule for the funds to be invested, exclusive off loat funds and reasonably required reserve or replacement funds.

(D) The collateral security requirements for the investment contract are reasonable, based on all the facts and circumstances.

(E) The obligor on the investment contract certifies those administrative costs (as defined in paragraph (c)(3)(iv) of this section) that are reasonably expected to be paid to third parties in connection with the investment contract.

(F) The yield on the investment contract is not less than the yield then currently available from the obligor on reasonably comparable investment contracts offered to other persons, if any, from a source of funds other than gross proceeds of an issue of tax-exempt bonds.

(ii) EXCEPTIONS. Paragraph (c)(4)(i) of this section does not apply to the following described investment contracts:

(A) SHORT-TERM INVESTMENT CONTRACTS. An investment contract that has a remaining term to maturity that is not in excess of six months.

(B) PUBLICLY-TRADED INVESTMENT CONTRACTS. An investment contract that is traded on an established securities market (as defined in section 15A.453-1(e)(4)(iv)).

(C) INVESTMENT CONTRACTS WITH YIELDS SUBSTANTIALLY BELOW BOND YIELD. An investment contract that has a yield more than .25 percent below the yield on the issue the gross proceeds of which are invested in the investment contract. An investment contract is not described in this paragraph (c)(4)(ii)(C) if it is entered into for a purpose of offsetting arbitrage earned or to be earned on other investments of gross proceeds of an issue.

(5) SAFE HARBORS FOR PURCHASES OF CERTIFICATES OF DEPOSIT. This paragraph (c)(5) applies to a certificate of deposit that has a fixed interest rate, a fixed principal payment schedule, a fixed maturity, and a substantial penalty for early withdrawal. For purposes of paragraph (c)(2) of this section, the purchase price of a certificate of deposit covered by this paragraph (c)(5) is considered to be its fair market value if the following safe harbor is satisfied:

(i) COMPARABLE TO TREASURY YIELD. The yield on the certificate of deposit is not less than the yield on reasonably comparable direct obligations of the United States; and

(ii) BIDDING OR PUBLISHING REQUIREMENT. Either (A) or (B) belowis satisfied:

(A) COMPARABLE TO PUBLISHED RATE. The yield on the certificate of deposit is not less than the highest yield that is published or posted by the provider to be currently available from the provider on comparable certificates of deposit offered to the public.

(B) BIDDING PROCEDURE FOLLOWED. (1) The issuer makes a bona fide solicitation for a specified certificate of deposit and receives at least three qualifying bids that satisfy this paragraph (c)(5)(ii) from providers that have no material financial interest in the issue;

(2) The issuer purchases the highest-yielding certificate of deposit for which a qualifying bid is made; and

(3) The yield on the certificate of deposit is not less than the yield then currently available from the provider on comparable certificates of deposit offered to other persons from a source of funds other than gross proceeds of an issue of tax-exempt bonds.

(d) ALLOCATION OF GROSS PROCEEDS TO EXPENDITURES -- (1) EXPENDITURES IN GENERAL -- (i) GENERAL RULE. Except as otherwise provided in this section, gross proceeds of an issue may be allocated to expenditures pursuant to any reasonable, consistently applied accounting method. Reasonable accounting methods for allocating funds from different sources to expenditures for the same governmental purpose include any of the following methods applied consistently: a "specific tracing" method, a "gross-proceeds-spent-first" method, a"first-in, first-out" method, or a ratable allocation method. See the special rules for working capital expenditures in paragraph (d)(3) of this section and for commingled fund expenditures in paragraph (e) of this section.

(ii) GENERAL LIMITATION. An allocation of gross proceeds of an issue to an expenditure must involve a reasonably current outlay of cash and must carry out a governmental purpose of the issue. Thus, an investment in a nonpurpose investment is not an expenditure. Similarly, a transfer of gross proceeds of an issue to finance an on discretionary legal funding obligation (but not a legal judgment) for a particular governmental purpose may not be allocated to an expenditure until the recipient uses the transferred funds to carry out that governmental purpose. A "reasonably current outlay of cash" means an outlay, by check mailed, or available funds advanced, that is reasonably expected to occur not later than 5 banking days after the allocation of gross proceeds to the expenditure.

(iii) DEVIATIONS FROM GENERAL ACCOUNTING METHOD. For purposes of paragraph (d)(1) of this section, a general accounting method for expenditures does not fail to be a reasonable, consistently applied accounting method because the issuer uses a different accounting method to account for a particular expenditure, provided that this use of a different accounting method is for a bona fide purpose and is not an artifice or device under section 1.103-13(j) or section 1.148-9(g) to avoid, in whole or in part, the requirements of section 148. For example, reasons that may justify an issuer's deviation from its general accounting method for expenditures in appropriate circumstances include avoiding forfeiture of a grant.

(2) EXPENDITURES OF GROSS PROCEEDS INVESTED IN PURPOSEINVESTMENTS -- (i) IN GENERAL. Except as provided in paragraph (d)(2)(ii) of this section, gross proceeds of an issue invested in a purpose investment are allocated to an expenditure on the date on which the conduit borrower under the purpose investment allocates the proceeds to an expenditure in accordance with this paragraph (d) to carry out the governmental purpose of the issue. For example, if an issuer lends the gross proceeds of an issue to a conduit borrower under a purpose investment to carry out the governmental purpose of providing an exempt facility under section 142, the gross proceeds are allocated to an expenditure on the date on which the conduit borrower expends the gross proceeds on costs of the exempt facility.

(ii) EXCEPTION FOR QUALIFIED OWNER-OCCUPIED RESIDENCE LOANS AND QUALIFIED STUDENT LOANS. If gross proceeds of an issue are invested in a purpose investment that is a qualified loan for an owner-occupied residence under section 143 or a qualified student loan under section 144(b), those gross proceeds are allocated to an expenditure for the governmental purpose of the issue on the date on which the issuer invests gross proceeds in that purpose investment.

(3) EXPENDITURES FOR WORKING CAPITAL PURPOSES -- (i) In general. Except as provided in paragraphs (d)(3)(ii) and (d)(4) of this section, gross proceeds of an issue and available amounts (as definedin paragraph (d)(3)(iii) of this section) may be allocated to working capital expenditures only under a consistently applied "gross-proceeds-spent-last" method. Gross proceeds may be allocated to working capital expenditures as of any date only to the extent that working capital expenditures exceed available amounts calculated as of that date.

(ii) EXCEPTIONS -- (A) IN GENERAL. Gross proceeds of an issue that are described in paragraphs (d)(3)(ii)(A) and (d)(3)(ii)(B) of this section may be allocated to working capital expenditures under any reasonable, consistently applied accounting method, without regard to other available amounts (e.g., a "gross-proceeds-spent-first" method or a "specific-tracing" method).

(B) EXCEPTION FOR CERTAIN EXPENDITURES. Expenditures are described in this paragraph (d)(3)(ii)(B) if they are paid or incurred for any of the following:

(1) issuance costs of an issue within the meaning of section 147(g);

(2) reasonable charges for qualified guarantees under section 1.148-3(b)(12);

(3) payment of principal, interest, or call premium on arefunded issue, or payment of interest on a crossover refunding issue within the limitations of section 1.103-15; or

(4) payment of principal or interest on an issue from a bonafide debt service fund.

(C) DE MINIMIS EXCEPTION. Expenditures are described in this paragraph (d)(3)(ii)(C) if they do not exceed 5 percent of the saleproceeds of an issue and they are directly related to capital expenditures financed by the issue.

(iii) DEFINITION OF AVAILABLE AMOUNT -- (A) IN GENERAL. For purposes of this paragraph (d)(3), "available amount" means any amount available to an issuer for working capital expenditure purposes (as defined in paragraph (a)(4) of this section) of the type being financed by an issue, as further specified in this paragraph (d)(3)(iii), but the term does not include gross proceeds of the issue. "Available amount" includes cash, investments, and other amounts held in accounts or otherwise by the issuer or any member ofthe same controlled group (as defined in section 1.150-1(f)) as the issuer if those amounts may be used by the issuer for working capital expenditures of the type being financed by an issue without legislative or judicial action and without a legislative, judicial, or contractual requirement that those amounts be reimbursed.

(B) PERMITTED WORKING CAPITAL RESERVE. In determining whether anamount is available, a reasonable working capital reserve is treated as not available. The determination of whether a working capital reserve is reasonable is based on all the facts and circumstances regarding the issuer's operations and working capital expenditure needs. Absent extraordinary circumstances, a reasonable working capital reserve generally should not exceed an amount equal to 10 percent of the issuer's actual working capital expenditures in the previous fiscal year.

(C) ATTEMPTS TO KEEP AMOUNTS FROM BEING AVAILABLE. In determining whether an amount is available to an issuer, any requirement that the issuer reimburse the amount and any action orlack of action by or on behalf of the issuer is disregarded if that requirement, action, or lack of action is an artifice or device under section 1.103-13(j) or section 1.148-9(g) to prevent amounts from being available for working capital expenditures for purposes of this paragraph (d)(3).

(D) STATUTORY SAFE HARBOR FOR TAX AND REVENUE ANTICIPATION BOND EXPENDITURES. For purposes of section 148(f)(4)(B)(iii)(II), "amount available" has the same meaning as in paragraph (d)(3)(iii) of this section, except that the determination is made without regard to the otherwise-permitted reasonable working capital reserve.

(iv) REIMBURSEMENT OF UNAVAILABLE AMOUNTS. Gross proceeds of a nissue used to reimburse amounts that were not available amounts and that were used to pay working capital expenditures are allocated to working capital expenditures so long as the gross-proceeds-spent-last method under paragraph (d)(3)(i) of this section or an exception under paragraph (d)(3)(ii) of this section is otherwise satisfied.

(v) TREATMENT OF WORKING CAPITAL UNDER SECTION 147(b). Section 147(b) does not apply to proceeds of a private activity bond issue used to finance working capital expenditures.

(4) EXPENDITURES FOR GRANTS -- (i) IN GENERAL. Except as provided in paragraph (d)(4)(ii) of this section, gross proceeds of an issue that are used to make a grant are allocated to an expenditure on the date on which the grantee allocates the grant moneys to an expenditure to carry out the governmental purpose for which the grant was made. For purposes of this paragraph (d)(4)(i), the allocation and accounting rules of this section apply to a grantee of gross proceeds of an issue to the same extent as they apply to the issuer. Accordingly, a grantee must comply with this section to account for any gross proceeds of an issue received by it under a grant.

(ii) SPECIAL EXCEPTION FOR CERTAIN GRANTS. Gross proceeds of an issue that are used to make a grant are allocated to an expenditure for the governmental purpose of the issue on the date on which the grantor transfers the grant moneys to the grantee if the following requirements are satisfied:

(A) The grantor and the grantee are not members of the same controlled group (as defined in section 1.150-1(f)).

(B) The grantor reasonably expects to use least 90 percent of the proceeds of the issue from which the grant is made for purposes other than any private business use (as defined in section 141(b)(6)). For purposes of applying the preceding sentence only, use by a 501(c)(3) organization in furtherance of its-exempt purposes is not treated as a private business use.

(C) The grant is not made as an artifice or device under section 1.103-13(j) or section 1.148-9(g) to avoid, in whole or in part, the requirements of section 148.

(iii) CHARACTERIZATION OF REPAYMENTS OF GRANTS. If, for any reason, any amount of a grant financed by gross proceeds of an issue is repaid to the grantor, the amount of the repayment is treated as unspent sale proceeds of the issue as of the date of the repayment.

(5) EXPENDITURES FOR REIMBURSEMENT PURPOSES. Section 1.103-18 applies for purposes of allocating gross proceeds of issues of reimbursement bonds (as defined in section 1.103-18)), to certain capital expenditures.

(e) SPECIAL RULES FOR COMMINGLED FUNDS -- (1) IN GENERAL. For purposes of this section, an accounting method used by a commingled fund to account for gross proceeds of an issue in a commingled fund is reasonable only if the accounting method satisfies all other requirements of this section and the special accounting requirements of this paragraph (e).

(2) INVESTMENTS HELD BY A COMMINGLED FUND -- (i) IN GENERAL. All payments and receipts with respect to investments held by a commingled fund must be --

(A) Computed pursuant to a reasonable, consistently applied accounting method that complies with paragraph (c) of this section, and

(B) Allocated among the different investors (as defined in paragraph (e)(2)(iii) of this section) in the fund in accordance witha consistently applied, reasonable ratable allocation method.

(ii) PERMITTED RATABLE ALLOCATION METHODS. Reasonable ratable allocation methods for allocating payments and receipts with respectto investments held by a commingled fund among its different investors include, without limitation, methods that allocate these items in proportion to either --

(A) The average daily balances (as defined in paragraph (e)(2)(iv) of this section) of the amounts in the commingled fund from different investors during a computation period (as prescribedby paragraph (e)(4) of this section) (e.g., average daily balances during a daily, weekly, monthly, or quarterly computation period); or

(B) The average of the beginning and ending balances of the amounts in the commingled fund from different investors for a computation period that does not exceed one month.

(iii) DEFINITION OF INVESTOR. For purposes of this paragraph (e), the term "investor" means each different source of funds invested in a commingled fund. The same person is treated as a different investor with respect to each different source of funds invested in the commingled fund. For example, if a city invests gross proceeds of an issue and tax revenues in a commingled fund, it is treated as a different investor with respect to these two different sources of funds invested in the commingled fund.

(iv) DEFINITION OF AVERAGE DAILY BALANCE. For any period of time, the average daily balance of an amount in a commingled fund from a particular investor is the sum of the amounts in the commingled fund from that investor for each day in the period divided by the number of days in the period.

(3) CERTAIN EXPENDITURES INVOLVING A COMMINGLED FUND. Funds invested in the commingled fund from different investors may be allocated directly to expenditures for governmental purposes pursuant to a reasonable, consistently applied accounting method that complies with paragraph (d) of this section. If a ratable allocation method is used to allocate expenditures from the commingled fund under this paragraph (e)(3), it must be the same ratable allocation method as that used to allocate payments and receipts with respect to investments in the commingled fund under paragraph (e)(2) of this section.

(4) COMPUTATION PERIODS. A commingled fund must adopt a fiscal year. Absent this adoption, a commingled fund is deemed to adopt the calendar year as its fiscal year. Not less frequently than at the endof each computation period within its fiscal year, the commingled fund must compute and allocate (but not necessarily distribute) to each investor all payments and receipts with respect to investments, including accrued income, gains or losses realized from sales orother dispositions of investments, and expenditures. A commingled fund may use as its computation period any consistent time period within its fiscal year that does not exceed three months (e.g., adaily, weekly, monthly, or quarterly computation period), but it must consistently use that time period.

(5) UNREALIZED GAINS AND LOSSES ON INVESTMENTS OF A COMMINGLED FUND -- (i) COMMINGLED FUNDS WITH SHORTER-TERM INVESTMENT PORTFOLIOS. If the weighted average maturity (as defined in paragraph (e)(5)(iii)of this section) of all investments held by a commingled fund during a particular fiscal year does not exceed one year, and the investments held by the commingled fund during that fiscal yearconsist exclusively of debt obligations, then the commingled fund is not required to satisfy the mark-to-market requirement of paragraph(e)(5)(ii) of this section.

(ii) MARK-TO-MARKET REQUIREMENT FOR COMMINGLED FUNDS WITH LONGER-TERM INVESTMENT PORTFOLIOS. Except as provided in paragraph e)(5)(i) or (e)(6) of this section, a commingled fund must satisfy the mark-to-market requirement in either paragraph (e)(5)(ii)(A) or(e)(5)(ii)(B) of this section.

(A) MARK-TO-MARKET ANNUALLY. The commingled fund treats all its investments as if sold at fair market value (as defined in section 1.148-2(d)), on the last day of the fiscal year. The net gains or losses from these deemed sales of investments must be allocated to all investors of the commingled fund during that fiscal year. That allocation must use the same ratable method used to allocate other investment items under paragraph (e)(1) of this section.

(B) MARK-TO-MARKET FOR EACH INTERIM COMPUTATION PERIOD. The commingled fund consistently treats its investments as if sold at fair market value on the last day of each computation period (as defined in paragraph (e)(4) of this section). The net gains or losses from these deemed sales must be allocated to all investors of the commingled fund during that computation period. That allocation must use the same ratable method used to allocate other investment items under paragraph (e)(1) of this section.

(iii) DEFINITION OF WEIGHTED AVERAGE MATURITY. For any period of time, the weighted average maturity of the investments held by a commingled fund is the sum of the average maturities of the investments as of each day in the period divided by the number of days in the period. For any day, the average maturity of the investments of a commingled fund is the amount determined by --

(A) Multiplying the amount of the investment by its remaining maturity expressed in years (and any fraction thereof);

(B) Adding the products determined in paragraph (e)(4)(iii)(A)of this section; and

(C) Dividing the sum determined in paragraph (e)(4)(iii)(B) of this section by the aggregate amount of investments of the commingled fund for that day.

(6) ALLOCATIONS OF COMMINGLED FUNDS SERVING AS COMMON RESERVE FUNDS OR SINKING FUNDS -- (i) PERMITTED RATABLE ALLOCATION METHODS. Except as otherwise required by paragraph (b)(2) or (b)(3) of this section, if a commingled fund serves as a common reserve fund, replacement fund, or sinking fund for two or more issues, investments held by that commingled fund must be allocated, as of any required date of allocation, ratably among the applicable issues sharing the commingled fund in accordance with one of the following proportions --

(A) OUTSTANDING PRINCIPAL AMOUNT. The outstanding principal amounts of the issues as of the date of allocation, except that in the case of any bond of an issue that was issued with original issue discount or premium in excess of one-fourth of one percent multiplied by the number of complete years to maturity of issue, the present value of that bond must be used in lieu of its outstanding principal amount.

(B) PRESENT VALUE. The present values of the issues as of the date of the allocation determined in accordance with section 1.148-3(b)(8).

(C) AGGREGATE ONE-YEAR DEBT SERVICE. The aggregate amount of debt service payable on the issues covered by the commingled fund during the ensuing one-year period.

(ii) FREQUENCY OF ALLOCATIONS. An issuer must make any necessary allocations required by this paragraph (e)(6) not less frequently than once every five years and on each date that it adds an issue to the coverage of the commingled fund described in this paragraph (e)(6). This paragraph (e)(6) does not apply to a bona fide debt service fund (as defined in section 1.103-13(b)(12)).

(iii) EXCEPTION TO MARK-TO-MARKET REQUIREMENT FOR COMMINGLED RESERVE FUNDS AND SINKING FUNDS. The mark-to-market requirement of paragraph (e)(5)(ii) of this section does not apply to a commingled fund that serves exclusively as a common reserve fund, sinking fund, or replacement fund for two or more issues of the same issuer.

(f) EXPENDITURES OF CERTAIN COMMINGLED INVESTMENT PROCEEDS OF GOVERNMENTAL ISSUES -- (1) BONDS COVERED. This paragraph (f) applies to the following issues:

(i) GOVERNMENTAL ISSUES. Any issue that is not a private activity bond issue under section 141 (except as otherwise provided in paragraph (f)(1)(ii) of this section).

(ii) GOVERNMENTALLY-OWNED PRIVATE ACTIVITY BOND ISSUES. Any private activity bond issue under section 141 that is required by section 142 to be owned by a governmental unit.

(2) SPECIAL EXPENDITURE RULE. Amounts representing investment proceeds of any issue to which this paragraph (f) applies, excluding investment proceeds held in a refunding escrow fund, are treated as allocated to expenditures for a governmental purpose when both of the following requirements are satisfied --

(i) COMMINGLED WITH CERTAIN GOVERNMENTAL REVENUES. The amounts are deposited in a commingled fund with substantial tax or other revenues from governmental operations of the issuer.

(ii) REASONABLY EXPECTED TO BE SPENT WITHIN SIX MONTHS. The amounts are reasonably expected to be spent for governmental purposes within a period not to exceed six months from the date of the commingling. In establishing these reasonable expectations, an issuer may use any reasonable accounting assumption and is not bound by the"bond-proceeds-spent-last" assumption generally required for working capital expenditures under paragraph (d)(3) of this section.

(g) CONSEQUENCES OF CERTAIN FAILURES TO USE PERMITTED ACCOUNTING METHODS. If the Commissioner determines that a failure to account for gross proceeds of an issue in accordance with this section is not due to willful neglect, the Commissioner may prescribe a reasonable accounting method for gross proceeds of the issue that satisfies this section in lieu of or in conjunction with determining other consequences of that failure. Regarding the consequences of certain failures to comply with the arbitrage rebate requirement that are notdue to willful neglect generally, see section 1.148-1(c).

SECTION 1.148-5 TRANSACTIONS GIVING RISE TO IMPUTED RECEIPTS.

(a) IN GENERAL. [Reserved]

(b) SAFE HARBOR TO AVOID IMPUTATION OF INVESTMENT EARNINGS --(1) IN GENERAL. No investment earnings are imputed with respect to:

(i) TIME. Any uninvested amount contained in an eligible account for a period of not more than three consecutive business days, not to exceed in the aggregate 20 days in any bond year.

(ii) AVERAGE UNINVESTED BALANCE. Any uninvested amount contained in an eligible account during a bond year in which the average uninvested balance contained in the eligible account does not exceed $20,000.

(2) DEFINITIONS -- (i) UNINVESTED AMOUNT. An uninvested amount is an amount of gross proceeds that is uninvested, invested in a manner so that actual investment earnings cannot be determined (e.g., unintentionally lost or stolen records), or invested in a non-interest bearing demand or trust account.

(ii) AVERAGE UNINVESTED BALANCE. For any bond year, the average uninvested balance for any account is the sum of the uninvested amounts as of the close of each day in the bond year divided by the number of days in the bond year. For purposes of this paragraph(b)(2)(ii), any uninvested amount described in paragraph (b)(1)(i) of this section is not taken into account.

(iii) ELIGIBLE ACCOUNT. An eligible account is an account orfund containing gross proceeds of an issue meeting the following requirements:

(A) An eligible account cannot be created or availed of for the purpose of minimizing rebatable arbitrage.

(B) An eligible account must be consistent with the customary recordkeeping requirements and practices of its owner.

(C) Not more than 4 eligible accounts are permitted for any single owner with respect to any single bond issue.

(D) The issuer may not expect to receive a direct or indirect benefit from uninvested amounts on deposit in an eligible account. Neither the owner of the eligible account nor any agent or officer ofthe owner may enter into any arrangement, formal or informal, designed to give the owner (or its designee) any benefit as a result of uninvested amounts on deposit in the eligible account.

(E) For purposes of this section, two or more accounts or funds may at the option of the owner or owners be considered to be a single account so long as all amounts contained in the funds or accounts are gross proceeds of the same issue.

(c) CERTAIN IMPUTED ESCROW RECEIPTS -- (1) DEFEASANCE RECEIPT --(i) IN GENERAL. Any interest saving with respect to a bond that is directly attributable to an investment in a refunding escrow fund shall be treated as an imputed receipt with respect to such investment. The preceding sentence shall not apply to the extent that the interest saving is eliminated by payment of a similar amount with respect to a refunding bond. No interest saving is eliminated by a similar payment if the similar payment may be taken into account under section 1.148-3 in computing the yield on the issue of which the refunding bond is a part.

(ii) INTEREST SAVING. The term "interest saving" means, withrespect to a bond --

(A) Any reduction in a payment of interest on the bond; or

(B) Any reduction in a payment for a guarantee with respect to a bond or a purpose investment.

(iii) TRANSITION RULE. This paragraph (c)(1) shall apply to an issue sold on or before May 15, 1989, and issued on or before June 14, 1989, only to the extent that the interest saving is attributable to an investment in a refunding escrow fund established after June 14, 1989. The preceding sentence shall not apply to a refunding issue to which section 149(d)(4) applies if any interest saving describedin paragraph (c)(1)(ii)(A) or (c)(1)(ii)(C) of this section that is attributable to investments (other than transferred investments) that are allocated to the issue and in an refunding escrow fund is not taken into account in computing the yield on such issue for purposes of section 1.148-3.

(iv) SAVINGS TREATED AS PAID IN COMPUTING YIELD ON DEFEASEDBOND. A payment with respect to a bond that is reduced or recovered shall nonetheless be treated as paid with respect to the bond for purposes of section 1.148-3 if the interest saving from the reduction or recovery is treated as an imputed receipt with respect to an investment under paragraph (c)(1)(i) of this section (or is taken into account in computing the yield on a refunding issue under paragraph (c)(1)(iii) of this section).

(2) EXAMPLES. The following examples illustrate the application of this paragraph (c):

EXAMPLE 1. (i) In June 1989 City E issues a refunding issue the proceeds of which are to be used (together with other available funds) to defease all the outstanding bonds that are part of a refunded issue. The other available funds to be used to defease the outstanding bonds are proceeds of the refunded issue that were in a reasonably required reserve fund for the refunded issue, gross proceeds of the refunded issue that were in a bona fide debt service fund for the refunded issue, and other available funds that were not gross proceeds of the refunded issue before the date of issue of the refunding issue. A portion of the investments acquired with the proceeds of the refunding issue and the other available funds are tax-exempt investments.

(ii) The terms of the outstanding bonds provide that the 9 percent interest rate otherwise payable on any bond that is defeased is reduced by one percent per annum. All of the reduced payments of interest resulting from the defeasance of the outstanding bonds are interest savings described in paragraph (c)(1)(ii)(A) of this section. Since the interest savings are directly attributable to the investments in the refunding escrow funds, the savings are treated as imputed receipts with respect to the investments for purposes of section 1.148-2. The reduction in the 9 percent interest rate on the outstanding bonds is not taken into account in computing the yield on the outstanding bonds (or the issue of which such bonds are a part) under section 1.148-3. See paragraph (c)(1)(iv) of this section.

EXAMPLE 2. The facts are the same as in Example 1, except that (instead of a one percent reduction in payments of interest on the outstanding bonds), the defeasance results in a one percent reduction in payments for a guarantee with respect to the outstanding bonds. The outstanding bonds were secured by a letter of credit. The letter of credit is not a qualified guarantee (within the meaning of section 1.148-3(b)(12)). The annual letter of credit fee payable each year is equal to one percent of the outstanding principal amount of the bonds. The terms of the outstanding bonds provide that the letter of credit is not required to secure bonds that have been defeased. As a result of the defeasance, City E is no longer required to pay the annual letter of credit fees. Assume that City E will pay identical annual letter of credit fees for a letter of credit to secure the refunding issue, and that this letter of credit is a qualified guarantee (within the meaning of section 1.148-3(b)(12)). The reductions in the payments for the letter of credit fees with respect to the outstanding bonds are interest savings described in paragraph (c)(1)(ii)(B) of this section that are directly attributable to the investments in the refunding escrow funds. These interest savings are treated as imputed receipts with respect to the refunding escrow fund investments. The interest savings would not be treated as imputed receipts if the letter of credit securing the refunding issue was not a qualified guarantee (within the meaning of section 1.148-3(b)(12)).

EXAMPLE 3. The facts are the same as in Example 2, except that the entire letter of credit fee was prepaid on the date of issue of the outstanding bonds, and a portion of the prepaid fee is refunded by the guarantor when the outstanding bonds are defeased. The portion of the refunded fee that is properly allocable to the period that begins on the date the outstanding bonds are defeased and that ends on the date the outstanding bonds are retired is an interest saving directly attributable to the investments in the escrows. The portion of the refunded fee properly allocable to the period beginning on the date the outstanding bonds are retired and ending on the final maturity date of the outstanding bonds is not attributable to the investments in the escrows. The constant payment allocation method is a proper method of allocating the refund for this purpose. See section 1.148-3(b)(13)(iii)(C).

SECTION 1.148-6 SPENDING EXCEPTIONS.

(a) SCOPE OF SECTION -- (1) IN GENERAL. This section provides guidance on the two spending exceptions to the arbitrage rebate requirement of section 148(f)(2). Paragraph (b) of this section provides guidance only for the exception in section 148(f)(4)(B) (the"6-month exception"). Paragraphs (c) through (p) of this section provide guidance only for the exception in section 148(f)(4)(C) (the"2-year construction exception").

(2) RELATIONSHIP OF 6-MONTH EXCEPTION AND 2-YEAR CONSTRUCTION EXCEPTION. The 6-month exception and the 2-year construction exception are independent exceptions to the requirement to pay arbitrage rebate. Qualification for one exception does not require qualification for the other. For example, a construction issue that satisfies the 6-month exception need not satisfy the 2-year construction exception in order to be exempt from the arbitrage rebate requirement. A construction issue may qualify for the 6-month exception even though the issuer makes one or more elections under the 2-year construction exception with respect to the issue.

(3) SPENDING EXCEPTIONS NOT MANDATORY. An issuer that satisfies either the 6-month exception or the 2-year construction exception, orboth, for an issue is not required to apply those exceptions to the issue, but may instead apply the arbitrage rebate requirement of section 148(f)(2) to the issue. If an issuer elects to pay penalty in lieu of rebate under section 148(f)(4)(C)(vii) and paragraph (l) of this section, however, the issuer must apply the penalty provisions and may not apply the arbitrage rebate requirement of section 148(f)(2) to the available construction proceeds of the issue.

(b) 6-MONTH EXCEPTION -- (1) GENERAL RULE. Under section 148(f)(4)(B), an issue is treated as meeting the arbitrage rebate requirement of section 148(f)(2) if --

(i) The gross proceeds (as defined in paragraph (b)(3) of this section) of the issue are expended for the governmental purposes of the issue within the 6-month period beginning on the date of issue (the "6-month spending period"); and

(ii) The requirement of section 148(f)(2) is met for amounts not required to be spent within the 6-month spending period (other than earnings on amounts in any bona fide debt service fund).

(2) ADDITIONAL PERIOD FOR CERTAIN BONDS. Under section 148(f)(4)(B)(ii), the 6-month spending period is extended for an additional 6 months if --

(i) No part of the issue is a private activity bond (other than a qualified 501(c)(3) bond) or a tax or revenue anticipation bond;and

(ii) The gross proceeds of the issue are expended within the 6-month spending period except for a failure to spend an amount not exceeding the lesser of 5 percent of the issue price of the issue or$100,000.

(3) DEFINITION OF GROSS PROCEEDS. For purposes of section 148(f)(4)(B) only, "gross proceeds" has the same meaning as in section 1.148-8(d), except that it does not include --

(i) Amounts held in a bona fide debt service fund (as defined insection 1.103-14(b)(10)), including amounts used to pay accrued interest and interest on the issue that accrues no later than the date that is 1 year after the date of issue;

(ii) Amounts held in a reasonably required reserve or replacement fund (as defined in section 1.103-14(d), but limited inamount as required by section 148(d));

(iii) Amounts that, as of the date of issue of the bonds, are not reasonably expected to be gross proceeds but that become gross proceeds after the end of the 6-month spending period; and

(iv) Payments received under any purpose investment of the issue and earnings on those payments.

(4) PAYMENTS OF CERTAIN PRINCIPAL AND INTEREST. The governmental purposes of an issue include --

(i) Payments of interest on, but not payments of principal of, the issue; and

(ii) Payments of interest on or principal of other obligations of the issuer.

(5) REFUNDING ISSUES -- (i) DEFINITION. "Refunding issue" has the meaning used in section 1.148-11(b)(1).

(ii) TREATMENT OF TRANSFERRED PROCEEDS. Solely for purposes of section 148(f)(4)(B), a refunding of a tax-exempt issue by either a tax-exempt or taxable issue is not taken into account with respect to gross proceeds. Although gross proceeds of the refunded issue may "transfer" to the refunding issue and become transferred proceeds ofthe refunding issue for other purposes of section 148 (see section 1.148-11), they continue to be treated as unexpended gross proceeds of the refunded issue for purposes of section 148(f)(4)(B) until expended for the governmental purposes of the refunded issue. If the refunded issue qualifies for the 6-month exception, the arbitrage rebate requirement of section 148(f)(2) is treated as met with respect to the transferred proceeds.

(iii) REFUNDINGS OF TAX-EXEMPT OBLIGATIONS. Section 148(f)(4)(B) applies to a refunding issue without regard to any gross proceeds of a refunded tax-exempt issue that become transferred proceeds. Therefore, a failure to spend those transferred proceeds within 6 months of the date of issue of the refunding issue does not prevent the refunding issue from qualifying for the 6-month exception, and qualification of the refunding issue for the 6-month exception does not exempt those transferred proceeds from the arbitrage rebate requirement of section 148(f)(2) as gross proceeds of the refundingissue. Transferred proceeds that were not gross proceeds of there funded tax-exempt issue are treated as proceeds of the refunding issue for purposes of section 148(f)(4)(B). For example, transferred proceeds that were held in a reasonably required reserve or replacement fund for the refunded issue are treated as proceeds of the refunding issue for purposes of section 148(f)(4)(B), and are treated as gross proceeds of the refunding issue unless deposited ina bona fide debt service fund or in a reasonably required reserve or replacement fund for the refunding issue.

(iv) REFUNDINGS OF TAXABLE OBLIGATIONS. Proceeds of a taxableissue that become transferred proceeds of a refunding issue are treated as gross proceeds of the refunding issue for purposes of section 148(f)(4)(B), unless deposited in a bona fide debt service fund or a reasonably required reserve or replacement fund for therefunding issue. Thus, those transferred proceeds generally must be expended in accordance with the requirements of section 148(f)(4)(B) for the refunding issue to qualify for the 6-month exception, and if those requirements are met, the transferred proceeds are treated as having satisfied the arbitrage rebate requirement of section 148(f)(2).

(6) MULTIPURPOSE ISSUES. If any portion of a multipurpose issue (as defined in section 1.148-11(c)(3)) is treated as a separate issue allocable to refunding purposes under section 1.148-11(j), that portion is treated as a separate issue, except as limited by section 1.148-11(a)(2)(i).

(7) SERIES OF REFUNDINGS. If a primary purpose of issuing bonds as a series of refundings is to exploit the difference between taxable and tax-exempt interest rates by investing proceeds during the temporary periods provided in section 1.148-11(f), the 6-month spending period described in section 148(f)(4)(B)(i)(I) for all ofthe issues begins on the date that the first bonds in the series are issued.

(8) ACCOUNTING PROCEDURES. All allocations made for purposes of section 148(f)(4)(B) must comply with the requirements of sections 1.148-4 and 1.148-11. For example, gross proceeds are expended whenthey are allocated to an expenditure under section 1.148-4, and allocations between the refunding issue and the nonrefunding issue of a multipurpose issue must comply with section 1.148-11.

(c) 2-YEAR CONSTRUCTION EXCEPTION -- (1) GENERAL RULE. Undersection 148(f)(4)(C), the arbitrage rebate requirement of section 148(f)(2) does not apply to the available construction proceeds of a construction issue if the available construction proceeds are spent for the governmental purposes of the issue in accordance with the schedule provided in this paragraph (c)(1). "Construction issue" is defined in section 148(f)(4)(C)(iv) and paragraph (e) of this section, and "available construction proceeds" is defined in section 148(f)(4)(C)(vi) and paragraph (h) of this section. The spending schedule is as follows:

(i) At least 10 percent are spent within the 6-month period beginning on the date of issue (the "first spending period");

(ii) At least 45 percent are spent within the 1-year period beginning on the date of issue (the "second spending period");

(iii) At least 75 percent are spent within the 18-month period beginning on the date of issue (the "third spending period"); and

(iv) Except as otherwise provided in paragraph (c)(2) of this section, 100 percent are spent within the 2-year period beginning on the date of issue (the "fourth spending period").

(2) EXCEPTION FOR REASONABLE RETAINAGE. Under section 148(f)(4)(C)(iii) the requirement that 100 percent of available construction proceeds be spent by the end of the fourth spending period is treated as met if --

(i) As of the end of the fourth spending period, all of the available construction proceeds have been spent for the governmental purposes of the issue, except for amounts set aside as reasonable retainage (as defined in paragraph (g)(1) of this section);

(ii) The amounts set aside as reasonable retainage satisfy the 5 percent limitation described in paragraph (g)(2) of this section; and

(iii) 100 percent of the available construction proceeds are actually spent for the governmental purposes of the issue within the 3-year period beginning on the date of issue.

(d) PAYMENTS OF CERTAIN PRINCIPAL AND INTEREST. The governmental purpose of an issue includes --

(1) Payments of interest on, but not payments of principal of, the issue; and

(2) Payments of interest on other obligations of the issuer if those payments do not cause the issue to be a refunding issue. See paragraph (i) of this section.

(e) CONSTRUCTION ISSUE -- (1) DEFINITION. "Construction issue" means any issue (including a portion of a multipurpose issue treated as a separate issue under paragraph (j) of this section) that is not a refunding issue, if --

(i) At least 75 percent of the available construction proceeds of the issue are spent for construction expenditures (as defined in paragraph (f) of this section) with respect to property owned by a governmental unit or a 501(c)(3) organization; and

(ii) Any private activity bonds that are part of the issue are qualified 501(c)(3) bonds or private activity bonds issued to finance property owned by a governmental unit or a 501(c)(3) organization.

(2) SPECIAL ELECTION -- (i) USE OF REASONABLE EXPECTATIONS AS OF DATE OF ISSUE -- (A) An issuer may elect, on or before the date of issue, to satisfy the requirements described in section 148(f)(4)(C)(iv)(I) and paragraph (e)(1)(i) of this section based upon its reasonable expectations as of the date of issue. Thus, if this special election is made, the issuer must, as of the date of issue, reasonably expect the existence of all facts and the occurrence of all events necessary for the issue to meet the requirements of section 148(f)(4)(C)(iv)(I) and paragraph (e)(1)(i) of this section. For example, the issuer must reasonably expect the existence of facts and the occurrence of events that are necessary for expenditures to qualify as construction expenditures under paragraph (f) of this section, that at least 75 percent of the available construction proceeds of the issue will be used for those expenditures, and that the property will be owned by a governmental unit or a 501(c)(3) organization.

(B) An issuer must make this special election in order to elect to pay the 1.5 percent penalty in lieu of arbitrage rebate under section 148(f)(4)(C)(vii) and paragraph (l) of this section.

(C) An issuer need not reasonably expect to meet the semi-annual spending requirements described in section 148(f)(4)(C)(ii) and paragraph (c)(1) of this section in order for the issue to qualify as a construction issue.

(ii) REQUIREMENT TO STATE AND SUPPORT REASONABLE EXPECTATIONS -- (A) If an issuer makes this special election, expectations regarding the use of available construction proceeds must be stated and supported by the issuer in a written certification, included as part of the books and records maintained for the issue, made on or prior to the date of issue. This certification is binding upon the issuer for purposes of establishing the issuer's reasonable expectations, but is not conclusive and may be disregarded by the Commissioner in appropriate circumstances.

(B) The determination of whether an issuer has reasonable expectations on the date of issue is based on all relevant facts and circumstances, including its history of using proceeds in accordance with similar certifications and actions taken toward use of the proceeds in accordance with the certification.

(3) OWNERSHIP REQUIREMENT -- (i) IN GENERAL. Except as otherwise provided in this paragraph (e)(3), a governmental unit or 501(c)(3) organization is treated as the owner of property if it is treated as the owner for Federal income tax purposes or would be so treated if it were subject to Federal income taxation.

(ii) SAFE HARBOR FOR LEASES AND MANAGEMENT CONTRACTS. Property leased by a governmental unit or a 501(c)(3) organization is treated as owned by the governmental unit or 501(c)(3) organization if the lessee complies with the requirements of section 142(b)(1)(B). In the case of a bond described in section 142(a)(6), the requirements of section 142(b)(1)(B) apply as modified by section 146(h)(2)

(iii) ON-BEHALF-OF ISSUERS. In the case of obligations issued on behalf of a State or local governmental unit (as defined in section 1.103-1), the entity that actually issues the bonds is treated as a governmental unit.

(iv) OWNERSHIP BY ISSUER NOT REQUIRED. The issuer need not be the owner of the property financed by the issue in order for the issue to qualify as a construction issue.

(f) CONSTRUCTION EXPENDITURES -- (1) DEFINITION. "Construction expenditures" mean capital expenditures (as defined in section 1.150-1(h)) that, on or before the date the property financed by the expenditures is placed in service (as defined in section 1.103-8(a)(5)), will be properly chargeable to or may be capitalized as part of the basis of --

(i) Real property (as defined in paragraph (f)(4)(i) of this section), other than expenditures for --

(A) The acquisition of any interest in land; and

(B) Except as provided in paragraph (f)(2) of this section, the acquisition of any interest in real property other than land;

(ii) Constructed personal property (as defined in paragraph (f)(3) of this section); or

(iii) Specially developed computer software (as defined in paragraph (f)(5) of this section) that is functionally related and subordinate to real property or constructed personal property.

(2) TURNKEY CONTRACTS AND SIMILAR CONTRACTS. Expenditures are not for the acquisition of an interest in real property other than land if the contract between the seller and the issuer requires the seller to build or install the property (such as under a "turnkey contract"), and the property has not been built or installed at the time the parties enter into the contract. If the property has been partially built or installed at the time the parties enter into the contract, expenditures that are allocable to the portion of the property built or installed before that time are expenditures for the acquisition of real property.

(3) CONSTRUCTED PERSONAL PROPERTY. "Constructed personal property" means tangible personal property (as defined in paragraph (f)(4)(ii) of this section) that meets the requirements of either paragraph (f)(3)(i) or paragraph (f)(3)(ii) of this section.

(i) PROPERTY THAT THE ISSUER ACQUIRES. In the case of property that the issuer does not itself build or rehabilitate --

(A) The issuer acquires the property pursuant to a contract requiring the property to be specially built or rehabilitated to the issuer's specifications;

(B) At least 25 percent of the property built or rehabilitated under the contract, based on cost, is delivered to the issuer more than 6 months after the date the contract is entered into; and

(C) The issuer has no reason to believe that the seller, giving the contract ordinary priority, could have delivered all the property built or rehabilitated under the contract within 6 months after the date the contract is entered into.

(ii) PROPERTY THAT THE ISSUER BUILDS. In the case of property that the issuer builds or rehabilitates itself --

(A) No more than 75 percent of the amount that, under general Federal income tax principles, is properly chargeable to or may be capitalized as part of the basis of the completed property is attributable to tangible personal property acquired by the issuer (such as components, raw materials, and other supplies);

(B) The property is completed more than 6 months after the date the issuer began building or rehabilitating it; and

(C) The issuer, exercising due diligence, could not have completed the property within 6 months.

(4) DEFINITIONS OF REAL PROPERTY AND TANGIBLE PERSONAL PROPERTY. Local law definitions are not controlling for purposes of determining the meanings of "real property" and "tangible personal property" asused in this paragraph (f). For purposes of this paragraph (f), the following definitions apply:

(i) REAL PROPERTY. "Real property" means land and improvements thereto, such as buildings or other inherently permanent structures, including items that are structural components of such buildings or structures. In addition, "real property" includes interests in real property. For example, real property includes wiring in a building, plumbing systems, central heating or central air-conditioning systems, pipes or ducts, elevators or escalators installed in a building, paved parking areas, roads, wharves and docks, bridges, and sewage lines.

(ii) TANGIBLE PERSONAL PROPERTY. "Tangible personal property"means any tangible property except real property. In addition,"tangible personal property" includes interests in tangible personal property. For example, tangible personal property includes machinery that is not a structural component of a building, subway cars, firetrucks, automobiles, office equipment, testing equipment, and furnishings.

(5) SPECIALLY DEVELOPED COMPUTER SOFTWARE. "Specially developed computer software" means any programs or routines used to cause a computer to perform a desired task or set of tasks, and the documentation required to describe and maintain those programs, provided that the software is specially developed to meet the individual needs of the issuer, and either --

(i) If the issuer does not develop the software itself, the requirements of paragraphs (f)(3)(i)(B) and (C) of this section are met; or

(ii) If the issuer develops the software itself, the requirements of paragraphs (f)(3)(ii)(B) and (C) of this section are met.

(6) DEFINITION OF ISSUER. For purposes of this paragraph (f) only, "issuer" means the entity that actually issues the issue (the "actual issuer"), or if the proceeds of an issue are provided to a conduit borrower (as defined in section 1.150-1(g)), means the actual issuer or the conduit borrower.

(7) EXAMPLES. The operation of this paragraph (f) is illustrated by the following examples:

EXAMPLE 1. City C issued bonds to finance a new office building. C entered into a turnkey contract with developer X under which X agreed to provide C with a completed building on a specified completion date on land currently owned by X. Under the agreement, X held title to the land and building and assumed any risk of loss until the completion date, at which time title to the land and the building were transferred to C. No construction had been performed by the date that C and X entered into the agreement. All payments by C to X for construction of the building are construction expenditures because all the payments are properly capitalized as part of the basis of the building, but payments by C to X allocable to the acquisition of the land are not construction expenditures. Alternatively, if X had partially constructed the building prior to entering into the contract with C, only those payments by C for construction performed after the contract date would be construction expenditures.

EXAMPLE 2. P, a public agency, issued bonds to finance the acquisition of a right-of-way and the construction of sewage lines through numerous parcels of land. The right-of-way was acquired primarily through P's exercise of its powers of eminent domain. At the time the bonds were issued, P reasonably expected that it would take approximately 2 years to acquire the entire right-of-way because of the time normally required for condemnation proceedings. No expenditures for the acquisition of the right-of-way are construction expenditures because they are costs incurred to acquire an interest in real property. If 25 percent or less of the available construction proceeds are used to acquire the right-of-way, however, and the balance of the available construction proceeds are used for construction expenditures, the issue is a construction issue.

EXAMPLE 3. City D issued bonds to finance new subway cars for its mass transit system. The subway cars were custom built by A to D's specifications in order to operate properly on the system. Before they entered into the acquisition agreement for the subway cars, A informed D that it would take in excess of 6 months to provide the completed cars because of the time needed to build or modify the cars to D's specifications. The subway cars are constructed personal property. Payments by D for the subway cars are construction expenditures because they are properly capitalized as part of the basis of the subway cars. Alternatively, if A had informed D that it would only take 3 months to provide the completed cars but D requested that A delay delivery for 12 months until construction of a new portion of the system was completed, no payments for the subway cars would be construction expenditures. EXAMPLE 4. U, a public agency, issued bonds to finance an undivided fractional interest in a newly constructed power- generating facility. U contributed its ratable share of the cost of building the new facility to the project manager for the facility. U's contributions are construction expenditures in the same proportion that the total expenditures for the facility qualify as construction expenditures.

EXAMPLE 5. City E issued bonds to finance the purchase of unimproved land and the cost of subsequent improvements to the land, such as grading and landscaping, necessary to transform it into a park. The costs of the improvements were properly chargeable to the basis of the land. Expenditures by E for the improvements to the land are construction expenditures, but expenditures for the acquisition of the land are not.

EXAMPLE 6. Public agency L issued bonds to finance specially developed computer software for use in its accounting and billing system. L also issued bonds to finance specially developed computer software for use in the operation of its power generating facility. Expenditures for the software used in the operation of the power generating facility are construction expenditures because the software is functionally related and subordinate to real property, but expenditures for the accounting software are not construction expenditures.

(g) REASONABLE RETAINAGE -- (1) DEFINITION. "Reasonable retainage" means an amount retained by the issuer (as defined in paragraph (f)(6) of this section) for reasonable business purposes relating to the property financed with the proceeds of the issue, such as to ensure or promote compliance with the terms of one or more construction contracts (e.g., "punch list" items). Retainage need not be required by law in order to be reasonable. Retainage is reasonable if --

(i) The payee concedes that the amount retained is not yetpayable (as with "punch list" items); or

(ii) At the end of the 2-year period following the date of issue, the issuer reasonably determines that an actual dispute exists regarding either completion of construction or payment, and that the amount retained is reasonable in relation to the dispute.

(2) FIVE PERCENT LIMITATION. Reasonable retainage as of the endof the fourth spending period may not exceed 5 percent of the excess of the available construction proceeds as of that date (including actual earnings up to the end of the fourth spending period) over any amount used to, or deposited into an escrow to be used to, redeembonds under paragraph (m) of this section. Earnings that accrue after the end of the 2-year spending period are not part of available construction proceeds for purposes of the 5 percent limitation, butare part of available construction proceeds for all other purposes.

(h) AVAILABLE CONSTRUCTION PROCEEDS -- (1) DEFINITION. Except as otherwise provided in this paragraph (h), "available construction proceeds" means the amount equal to the sum of the issue price of an issue, earnings on the issue price, earnings on any amounts in a reasonably required reserve or replacement fund not funded from the issue, and earnings on all of the foregoing earnings, less the amount of the issue price deposited in any reasonably required reserve or replacement fund and the issuance costs financed by the issue. For purposes of this definition, earnings include earnings on any tax-exempt bond.

(2) EARNINGS ON A REASONABLY REQUIRED RESERVE OR REPLACEMENT FUND. Earnings on any reasonably required reserve or replacement fund (within the meaning of section 148(d)) are available construction proceeds only to the extent that those earnings accrue before the earlier of the date construction is substantially completed (as defined in paragraph (m)(4) of this section) or the date that is 2 years after the date of issue. On or before the date of issue, the issuer may elect under section 148(f)(4)(C)(vi)(IV) to exclude from available construction proceeds the earnings on any reasonably required reserve or replacement fund. If the election is made, the arbitrage rebate requirement of section 148(f)(2) applies to the excluded amounts from the date of issue.

(3) TREATMENT OF EXPECTED EARNINGS -- (i) DETERMINATION ON ISSUE DATE. If the special election under paragraph (e)(2) of this section is made, for purposes of determining whether an issue is a construction issue under section 148(f)(4)(C)(iv) and paragraph (e) of this section, available construction proceeds include future earnings that the issuer reasonably expects as of the date of issue.

(ii) DETERMINATION AT END OF SPENDING/PERIODS. Except as provided in paragraph (h)(3)(iii) of this section, for purposes of determining whether the spending requirements under section 148(f)(4)(C)(ii) and paragraph (c) of this section have been met as of the end of any semi-annual spending period (other than for purposes of the 5 percent limitation on reasonable retainage under section 148(f)(4)(C)(iii)(I) and paragraph (g)(2) of this section), available construction proceeds include actual earnings allocated to the issue as of the end of the spending period and future earnings that the issuer reasonably expects as of that date.

(iii) ELECTION TO USE DATE OF ISSUE REASONABLE EXPECTATIONS. For purposes of determining whether the spending requirements have been met as of the end of each of the first three spending periods, the issuer may elect, on or before the date of issue, to include in available construction proceeds the amount of earnings that the issuer reasonably expects as of the date of issue for the entire 2-year spending period, in lieu of including actual earnings and expected earnings as of the end of each spending period.

(4) ISSUANCE COSTS -- (i) IN GENERAL. Available construction proceeds do not include the amount of issuance costs financed by an issue. Thus, proceeds of an issue used to pay issuance costs do not apply towards meeting the spending requirements of section 148(f)(4)(C)(ii) and paragraph (c) of this section. Earnings on the proceeds used to pay issuance costs allocable to the construction issue, however, are included in available construction proceeds. Accordingly, the earnings are subject to the spending requirements of section 148(f)(4)(C)(ii) and paragraph (c) of this section, and if those spending requirements are met with respect to the issue, the earnings are not subject to the arbitrage rebate requirement of section 148(f)(2).

(ii) DEFINITION. "Issuance costs" has the meaning used in section 147(g). For example, issuance costs include payments for any guarantees, other than for qualified guarantees (as defined insection 1.148-3(b)(12)).

(5) ONE AND ONE-HALF PERCENT PENALTY IN LIEU OF ARBITRAGE REBATE. For purposes of the semi-annual spending requirements of section 148(f)(4)(C)(ii) and paragraph (c) of this section, available construction proceeds of a construction issue as of the end of any spending period are reduced by the amount of penalty in lieu of arbitrage rebate (under section 148(f)(4)(C)(vii) and paragraph (l) of this section) that the issuer has paid from available construction proceeds before the last day of the spending period.

(6) PAYMENTS ON PURPOSE INVESTMENTS AND REPAYMENTS OF GRANTS. Available construction proceeds do not include --

(i) Payments received under any purpose investment or earnings on those payments; or

(ii) Repayments of any grants (as defined in section 1.148-4(a)(4)) financed by the issue.

(7) EXAMPLES. The operation of this paragraph (h) is illustrated by the following examples:

EXAMPLE 1. City F issued bonds having an issue price of $10,000,000. F made the election under paragraph (e)(2) of this section to qualify the issue as a construction issue based on reasonable expectations as of the date of issue. F did not elect to determine the amount of earnings included in available construction proceeds on the basis of its reasonable expectations on the date of issue. F deposited all of the proceeds of the issue into a construction fund to be used for expenditures other than costs of issuance. F estimated on the date of issue that, based on reasonably expected expenditures and rates of investment, total earnings on the construction fund would be $800,000. As of the end of the first spending period, F had received $350,000 in earnings on the construction fund. Based on revised reasonably expected expenditures and rates of investment, F estimated that total additional earnings on the construction fund would be $600,000. As of the date of issue, the amount of available construction proceeds is $10,800,000. In order to qualify as a construction issue, F must reasonably expect on the date of issue that at least $8,100,000 (75 percent of $10,800,000) in the construction fund will be used for construction expenditures. As of the end of the first spending period, the amount of available construction proceeds is $10,950,000. In order to meet the 10 percent spending requirement for the first spending period, F must have spent at least $1,095,000 of proceeds.

EXAMPLE 2. The facts are the same as Example 1, except that F elected on the date of issue to determine the amount of earnings included in available construction proceeds on the basis of its reasonable expectations as of the date of issue. In addition, as of the end of the fourth spending period, F had received $1,100,000 in earnings. As of the end of each of the first three spending periods, the amount of available construction proceeds is $10,800,000. Thus, for example, in order to meet the 10 percent spending requirement at the end of the first spending period, F must have spent at least $1,080,000 of proceeds. In order to meet the spending requirement at the end of the fourth spending period, however, F must have spent all of the $11,100,000 of actual available construction proceeds (except possibly for a reasonable retainage amount not exceeding $555,000).

EXAMPLE 3. City G issued bonds having an issue price of $11,200,000. G made the election under paragraph (e)(2) of this section to qualify the issue as a construction issue based on reasonable expectations as of the date of issue. G did not elect to determine the amount of earnings included in available construction proceeds on the basis of its reasonable expectations as of the date of issue, and did not elect to exclude earnings on the reserve fund from available construction proceeds. G used $200,000 of proceeds to pay issuance costs and deposited $1,000,000 of proceeds into a reasonably required reserve fund. G deposited the remaining $10,000,000 of proceeds into a construction fund to be used for construction expenditures. On the date of issue, G reasonably expected that, based on the reasonably expected date of substantial completion and rates of investment, total earnings on the construction fund would be $800,000, and total earnings on the reserve fund to the date of substantial completion would be $150,000. G reasonably expected that substantial completion would occur during the fourth spending period. On the date of issue, G reasonably expected to use $10,800,000 of proceeds for construction expenditures ($10,000,000 in the construction fund plus $800,000 of expected earnings on the construction fund). At the end of the first spending period, G had received $40,000 in earnings on the reserve fund and $350,000 in earnings on the construction fund, and estimated that, based on the reasonably expected date of substantial completion and rates of investment, total additional earnings on the reserve fund would be $140,000 and on the construction fund would be $600,000. As of the date of issue, the amount of available construction proceeds is $10,950,000 ($10,000,000 originally deposited into the construction fund plus $800,000 expected earnings on the construction fund and $150,000 expected earnings on the reserve fund). In order for the issue to qualify as a construction issue, G must reasonably expect on the date of issue that at least $8,212,500 in the construction fund will be used for construction expenditures. As of the end of the first spending period, the amount of available construction proceeds is $11,130,000 ($10,000,000 originally deposited in the construction fund plus $350,000 actual earnings on the construction fund, $600,000 expected earnings on the construction fund, $40,000 actual earnings on the reserve fund, and $140,000 expected earnings on the reserve fund). In order to meet the 10 percent spending requirement on that date, G must have spent at least $1,113,000 of proceeds.

EXAMPLE 4. The facts are the same as Example 3, except that G elected, on or before the date of issue, to exclude earnings on the reserve fund from available construction proceeds. The amount of available construction proceeds as of the date of issue is $10,800,000, and as of the end of the first spending period is $10,950,000.

(i) REFUNDING ISSUES -- (1) DEFINITION. "Refunding issue" has the meaning used in section 1.148-11(b)(1).

(2) REFUNDINGS OF CONSTRUCTION ISSUES. Solely for purposes of section 148(f)(4)(C), a refunding of a construction issue by either a tax-exempt or a taxable issue is not taken into account, and proceeds of the construction issue do not become proceeds of the refunding issue ("transferred proceeds"). Therefore, although proceeds of a construction issue may "transfer" to the refunding issue and become transferred proceeds of the refunding issue for other purposes of section 148 (see section 1.148-11), these proceeds continue to be treated as unspent available construction proceeds of the construction issue for purposes of section 148(f)(4)(C) until spent for the governmental purposes of the construction issue. If the available construction proceeds of the construction issue qualify for the 2-year construction exception, the arbitrage rebate requirement of section 148(f)(2) is treated as met with respect to the available construction proceeds that become transferred proceeds. Similarly, if a penalty is paid under section 148(f)(4)(c)(vii) or (viii) for any period with respect to earnings on available construction proceeds that become transferred proceeds, the arbitrage rebate requirement of section 148(f)(2) is treated as met with respect to the transferred proceeds for that period.

(3) EXAMPLE. The operation of this paragraph (i) is illustrated by the following example.

EXAMPLE. In 1992, City H issued a construction issue having an issue price of $10,000,000. In 1993, H issued a refunding issue and used the proceeds to immediately retire all of the 1992 bonds. As of the date of issue of the refunding issue, $5,000,000 of available construction proceeds of the refunded issue were unspent. For purposes of the 2-year construction exception, $5,000,000 of available construction proceeds of the refunded issue continue, after the refunding, to be unspent available construction proceeds of the refunded issue. In addition, the refunding issue is not a construction issue, and the use of proceeds of that issue to pay principal or interest on the refunded issue is not a construction expenditure of proceeds of either the refunded issue or the refunding issue. If the refunded issue meets the requirements of the 2-year construction exception, the available construction proceeds that become transferred proceeds of the refunding issue are treated as having met the arbitrage rebate requirement of section 148(f)(2).

(j) APPORTIONING OF MULTIPURPOSE ISSUES -- (1) PORTION OF ISSUE USED FOR REFUNDING TREATED AS SEPARATE ISSUE. For purposes of section 148(f)(4)(C), if any portion of a multipurpose issue (as defined in section 1.148-11(c)(3)) is treated as a separate issue allocable to refunding purposes under section 1.148-11(j), that portion is treated as a separate refunding issue.

(2) ELECTION TO TREAT PORTION OF ISSUE USED FOR CONSTRUCTION AS SEPARATE ISSUE -- (i) IN GENERAL. For purposes of section 148(f)(4)(C), if any proceeds of an issue are to be used for construction expenditures, the issuer may elect to treat the portion of the multipurpose issue that is not a refunding issue under paragraph (j)(1) of this section as two, and only two, separate issues, if --

(A) One of the separate issues meets the definition of a construction issue in section 148(f)(4)(C)(iv) and paragraph (e) of this section;

(B) The issuer reasonably expects, as of the date of issue, that this construction issue will finance all of the construction expenditures to be financed by the multipurpose issue; and

(C) On or before the date of issue, the issuer makes an election to apportion the multipurpose issue under section 148(f)(4)(C)(v) that specifically identifies the amount of the issue price of the issue allocable to the construction issue.

(ii) LIMITATION ON USE OF NONCONSTRUCTION ISSUE FOR CONSTRUCTION EXPENDITURES. The Commissioner may treat as invalid any election under section 148(f)(4)(C)(v) and paragraph (j)(2) of this section if proceeds of the multipurpose issue that are not part of the construction issue (the "nonconstruction issue") are used for construction expenditures and the requirements of paragraph (j)(2)(i)(B) of this section are not met.

(3) EXAMPLE. The operation of this paragraph (j) is illustrated by the following example.

EXAMPLE. City D issued bonds having an issue price of $19,000,000. D made the election under paragraph (e)(2) of this section to determine qualification as a construction issue based on reasonable expectations as of the date of issue. On the date of issue, D reasonably expected to use $10,800,000 of bond proceeds (including investment earnings) for construction expenditures for the project being financed. D deposited $10,000,000 in a construction fund to be used for construction expenditures and $9,000,000 in an acquisition fund to be used for acquisition of equipment not qualifying as construction expenditures. D estimated on the date of issue, based on reasonably expected expenditures and rates of investment, that total earnings on the construction fund would be $800,000 and total earnings on the acquisition fund would be $200,000. Because the total construction expenditures to be financed by the issue are expected to be $10,800,000, the maximum available construction proceeds for a construction issue would be $14,400,000 ($10,800,000 divided by .75). In order to determine the maximum amount of the issue price allocable to a construction issue, the estimated investment earnings allocable to the construction issue must be subtracted. The entire $800,000 of earnings on the construction fund are allocable to the construction issue. Only a portion of the $200,000 of earnings on the acquisition fund, however, are allocable to the construction issue. The total amount of the available construction proceeds that is expected to be used for acquisition is $3,600,000 ($14,400,000 - $10,800,000). The portion of earnings on the acquisition fund that are allocable to the construction issue are $78,261 ($200,000 x $3,600,000/$9,200,000). Accordingly, D may elect on or before the date of issue to treat up to $13,521,739 of the issue price as a construction issue ($14,400,000 - $800,000 - $78,261). D's election must specify the amount of the issue price treated as a construction issue. The balance of the issue price is treated as a separate nonconstruction issue that is subject to the arbitrage rebate requirement of section 148(f)(2) unless it meets another exception to arbitrage rebate, such as the 6-month exception of section 148(f)(4)(B). Because the financing of a construction issue is a separate governmental purpose under section 1.148-11(c)(3), the election causes the issue to be a multipurpose issue under that section.

(k) ACCOUNTING PROCEDURES -- (1) IN GENERAL. Except as otherwise provided in this paragraph (k), all allocations made for purposes of section 148(f)(4)(C) must comply with the requirements of sections 1.148-4 and 1.148-11. For example, available construction proceeds are spent when they are allocated to an expenditure under section 1.148-4, and allocations between the construction, nonconstruction, and refunding issues of a multipurpose issue must comply with sections 1.148-4 and 1.148-11. Thus, in the case of a multipurpose issue, amounts in a reserve fund or amounts used to pay issuance costs generally may be allocated ratably between the construction, nonconstruction, and refunding issues, but if a different allocation method more accurately reflects the economics of the transaction, that allocation method may be used.

(2) EARNINGS AS OF FINAL SPENDING PERIODS. Accrued earnings allocable to the available construction proceeds of an issue that have not been actually or constructively received as of the end of either the fourth spending period or the spending period ending 36 months after the date of issue are deemed to have been spent as of the end of the spending period if --

(i) On or before the end of the spending period, the earnings are designated for a specific expenditure for the governmental purposes of the issue as evidenced by an entry on the issuer's books and records maintained for the issue, and

(ii) On or before the date that is 6 months after the end of the spending period, the expenditure is actually made, and the earnings are relieved from any restrictions under the relevant legal documents and applicable state law that apply only to unspent bond proceeds.

(1) ONE AND ONE-HALF PERCENT PENALTY IN LIEU OF ARBITRAGE REBATE -- (1) IN GENERAL. Under section 148(f)(4)(C)(vii), the issuer of a construction issue may elect, on or before the date of issue, to pay a penalty (the "1-1/2 percent penalty") to the United States in lieu of the obligation to pay arbitrage rebate on available construction proceeds in the event that the issue fails to satisfy the spending requirements of section 148(f)(4)(C)(ii) and paragraph (c) of this section. An election of the 1-1/2 percent penalty is not effective unless the issuer also makes the special election under paragraph (e)(2) of this section to qualify as a construction issue based upon reasonable expectations as of the date of issue. The 1-1/2percent penalty is calculated separately for each spending period, including any semi-annual spending period after the end of the fourth spending period, and is equal to 0.015 times the under expended proceeds as of the end of the spending period. For each spending period, under expended proceeds are computed by subtracting available construction proceeds spent for the governmental purposes of the issue by the end of the spending period from available construction proceeds required to be spent by the end of the spending period. No penalty is due if the under expended proceeds are equal to or less than zero. The 1-1/2 percent penalty ceases to apply only after the last scheduled maturity date of bonds that are part of the issue, and any bonds of another issue that refunds bonds of the issue, unless the penalty is terminated under paragraph (m) of this section. The 1-1/2 percent penalty must be paid to the United States no later than 90 days after the end of the spending period to which the penalty elates.

(2) NO REASONABLE EXPECTATIONS REQUIRED. In order to elect to pay the 1-1/2 percent penalty in lieu of arbitrage rebate, the issuer of a construction issue is not required to reasonably expect that the issue will meet the spending requirements of section 148(f)(4)(C)(ii) and paragraph (c) of this section.

(3) APPLICATION TO REASONABLE RETAINAGE. The 1-1/2 percent penalty does not apply to unspent available construction proceeds as of the close of the fourth spending period and any spending period thereafter if the issue meets the exception for reasonable retainage described in section 148(f)(4)(B)(iii) and paragraph (c)(2) of this section. If the issue meets the exception for reasonable retainageexcept that all retainage is not spent within 36 months of the date of issue, then, within 90 days after the end of the 36-month period, the issuer is required to make payments of the 1-1/2 percent penalty to the United States with respect to any reasonable retainage that was not spent as of the close of the fourth spending period and the spending periods ending 30 and 36 months after the date of issue. The 1-1/2 percent penalty continues to apply at the end of each semi-annual spending period thereafter until the earliest of the following:

(i) The termination of the penalty under section 148(f)(4)(C)(viii) or (ix) and paragraph (m) of this section, except as provided in paragraph (m)(3) of this section;

(ii) The expenditure of all of the retainage; or

(iii) The last scheduled maturity date of bonds that are part ofthe issue, and any bonds of another issue that refund bonds of the issue.

(4) COORDINATION WITH ARBITRAGE REBATE REQUIREMENT. The arbitrage rebate requirement of section 148(f)(2) is treated as met with respect to available construction proceeds for a period if a penalty for that period is paid in lieu of arbitrage rebate as provided in section 148(f)(4)(C)(vii), (viii), or (ix).

(m) TERMINATION OF 1-1/2 PERCENT PENALTY IN LIEU OF ARBITRAGE REBATE -- (1) TERMINATION OF 1-1/2 PERCENT PENALTY AFTER INITIAL TEMPORARY PERIOD. Under section 148(f)(4)(C)(viii), the issuer of a construction issue may terminate the 1-1/2 percent penalty after the initial temporary period (as defined in paragraph (m)(5) of this section) if --

(i) Not later than 90 days after the earlier of the end of the initial temporary period or the date construction is substantially completed (as defined in paragraph (m)(4) of this section), the issuer elects to terminate the 1-1/2 percent penalty;

(ii) Within 90 days after the end of the initial temporary period, the issuer pays a penalty equal to 3 percent of the unexpended available construction proceeds determined as of the endof the initial temporary period, multiplied by the number of years (including fractions of years computed to 2 decimal places) in th einitial temporary period;

(iii) As of the close of the initial temporary period, the unexpended available construction proceeds are invested either in tax-exempt bonds (as defined in section 1.148-8(e)(3)) or in other investments at yields not exceeding the yield on the issue. This requirement applies at all times, and no further temporary periods under section 148(c) are permitted for the available construction proceeds, including but not limited to temporary periods for investment of proceeds; and

(iv) On the earliest date on which the bonds may be called or otherwise redeemed, the unexpended available construction proceeds as of that date are used to redeem the bonds. Amounts used to pay any call premium are treated as used to redeem bonds. The presence of any call premium or penalty does not prevent a date from being the earliest call date. This redemption requirement may be met by purchases of bonds by the issuer on the open market at prices not exceeding fair market value. A portion of the annual principal payment due on serial bonds of a construction issue may be paid from the unexpended amount, but only in an amount no greater than the amount that bears the same ratio to the annual principal due that the total unexpended amount bears to the issue price of the construction issue.

(2) TERMINATION OF 1-1/2 PERCENT PENALTY BEFORE END OF INITIAL TEMPORARY PERIOD. Under section 148(f)(4)(C)(ix), if the construction to be financed by the construction issue is substantially completed before the end of the initial temporary period, the issuer may elect to terminate the 1-1/2 percent penalty before the end of the initial temporary period if --

(i) Before the close of the initial temporary period and not later than 90 days after the date the construction is substantially completed, the issuer elects to terminate the 1-1/2 percent penalty;

(ii) The election identifies the amount of available construction proceeds that will not be spent for the governmental purposes of the issue; and

(iii) The issuer has met all of the conditions for termination of the 1-1/2 percent penalty described in paragraph (m)(1) of this section, applied as if the initial temporary period ended as of the date the election is made under paragraph (m)(2)(i) of this section. A penalty termination election under paragraph (m)(2)(i) of this section satisfies the penalty termination election requirement of paragraph (m)(1)(i) of this section.

(3) APPLICATION TO REASONABLE RETAINAGE. Solely for the purposes of determining whether the conditions for terminating the 1-1/2 percent penalty are met, reasonable retainage may be treated as spent for a governmental purpose of the construction issue. Reasonable retainage that is so treated continues to be subject to the 1-1/2 percent penalty.

(4) DATE CONSTRUCTION IS SUBSTANTIALLY COMPLETED. The "date construction is substantially completed" is either the date on which the issuer reasonably determines that the construction financed withthe proceeds of the construction issue is substantially complete or the date on which the issuer abandons the construction. In no event is construction substantially completed, however, earlier than the date that the issuer has spent available construction proceeds on the construction in an amount equal to at least 90 percent of the total costs of the construction that the issuer reasonably expects, as of that date, will be financed with the proceeds of the construction issue. If the issuer abandons only a portion of the construction, the date of substantial completion is the date that the non-abandoned portion of the construction is substantially completed.

(5) INITIAL TEMPORARY PERIOD. "Initial temporary period" means the period described in section 148(c), except that the end of the initial temporary period is determined without regard to section 149(d)(3)(A)(iv).

(6) EXAMPLE. The operation of this paragraph (m) is illustrated by the following example.

EXAMPLE. City I issued a construction issue having a 20- year maturity and qualifying for a 3-year initial temporary period. The bonds were first subject to optional redemption 12 years after the date of issue at a premium of 3 percent. I _______ elected, on or before the date of issue, to pay the 1-1/2 percent penalty in lieu of arbitrage rebate. At the end of the 3-year temporary period, the project was not substantially completed, and $1,500,000 of available construction proceeds of the issue were unspent. I reasonably expected to need $500,000 to complete the project. I may terminate the 1-1/2 percent penalty in lieu of arbitrage rebate with respect to the excess $1,500,000 by electing to terminate within 90 days of the end of the initial temporary period; paying a penalty to the United States of $135,000 (3 percent of $1,500,000 multiplied by 3 years); restricting the yield on the unspent available construction proceeds for 9 years to the first call date; and using the available construction proceeds that have not been spent for the governmental purposes of the issue to redeem bonds on the first call date. If I fails to make the termination election, I is required to pay the 1-1/2 percent penalty on unspent available construction proceeds every 6 months until the latest maturity date of bonds that were part of the issue (including any bonds of another issue that refunds bonds of the issue).

(n) PAYMENT OF PENALTIES -- (1) ROUNDING RULE. Each penalty payment under section 148(f)(4)(C)(vii), (viii), and (ix) and paragraphs (l) and (m) of this section may be rounded down to the nearest multiple of $100. Thus, any amount less than $100 is rounded to zero.

(2) COMPUTATION CREDIT. Each penalty payment may be reduced by a computation credit of $300.

(3) METHOD. A penalty or correction amount is paid under section 148(f)(4)(C) and this paragraph (n) when payment is made to the Internal Revenue Service. The penalty payment must be accompanied bythe appropriate form.

(4) FAILURE TO PAY -- (i) INNOCENT FAILURES. A construction issue is treated as meeting the requirements for payment of a penalty under sections 148(f)(4)(C)(vii), (viii), and (ix) and paragraphs (l) and (m) of this section notwithstanding an innocent failure to pay if the issuer pays the correction amount to the United States in the manner provided in paragraph (n)(4)(ii) of this section and within the time and in the manner permitted for correction of innocent failure to pay arbitrage rebate as provided in section 1.148-1(c), excluding section 1.148-1(c)(2)(ii). For this purpose, payment of a penalty is treated as a rebate payment.

(ii) PAYMENT OF ADDITIONAL PENALTY IN LIEU OF LOSS OF TAX EXEMPTION -- (A) GENERAL RULE. A construction issue that (but for this paragraph (n)(4)(ii)) would fail to meet a requirement to pay a penalty under section 148(f)(4)(C)(vii), (viii), or (ix) because of a failure to pay a penalty in the required amount or within the required time is treated as meeting the requirement only if --

(1) The Commissioner determines that the failure is not due to willful neglect; and

(2) The issuer pays to the United States, no later than the date specified by the Commissioner in the determination, the correction amount plus an additional penalty equal to 50 percent of the sum of the penalty not paid when required plus interest on the penalty not paid when required for the period beginning on the date the penalty was required to be paid at the underpayment rate established under section 6621. For the purpose of determining the correction amount, section 1.148-1(c)(2), excluding section 1.148-1(c)(2)(ii), appliesto this paragraph (n)(4)(ii), and a payment of penalty is treated as a payment of rebate.

(B) WAIVER BY COMMISSIONER. The Commissioner may waive all or any part of the additional penalty under this paragraph (n)(4)(ii).

(iii) EFFECT OF FAILURE TO PAY. Bonds that are part of an issue for which there is a failure to pay any required penalty amount under sections 148(f)(4)(C)(vii), (viii), and (ix) and paragraphs (l) and (m) of this section (and any bonds of another issue that refund those bonds) are treated as never having been described in section 103(a).

(o) POOLED FINANCING BONDS -- (1) DEFINITION. Bonds are "pooled financing bonds" if the issuer reasonably expects on the date of issue to provide the proceeds of the bonds to 2 or more conduit borrowers (as defined in section 1.150-1(g)). Except as specifically provided in this paragraph (o), the 2-year construction exception of section 148(f)(4)(C) applies to an issue of pooled financing bonds as a whole, rather than to each loan separately.

(2) IN GENERAL. Under section 148(f)(4)(C)(xi), at the electionof the issuer of a construction issue of pooled financing bonds, the periods for the spending requirements set forth in section 148(f)(4)(C)(ii) and paragraph (c) of this section are determined separately for each loan to a conduit borrower and the spending period for a loan begins on the earlier of the date the loan is made, or the first day following the 1-year period beginning on the date of issue of the pooled financing bonds. If the issuer of the pooled financing bonds makes this election, the arbitrage rebate requirement of section 148(f)(2) applies to, and the 2-year construction exception of section 148(f)(4)(C) is not available for, available construction proceeds of the pooled financing bonds prior to the date on which the spending period for those proceeds begins under the preceding sentence.

(3) SPENDING REQUIREMENTS. If the issuer of a construction issue makes the election under section 148(f)(4)(C)(xi) and paragraph (o)(2) of this section, the spending requirements set forth insection 148(f)(4)(C)(ii) and paragraph (c) of this section apply separately to each loan to a conduit borrower. If the issuer makes this election but does not make the election to pay the 1-1/2 percent penalty in lieu of arbitrage rebate under section 148(f)(4)(C)(vii) and paragraph (l) of this section, the arbitrage rebate requirementof section 148(f)(2) applies to the available construction proceeds of the entire issue unless each loan meets the spending requirements. If the issuer makes the election to pay the 1-1/2 percent penalty in lieu of arbitrage rebate, the 1-1/2 percent penalty must be paid for each loan in the manner and at the times required by section 148(f)(4)(C)(vii) and paragraph (l) of this section.

(4) APPORTIONMENT OF LOANS. Notwithstanding paragraph (j) of this section, if the issuer of pooled financing bonds makes the election under section 148(f)(4)(C)(v) and paragraph (j)(2) of this section, the issuer is not required to specifically identify the amount of the multipurpose issue that is treated as a separate construction issue in the election made on or prior to the date of issue. For a loan made to a conduit borrower from the pool within 1year of the date of issue, the issuer must, on or before the date the loan is made, supplement the election by specifically identifying the amount of the loan that is part of the separate construction issue. For available construction proceeds that have not been loaned within 1 year of the date of issue, the issuer must, on or before the date that is 1 year after the date of issue, supplement the election by specifically identifying the amount of those proceeds that is part of the separate construction issue of the multipurpose issue. For purposes of section 148(f)(4)(C)(iv) and paragraph (e) of this section, each pool loan is treated as a separate issue, and, if the special election under paragraph (e)(2) of this section is made, reasonable expectations as to the portion of the loan to be used for construction expenditures are determined as of the date of the pool loan. Except as otherwise provided in this paragraph (o)(4), the requirements of sections 148(f)(4)(C)(v) and (xiii)(II) and paragraph (j) of this section relating to apportionment apply to each loan rather than to the issue.

(5) TERMINATION OF 1-1/2 PERCENT PENALTY IN LIEU OF ARBITRAGE REBATE. Notwithstanding paragraph (m) of this section, the issuer of a pooled financing bond may elect to terminate the 1-1/2 percent penalty in lieu of arbitrage rebate for a loan rather than the entire issue. If the issuer so elects, the requirements of sections 148(f)(4)(C)(viii) and (ix) and paragraph (m) of this section apply to each loan (as if it were a separate issue), rather than to the issue.

(6) OTHER ELECTIONS. All other elections permitted under section 148(f)(4)(C) and paragraphs (c) through (p) of this section must be made by the issuer with respect to the entire issue.

(7) EXAMPLES. The operation of this paragraph (o) is illustrated by the following examples:

EXAMPLE 1. On January 1, 1992, Authority J issued bonds. J made the election under paragraph (e)(2) of this section to qualify as a construction issue based on reasonable expectations as of the date of issue. As of the date of issue, J reasonably expected to use the proceeds of the issue to make loans to City K and to County L, and also reasonably expected that more than 75 percent of the available construction proceeds of the issue would be used for construction expenditures, but did not reasonably expect that more than 75 percent of the available construction proceeds in each loan would be used for construction expenditures. On or before the date of issue, J elected that the spending periods for each loan begin on the earlier of the date the loan is made and the first day following the 1-year period beginning on the date of issue. On February 1, 1992, J loaned a portion of the available construction proceeds to K. On March 1, 1993, J loaned the remainder of the available construction proceeds to L. For the loan to K, the first spending period ends on July 31, 1992, and the available construction proceeds loaned to K are subject to the arbitrage rebate requirement of section 148(f)(2) for the period prior to the loan (January 1, 1992 through January 31, 1992). For the loan to L, the first spending period ends on July 1, 1993, and the available construction proceeds loaned to L are subject to the arbitrage rebate requirement of section 148(f)(2) for the 1- year period starting on the date of issue. The issue is a construction issue, but each loan must meet its spending requirements in order for the available construction proceeds of the issue to be excepted from the requirement to pay arbitrage rebate.

EXAMPLE 2. The facts are the same as Example 1 except as stated below. On the date of issue, J reasonably expected that 50 percent of the available construction proceeds of the issue would be used for construction expenditures and elected to treat a portion of the issue as a separate construction issue, but did not specify the amount of the issue price to be treated as a separate construction issue. For the available construction proceeds loaned to K, J must specify the amount of the loan that is treated as part of the separate construction issue on or before February 1, 1992. For the remaining available construction proceeds, J must specify, on or before January 2, 1993, the amount of the those proceeds that are treated as part of the separate construction issue.

(p) ELECTIONS -- (1) IN GENERAL. Any election made by an issuer under section 148(f)(4)(C) or paragraphs (c) through (p) of this section is irrevocable and must be evidenced by a written entry in the books and records of the issuer maintained for the issue and must comply with any filing requirements promulgated by the Internal Revenue Service. An election under this section must be made by the governing body of the issuer or by an officer of the issuer responsible for issuing the issue. Except for elections under sections 148(f)(4)(C)(viii) and (ix) and paragraph (m) of this section and under section 1.148-0(b)(6)(ii) and except as provided in paragraph (p)(2) of this section, any election for an issue under this section must be made on or before the date of issue.

(2) TRANSITION RULE FOR CERTAIN ELECTIONS. If an issuer makes the election for an issue under section 1.148-0(b)(6)(ii) --

(i) The issuer may make the elections under paragraphs (h)(3)(iii) and (e)(2) of this section on or before the date that the election under section 1.148-0(b)(6)(ii) is made; and

(ii) An election made, on or before the date of issue, under section 148(f)(4)(C)(v) to treat a portion of an issue as a separate construction issue will not be treated as invalid solely because of a failure to specifically identify the amount of the issue price allocable to the construction issue.

(3) PROCEDURAL REQUIREMENTS. An election under this section must satisfy the requirements of section 1.148-8(h)(2).

(4) EXTENSION OF TIME. The Commissioner may extend the time to make the elections under paragraphs (h)(3)(iii) and (e)(2) of this section if the requirements of sections 1.148-8(h)(3)(ii)(A) and (B) are satisfied.

SECTION 1.148-7 EXCEPTION FOR SMALL ISSUERS WITH GENERAL TAXING POWERS. [Reserved]

SECTION 1.148-8 DEFINITIONS AND SPECIAL RULES RELATING TO REQUIRED REBATE.

(a) APPLICABILITY. The definitions and rules in this section apply for purposes of this section and sections 1.148-0 through 1.148-11 except to the extent otherwise provided. See section 1.150-1 for definitions and special rules relating to tax-exempt bond requirements in general.

(b) COMPUTATIONS AND DETERMINATIONS -- (1) COMPUTATION DATES -- (i) IN GENERAL. The term "computation date" means an installment computation date or the final computation date.

(ii) INSTALLMENT DATE. The term "installment computation date"means, with respect to an issue, the last day of the fifth and each succeeding fifth bond year.

(iii) FINAL DATE. The term "final computation date" means, with respect to an issue, the date the last bond that is part of the issue is discharged.

(iv) OTHER DATE. If the Commissioner determines that an issue is likely to fail to meet the requirements of section 1.148-1 and that a failure to serve a notice of demand for payment on the issuer will jeopardize the assessment or collection of tax on interest paid or to be paid on the issue, the date the Commissioner serves such notice on the issuer shall be treated as a computation date. The Commissioner shall designate in the notice whether such date shall be treated as an installment computation date or a final computation date (whichever is necessary to carry out the purposes of this paragraph (b)(1)(iv)).

(2) BOND YEAR. The term "bond year" means, with respect to an issue, each 1-year period (or shorter period from the date of issue) that ends at the close of business on the day in the calendar year that is selected by the issuer. If no day is selected by the issuer before the earlier of the final maturity date of the issue or the date that is 5 years after the issue date, each bond year ends at the close of business on the day preceding the anniversary of the issue date.

(3) DISCHARGE. A bond is discharged on the date all amounts due thereunder are actually and unconditionally due if cash is available at the place of payment, and no interest accrues with respect to the bond after such date. See section 1.150-1(d)(2) for definition of actually and unconditionally due. An amount is paid or used to discharge the principal or interest on or the retirement price of abond on the date such principal or interest or retirement price is actually and unconditionally due if cash is available at the place of payment, and no interest accrues with respect to such payment after such date.

(4) ACTUAL FACTS. Except as otherwise provided, all computations and determinations shall be made on the basis of actual facts as of the computation date and reasonable expectations as to future events.

(5) PRESENT VALUE. The present value of an amount to be received or paid is determined by using the following formula:

PV = FV / (1 + i)(to the nth power) where:

PV = The present value of the amount to be received or paid.

FV = The amount to be received or paid.

i = The discount rate (expressed as a decimal) divided by the number of compounding intervals in a year.

n = The sum of the number of whole compounding intervals during the period beginning on the date as of which the present value is computed and ending on the date the amount is to be received or paid, and a fraction, the numerator of which is the length of any short compounding interval during such period, and the denominator of which is the length of a whole compounding interval.

(6) CONVENTIONS -- (i) WHOLE INTERVALS. All whole intervals and compounding intervals, whether expressed annually, semiannually, monthly, or with reference to any other regular interval, shall betreated as having equal length.

(ii) SHORT INTERVALS. In computing the length of any shortinterval or compounding interval, either the 30 days per month/360days per year convention or the actual days per month/actual days per year convention shall be consistently used; provided that, either convention may be consistently used for each investment. The examples herein use the 30 days per month/360 days per year convention.

(iii) YIELD. Yield is an annual percentage rate and, when expressed as a decimal, shall be accurate to at least six places (and rounded to at least five).

(iv) OTHER CONVENTIONS. Other standard financial conventions maybe used. For example, amounts payable on the first business day of a month may be treated as if payable on the first day of the month.

(c) ISSUE PRICE -- (1) IN GENERAL. The term "issue price" has the meaning given such term by sections 1273 and 1274. Thus, if bonds are publicly offered (i.e., sold by the issuer to a bond house, broker, or similar persons acting in the capacity of underwriters or wholesalers) and are not issued for property, the issue price of the bonds is determined on the basis of the initial offering price to the public at which price a substantial amount of the bonds was sold to the public. Such price shall be determined separately for bonds that are not substantially identical. If a bond is sold to the public after the date of issue, the price at which the bond is sold must be adjusted to reflect the price at which the bond would have been soldon the date of issue. This adjustment shall eliminate any change in the fair market value of the bond after the date of issue (including any change attributable to interest and premium or discount that accrues on the bond after such date). If a bond is issued for property, appropriate adjustments shall be made to the applicable Federal rate to take into account the tax exemption of the bond inapplying section 1274. See section 1288(b)(1).

(2) SPECIAL RULES. For purposes of determining the issue price of a bond under paragraph (c)(1) of this section --

(i) REASONABLE EXPECTATIONS. Except as otherwise provided in this paragraph (c)(2), the issue price of a bond that is publicly offered shall be determined on the basis of actual facts and reasonable expectations as of the sale date and shall not be adjusted to take into account actual facts after such date. See section 1.150-1(c)(1) for definition of sale date.

(ii) BONA FIDE OFFERING REQUIRED. Paragraph (c)(2)(i) of this section does not apply to any bond that is not actually offered to the general public in a bona fide public offering for the issue price of the bond (determined without regard to this sentence).

(iii) TENDER BOND REMARKETING. For purposes of determining the issue price of a tender bond under section 1.148-3(d)(2)(ii)(A) when the bond is remarketed, this paragraph (c) shall be applied by treating the date on which the interest rate is reset as the sale date and the date on which the bond is remarketed as the date of issue.

(3) FAIR MARKET VALUE LIMIT. In no event shall the issue price of a bond determined under this paragraph (c) exceed the fair market value of the bond as of the sale date.

(4) AGGREGATE ISSUE PRICE. The term "aggregate issue price"refers to the sum of the issue prices of the bonds issued as part of the issue as determined under this paragraph (c) (but without regard to any tender bond remarketing).

(d) GROSS PROCEEDS -- (1) IN GENERAL. "Gross proceeds" means, with respect to an issue, any proceeds of the issue and any replacement proceeds of the issue.

(2) PROCEEDS. "Proceeds" means, with respect to an issue, any original proceeds and any transferred proceeds of the issue.

(3) ORIGINAL PROCEEDS. The term "original proceeds" means, with respect to an issue, any sale proceeds and any investment proceeds of the issue. The term shall also include any amount recovered with respect to the issue under section 1.148-1(d). The term does not include amounts actually or constructively received with respect to a purpose investment to the extent those amounts are properly allocated to administrative costs recoverable under section 1.103-13(c)(5) or to the higher yield permitted under section 1.103-13(b)(5)(i), section 1.103-13(b)(5)(viii), or section 143(g)(2). For purposes ofthe preceding sentence, a purpose investment that is a tax-exempt bond is not treated as tax-exempt.

(4) SALE PROCEEDS. The term "sale proceeds" means, with respectto an issue, any amounts actually or constructively received from the sale (or other disposition) of any bond that is part of the issue, excluding amounts used to pay accrued interest included in the issue price of any bond that is part of the issue no later than the date that is less than one year after the date of issue.

(5) INVESTMENT PROCEEDS. The term "investment proceeds" means, with respect to an issue, any amounts actually or constructively received from investing original proceeds of the issue.

(6) NET SALE PROCEEDS -- (i) IN GENERAL. The term "net sale proceeds" means, with respect to an issue, any sale proceeds of the issue (without regard to transferred proceeds) other than --

(A) Sale proceeds that are part of a reasonably required reserve or replacement fund;

(B) Sales proceeds used to pay accrued interest included in the issue price of any bond that is part of the issue no later than the date that is less than one year after the date of issue;

(C) Sale proceeds used to pay capitalized interest on the issue that accrues no later than the date that is 3 years after the date of issue; and

(D) Sale proceeds received with respect to a purpose investment that are allocated to an expenditure no later than 13 months after the date of receipt thereof.

(ii) CAPITALIZED INTEREST. The term "capitalized interest"means, with respect to an issue, interest paid on the sale proceeds of the issue that have been allocated to an expenditure if --

(A) The expenditure is not for the payment of the principal or interest on or the retirement price of any bond; and

(B) The expenditure is of a type that is chargeable to capital account for Federal income tax purposes (with or without an election by a taxpayer).

Such term shall also include interest on the sale proceeds of the issue that are allocated to expenditures for the payment of capitalized interest on the issue.

(iii) SPECIAL RULES FOR REFUNDED AND REFUNDING ISSUES. For purposes of applying any requirement relating to the expenditure of the net sale proceeds of a refunded issue or refunding issue --

(A) Net sale proceeds properly allocated to the refunding portion of an issue shall not be treated as net sale proceeds;

(B) Net sale proceeds properly allocated to the refunded portion of an issue shall be treated as net sale proceeds of the refunded issue and of the refunding issue; and

(C) The requirement shall be treated as met with respect to are funding issue only if the requirement is met separately with respect to the nonrefunding portion of the issue and each refunding portion of the issue.

(7) REPLACEMENT PROCEEDS. "Replacement proceeds" means, with respect to an issue, amounts (excluding proceeds of that issue, as defined in section 1.148-8(d)(2)), replaced by proceeds of that issue under section 148(a)(2) of the Code. Replacement proceeds include amounts held in a sinking fund, pledged fund, or reserve or replacement fund for the issue and, in the case of a refunding issue, any amounts that are after-arising replacement amounts with respect to the issue under section 1.148-11(c).

(8) TRANSFERRED PROCEEDS. "Transferred proceeds" has the same meaning as in section 1.148-11(c).

(9) INDIRECT USE. Any reference to proceeds shall be construed to include a reference to proceeds used directly or indirectly. Such reference has the same meaning as when used in section 148(a). If proceeds are used directly and indirectly, the proceeds shall be treated as used directly or indirectly (whichever produces the larger amount of rebatable arbitrage).

(10) RESERVE OR REPLACEMENT FUND -- (i) IN GENERAL. [Reserved]

(ii) CERTAIN PERPETUAL TRUST FUNDS -- (A) IN GENERAL. A fund described in paragraph (d)(10)(ii)(B) of this section shall not be treated as a reserve or replacement fund solely by reason of the fact that the fund is used to guarantee the payment of the principal or interest on or the tender or retirement price of a bond described in paragraph (d)(10)(ii)(D) of this section. The preceding sentence shall not apply to a guarantee if any fee is charged for the guarantee in excess of a nominal charge for administrative costs, shall not apply to a fund unless the fund is described in paragraph (d)(10)(ii)(B) of this section on August 31, 1986, and shall not apply to a fund on or after the date the fund is no longer described in paragraph (d)(10)(ii)(B) of this section.

(B) FUND DESCRIBED. A fund established pursuant to a State constitutional provision is described in this paragraph (d)(10)(ii)(B) if --

(1) Substantially all of the corpus of the fund consists of long-term nonfinancial assets, revenues derived from such assets, gifts, and bequests;

(2) Pursuant to such constitutional provision, the corpus of the fund may not be invaded for any purpose other than for the support of specifically designated essential governmental functions carried on by political subdivisions of the State with general taxing powers;and

(3) Pursuant to such constitutional provision, substantially all of the available income of the fund is required to be applied annually for the support of such functions.

(C) TREATMENT OF ADDITIONS TO FUND -- (1) IN GENERAL. For purposes of paragraph (d)(10)(ii)(A) of this section, no addition to the corpus of a fund described in paragraph (d)(10)(ii)(B) of this section on or after May 15, 1989, shall be considered part of a fund described in paragraph (d)(10)(ii)(B) of this section. For purposes of the preceding sentence, all revenues derived from assets that are part of the corpus of a fund (exclusive of amounts received from the sale or other disposition of such assets) shall be treated as additions to the corpus of a fund.

(2) ALLOCATION RULE. Additions to which paragraph (d)(10)(ii)(C)(1) of this section applies shall be considered used to guarantee bonds described in paragraph (d)(10)(ii)(b) of this section only to the extent that the outstanding amount of the bonds guaranteed by the fund exceeds 250 percent of the lower of the amortized cost or fair market value of the fund (without regard to the additions).

(D) BOND DESCRIBED. A bond is described in this paragraph (d)(10)(ii)(b) if --

(1) The bond is a general obligation of a political subdivision referred to in paragraph (d)(10)(ii)(B)(2) of this section and is nota private activity bond;

(2) No income referred to in paragraph (d)(10)(ii)(B)(3) of this section is reasonably expected (as of the date of issuance of the bond) to be used (directly or indirectly) for the payment of the principal or interest on or the tender or retirement price of any bond of such political subdivision or to fund a reserve or replacement fund for any such bond; and

(3) Substantially all of the proceeds of the issue of which the bond is a part is to be used to provide facilities necessary to carry on the functions referred to in paragraph (d)(10)(ii)(B)(2) of this section.

(e) INVESTMENTS -- (1) IN GENERAL. The term "investment" means any investment property or tax-exempt bond. The purpose of acquiring or holding an investment is not a governmental purpose, and the use of gross proceeds to acquire an investment is not an expenditure. If an investment is allocated to more than one source, all payments and receipts with respect to the investment shall be allocated ratably to each source.

(2) INVESTMENT PROPERTY. The term "investment property" means any security, obligation, annuity contract, or investment-type property. Such term shall not include any tax-exempt bond or qualified exempt investment. In the case of any bond (other than a private activity bond) issued after October 21, 1988 and to which section 148(b)(2)(E) applies, such term shall also include any residential rental property for family units not located within the jurisdiction of the issuer unless such property is acquired to implement a court ordered or approved housing or segregation plan.

(3) Tax-exempt bond. For purposes of paragraph (e)(2) and (e)(3)(iii) of this section --

(i) IN GENERAL. The term "tax-exempt bond" shall not include any bond owned by a person if the person had reason to believe (at the time the person entered into a binding contract to acquire the bond) that interest on the bond is not excluded from gross income.

(ii) AMT BOND. The term "tax-exempt bond" shall not include a specified private activity bond (as defined in section 57(a)(5)(C)) in the case of an issue that is issued after March 31, 1988 and apart of which is not a specified private activity bond (as so defined). The preceding sentence shall not apply for purposes of paragraph (e)(3)(iii) of this section if the requirements of paragraph (e)(3)(iii) are satisfied, determined without regard to paragraph (e)(3)(iii)(C) and by substituting "85 percent" for "98 percent" in paragraph (e)(3)(iii)(D).

(iii) TAX-EXEMPT MUTUAL FUND. The term "tax-exempt bond" shall include stock of a corporation during any quarter of the taxable year of the corporation that --

(A) The corporation is a regulated investment company (as defined in section 851(a)) which, for the taxable year, meets the requirements of section 852(a);

(B) The corporation has authorized and outstanding only one class of stock;

(C) The corporation to the extent practicable invests all its assets in tax-exempt bonds;

(D) At least 98 percent of --

(1) The gross income of the corporation (without regard to the exclusion of interest from gross income under section 103) is derived from interest on or gains from the sale or other disposition of tax-exempt bonds; or

(2) The weighted average value of the assets of the corporation is represented by investments in tax-exempt bonds. The Commissioner may for good cause waive one or more of the requirements of this paragraph (e)(3)(iii).

(4) QUALIFIED EXEMPT INVESTMENT -- (i) IN GENERAL. The term "qualified exempt investment" means any exempt demand deposit and any exempt temporary investment.

(ii) EXEMPT DEMAND DEPOSIT. The term "exempt demand deposit" means any obligation acquired with gross proceeds of an issue if --

(A) The obligation is a one-day certificate of indebtedness issued by the United States Treasury pursuant to the Demand Deposit State and Local Government Series program described in 31 CFR part 344; and

(B) The issuer in good faith attempts to comply with all the requirements of such program relating to the investment of the gross proceeds of the issue.

(iii) EXEMPT TEMPORARY INVESTMENT. [Reserved]

(5) SECURITY. [Reserved]

(6) OBLIGATION. [Reserved]

(7) ANNUITY CONTRACT. [Reserved]

(8) INVESTMENT-TYPE PROPERTY. [Reserved]

(9) NONPURPOSE INVESTMENT. The term "nonpurpose investment"means any investment property that is not a purpose investment.

(10) PURPOSE INVESTMENT. The term "purpose investment" means any investment that is allocated to gross proceeds of an issue and that is acquired in order to carry out the governmental purpose of the issue. Such term does not include any temporary investment until the proceeds of the issue are needed for the governmental purpose of the issue, any investment that is acquired in order to fund a reserve or replacement fund, or any other investment if the principal purposefor acquiring the investment is to earn arbitrage.

(11) TRANSFERRED INVESTMENT. The term "transferred investment" means, with respect to an issue, any investment allocated to transferred proceeds of the issue.

(12) SLG. The term "SLG" means a time deposit security issued by the United States Treasury pursuant to the Time Deposit State and Local Government Series program described in 31 CFR part 344.

(13) FIXED RATE INVESTMENT. The term "fixed rate investment" means any investment that is a fixed yield bond and is not purchased pursuant an investment contract. See section 1.150-1(b)(5) for definition of fixed yield-bond.

(14) INVESTMENT CONTRACT. The term "investment contract" means, with respect an issue, a contract entered into for the purpose of investing gross proceeds of the issue (and elated amounts) from time to time in obligations of the other party to the contract at an interest rate or rates specified in the contract if all such obligations are purchased at par and retired or redeemed at par plus accrued interest.

(f) ISSUES --

(1) IN GENERAL. [Reserved]

(2) REFUNDINGS -- (i) REFUNDING ISSUE. "Refunding issue" has the same meaning as in section 1.148-11(b).

(ii) REFUNDED ISSUE. "Refunded issue" has the same meaning as the term "prior issue" in section 1.148-11(b).

(g) REFUNDING ESCROW FUND. "Refunding escrow fund" has the same meaning as in section 1.148-11(c).

(h) ELECTIONS -- (1) IN GENERAL. Any election with respect to an issue must be in writing and must be signed by an authorized representative of the issuer on or before the later of --

(i) The date of issue; and

(ii) If the issue is issued on or before November 15, 1989, the first date after June 14, 1989, that any amount with respect to the issue is paid or required to be paid to the United States under section 1.148-1(b)(1).

An election, once made, shall be irrevocable after such date.

(2) PROCEDURAL REQUIREMENTS. If the rebatable arbitrage with respect to an issue (determined by taking into account an election) is smaller than the rebatable arbitrage (determined without taking into account the election), the election shall be effective only if the election identifies the issue to which it applies and is maintained as part of the official transcript of the proceedings relating to the issuance of the issue until 6 years after the final computation date. The Commissioner may waive the requirements of this paragraph (h)(2) if the Commissioner determines that the failure to meet the requirements was inadvertent.

(3) SPECIAL RULES. For purposes of this paragraph (h) --

(i) ISSUE. The term "issue" shall include all issues that aretreated by the issuer as one issue under section 1.149(e)-1T(d)(2)(ii) or (iii), and any election with respect to one of such issues shall apply equally to all of such issues.

(ii) EXTENSION OF TIME. The Commissioner may extend the time to make an election if --

(A) The Commissioner determines that the failure to make the election in a timely manner was due to reasonable cause;

(B) The Commissioner determines that as of the date of issue (and without regard to later facts) it was in the best interests of the issuer to make the election, and the failure to make the election was not deliberate; and

(C) The aggregate issue price of the bonds issued as part ofthe issue is less than $50 million.

(4) CROSS REFERENCE. The elections to which this paragraph (h) applies are in sections 1.148-0T(b)(2)(ii)(C) and 1.148-3(b)(1)(ii),(b)(2)(ii)(B), (b)(3)(i), (b)(3)(ii), (c)(4)(i), and (c)(5).

SECTION 1.148-9 CERTAIN RULES APPLICABLE FOR PURPOSES OF SECTION 148 GENERALLY.

(a) COMPUTATION OF YIELD ON FIXED YIELD ISSUE. Section 1.148-3 shall apply for purposes of determining the yield on a fixed yield issue for purposes of section 148(a) and (d)(3). For purposes of computing such yield, the date of issue of the fixed yield issue shall be treated as the only computation date. See section 1.148-3(c)(7) (EXAMPLES 3, 6, 8, and 10).

(b) COMPUTATION OF YIELD ON INVESTMENTS. The yield on a nonpurpose investment that is not directly purchased with gross proceeds to which the investment is allocated shall be determined on the basis of a purchase price equal to the fair market value of the investment on the date the investment is allocated to the issue for purposes of section 148(a) and (d)(3). Fair market value has the same meaning as when used in section 1.148-2(b)(3)(ii).

(c) GENERAL ALLOCATION AND ACCOUNTING RULES. Section 1.148-4 shall apply for purposes of applying the requirements of section 148.

(d) CERTAIN IMPUTED ESCROW RECEIPTS. Any receipt imputed under section 1.148-5(c) to an investment in an escrow shall be treated as interest on the investment for purposes of section 148(a).

(e) CERTAIN PERPETUAL TRUST FUNDS. Section 1.148-8(d)(10)(ii) shall apply for purposes of section 148.

(f) INVESTMENT PROPERTY. The definition of the term "investment property" in section 1.148-8(e)(2) shall apply for purposes of section 148.

(g) ARTIFICE OR DEVICE. Section 1.103-13(j) applies for purposes of section 148 generally, including for purposes of the calculations of yield, expenditures, and investment earnings under section 148(f). For purposes of section 1.103-13(j), enabling the issuer to retain significant additional rebatable arbitrage constitutes a "material financial advantage.

(h) EFFECTIVE DATE -- (1) IN GENERAL. Except as otherwise provided in this paragraph (h), the provisions of this section apply to any issue sold after May 15, 1989, or issued after June 14, 1989.

(2) COMPUTATION OF YIELD ON INVESTMENTS. Paragraph (b) of this section may be applied in the case of any issue to which section 1.148-1 applies that is not described in paragraph (h)(1) of this section.

(3) INVESTMENT PROPERTY. Paragraph (f) of this section shall apply to any bond that is not described in paragraph (h)(1) of this section to the same extent that section 148(b)(2) applies to such bond.

Par. 6. Section 1.148-10 is amended by adding new paragraphs (c) through (i) to read as follows:

SECTION 1.148-10 PURPOSE INVESTMENTS.

* * * * *

(c) SPECIAL RULES FOR QUALIFIED STUDENT LOAN BOND PURPOSE INVESTMENTS -- (1) YIELD ADJUSTMENT PAYMENT OF EXCESS EARNINGS TO THE UNITED STATES. If an issuer of qualified student loan bonds, at the time and in the manner prescribed in paragraph (f) of this section, remits to the United States yield adjustment payments as described in paragraph (g) of this section, then, for purposes of determining whether the bonds are arbitrage bonds, the yield of the class of acquired purpose obligations (student loan notes) that were acquired with the proceeds of the bonds is deemed to be not materially higher than the yield on the bond issue. For purposes of computing the yield under section 148 on the class of acquired purpose obligations, yield adjustment payments that are so remitted are treated as reductions in the earnings of the class of obligations.

(2) SCOPE OF SECTION. This section applies only to qualified student loan bonds and to acquired purpose obligations of a qualified student loan bond issue that are eligible to be treated as acquired program obligations under section 1.103-13(h).

(d) EXCESS EARNINGS DEFINED -- (1) IN GENERAL. As of any excess earnings calculation date (defined in paragraph (e) of this section), the excess earnings of the class of acquired purpose obligations is the smallest amount that, if treated as reasonable costs (taken into account in calculating yield) paid on that date, would reduce the yield on the class to a yield that is not materially higher than the yield on the bonds. See sections 1.103-13(b)(5)(viii), 1.103-13(b)(5)(ix), and 1.148-10(b)(1).

(2) YIELD DEFINED. For purposes of this paragraph (d), as of any excess earnings calculation date, the yield on the class of acquired purpose obligations and the yield on qualified student loan bonds is computed in the manner set forth in section 1.103-13(c) with the following modifications --

(i) The calculation of excess earnings is cumulative, and each prior yield adjustment payment is taken into account (as of the excess earnings calculation date with respect to which the payment was calculated) as a reduction in the earnings on the class of acquired purpose obligations;

(ii) Obligations acquired after the excess earnings calculation date are not taken into account in determining the yield on the obligations;

(iii) Acquired purpose obligations held on the excess earnings calculation date are treated as if liquidated on that date at their stated redemption price at maturity plus unpaid accrued interest as of the excess earnings calculation date;

(iv) If the issue price of a bond was at least 98 percent of its stated redemption price at maturity and the bond is outstanding as of the excess earnings calculation date --

(A) All interest and principal payments due with respect to the bond between the excess earnings calculation date and the deemed redemption date are treated as paid as of the dates due; and

(B) The bond is treated as redeemed as of the deemed redemption date at an amount equal to the stated redemption price of the bond at maturity plus interest (other than original issue discount, if any) scheduled to be accrued and unpaid as of the deemed redemption dateless any payments of principal paid on or before the excess earnings calculation date and less any payments of principal described in paragraph (d)(2)(iv)(A) of this section;

(v) If the issue price of a bond was less than 98 percent of its stated redemption price at maturity and the bond is outstanding as of an excess earnings calculation date --

(A) All interest and principal payments due with respect to the bond between the excess earnings calculation date and the deemed redemption date are treated as paid as of the dates due, and

(B) The bond is treated as redeemed as of the deemed redemption date at an amount equal to the issue price plus interest (including original issue discount) scheduled to be accrued and unpaid as of the deemed redemption date less any payments of principal paid on or before the excess earnings calculation date and less principal payments described in paragraph (d)(2)(v)(A) of this section; and

(vi) The accrual of original issue discount is determined in the manner provided by section 1272(a).

(e) EXCESS EARNINGS CALCULATION DATE DEFINED -- (1) FIRST EARNINGS CALCULATION DATE. The first excess earnings calculation date with respect to an issue is a date chosen by the issuer that is nolater than the earlier of --

(i) The date the last bond that is part of the issue matures oris redeemed; or

(ii) The tenth anniversary of the date of issue of the bond issue.

(2) SUBSEQUENT EXCESS EARNINGS CALCULATION DATES. Subsequent to the first excess earnings calculation date, each excess earnings calculation date is the earlier of --

(i) The date that is 5 years after the immediately preceding excess earnings calculation date; or

(ii) The date the last bond that is part of the issue matures oris redeemed.

(f) TIME AND MANNER OF MAKING YIELD ADJUSTMENT PARENTS. Yield adjustment payments must be made --

(1) Within 60 days of each excess earnings calculation date; and

(2) In accordance with procedures published by the Internal Revenue Service.

(g) YIELD ADJUSTMENT PAYMENT DEFINED -- (1) LAST PAYMENT. The yield adjustment payment (if any) for the last excess earnings calculation date is an amount chosen by the issuer that is not less than 100 percent of the excess earnings calculated as of that date.

(2) SPECIAL RULE FOR FIRST EXCESS EARNINGS CALCULATION DATE. If the first excess earnings calculation date with respect to an issue is not the last excess earnings calculation date for the issue, then the amount of the yield adjustment payment (if any) with respect to that date is an amount chosen by the issuer that is not less than 50percent of the excess earnings calculated as of that date.

(3) SPECIAL RULE FOR SUBSEQUENT EXCESS EARNINGS CALCULATION DATES WHERE BONDS ARE OUTSTANDING. If an excess earnings calculation date is neither the first nor the last excess earnings calculation date for an issue, the amount of the yield adjustment payment (if any) with respect to that date is an amount chosen by the issuer that is not less than 75 percent of the excess earnings calculated for that date.

(h) DEFINITIONS-- (1) ACQUIRED PURPOSE OBLIGATION. The term "acquired purpose obligation" is defined in section 1.103-13(b)(4)(iv)(A).

(2) ARBITRAGE BOND. The term "arbitrage bond" means a bond described in section 148(a).

(3) DEEMED REDEMPTION DATE. For any excess earnings calculation date for a bond, the term "deemed redemption date" means the earlier of --

(i) The maturity date of the bond; or

(ii) The first date, if any, which is after the excess earnings calculation date and on which the rate of interest borne by the bond may change to a rate not determinable prior to the excess earnings calculation date.

(4) ISSUE PRICE. The term "issue price" means the issue price calculated under sections 1273 and 1274.

(5) MATERIALLY HIGHER. The term "materially higher" is defined in section 1.148-10(b)(1)(i) with respect to acquired purpose obligations that the issuer elects to treat as acquired program obligations within the meaning of section 1.103-13(b)(5)(i) and is defined in section 1.103-13(b)(5) with respect to all other acquired purpose obligations.

(6) ORIGINAL ISSUE DISCOUNT. The term "original issue discount" is defined in section 1273(a)(1).

(7) QUALIFIED STUDENT LOAN BOND. The term "qualified student loan bond" is defined in section 144(b)(1)(A).

(8) Stated redemption price at maturity. The term "stated redemption price at maturity" is defined in section 1273(a)(2).

(i) EFFECTIVE DATE. Paragraphs (c) through (h) of this section apply to any qualified student loan bond issued after January 5,1990.

Par. 7. A new 1.148-11 is added to read as follows:

SECTION 1.148-11 ARBITRAGE RULES FOR REFUNDING ISSUES.

(a) SCOPE OF APPLICATION -- (1) IN GENERAL. This section contains special rules for refunding issues. Except as provided in this paragraph (a), these rules apply for all purposes of sections 148 and 149(d). These rules govern allocations of proceeds, bonds, and investments to determine transferred proceeds, temporary periods, reasonably required reserve or replacement funds, minor portions, and separate issue treatment of certain multipurpose issues.

(2) APPLICATION OF MULTIPURPOSE ISSUE ALLOCATION RULES -- (i) MULTIPURPOSE ISSUES TREATED AS SEPARATE ISSUES FOR CERTAIN PURPOSES. Except as otherwise provided in this paragraph (a), the multipurpose issue allocation rules of paragraph (j) of this section apply for all purposes of section 148 and 149(d) in determining whether two or more obligations (as defined in paragraph (c)(4) of this section) are part of the same "issue." For example, these multipurpose issue allocation rules apply for purposes of determining applicable temporary periods, transferred proceeds, and the section 149(d)(3)(A)(i) limitation on the number of advance refunding issues.

(ii) MULTIPURPOSE ISSUES NOT TREATED AS SEPARATE ISSUES FOR CERTAIN PURPOSES. The multipurpose issue allocation rules of paragraph (j) of this section do not apply in determining whether two or more obligations (as defined in paragraph (c)(4) of this section) are part of the same "issue" for the following purposes:

(A) Determination of the composite "yield" on an issue and the "yield" on investments for purposes of the arbitrage-yield restrictions of section 148 and the arbitrage rebate requirement of section 148(f). See section 1.103-13(c)(1)(ii) and section 1.148-3.

(B) Determination of the amount of rebate due on an issue undersection 148(f)(2) for an issue, including subsidiary matters with respect to that determination, such as the $3,000 per issue computation date credit under section 1.148-2(b)(4) and the $100,000 bona fide debt service fund exception under section 148(f)(4)(A)(ii).

(C) Determination of the "minor portion" of an issue undersection 148(e).

(D) Determination of the portion of an issue eligible for investment in higher yielding investments as part of a reasonably required reserve fund under section 148(d).

(3) LIMITATIONS ON APPLICATION FOR PURPOSES OF SECTION 149(d) RESTRICTION ON THE NUMBER OF ADVANCE REFUNDINGS. For purposes of determining compliance with the restriction in section 149(d)(3)(A)(i) on the number of advance refunding issues, except as provided in paragraph (a)(4) of this section, if the interest on an advance refunding issue (as defined in paragraph (b)(4) of this section) is not excludable from gross income under section 103(a), then that advance refunding issue (a taxable advance refunding issue) is not taken into account for purposes of section 149(d)(3)(A)(i).

(4) CERTAIN TAXABLE ADVANCE REFUNDINGS TAKEN INTO ACCOUNT UNDER SECTION 149(d) -- (i) IN GENERAL. For purposes of determining the permitted number of advance refunding issues under section 149(d)(3)(A)(i), a tax-exempt current refunding issue is treated asan advance refunding if --

(A) It is part of a series of refundings (as defined in paragraph (c)(8) of this section);

(B) It directly or indirectly succeeds a taxable advance refunding issue; and

(C) It is outstanding concurrently with another tax-exempt issue in the series for longer than 90 days.

(ii) EXAMPLE. If an issuer refunds a tax-exempt issue with a taxable advance refunding issue, the issuer refunds that taxable issue with a tax-exempt current refunding issue, and the two tax-exempt issues remain outstanding concurrently for more than 90 days, then the tax-exempt current refunding issue is treated as an advance refunding issue in that series for purposes of section 149(d)(3)(A)(i).

(b) DEFINITIONS OF REFUNDING ISSUE AND PRIOR ISSUE. For purposes of this section, the following definitions apply:

(1) REFUNDING ISSUE. Except as provided in paragraph (b)(2) of this section, "refunding issue" means an issue of obligations (or, in the case of a multipurpose issue, the portion of the multipurpose issue allocable under paragraph (j)(1)(iv) of this section to a use described in this paragraph (b)(1)) the proceeds of which are used topay debt service (as defined in paragraph (c)(1) of this section) on another issue (a "prior issue," as more particularly defined in paragraph (b)(5) of this section) or to finance issuance costs, accrued interest, capitalized interest on the refunding issue, areserve or replacement fund, or similar costs properly allocable to the issue.

(2) EXCEPTIONS AND SPECIAL RULES. For purposes of paragraph (b)(1) of this section, the following exceptions and special rules apply:

(i) PAYMENT OF CERTAIN INTEREST. An issue is not a refunding issue if the proceeds of the issue are used to pay any debt service (as defined in paragraph (c)(1) of this section) on another issue that is described as follows --

(A) Interest that accrues on the other issue during a one-year period including the date of issue of the issue that finances the interest;

(B) Interest that is a "capital expenditure" (as defined insection 1.150-1(h)); or

(C) Interest that is a working capital expenditure (as defined in section 1.148-4(d)(3)(ii)).

(ii) CERTAIN ISSUES WITH DIFFERENT OBLIGORS -- (A) IN GENERAL. An issue is not a refunding issue to the extent that the obligor (as defined in paragraph (b)(2)(ii)(B) of this section) of one issue is neither the obligor of the other issue nor a related party (as defined in paragraph (b)(2)(ii)(G) of this section) with respect to the obligor of the other issue.

(B) DEFINITION OF OBLIGOR. Except as otherwise provided in this paragraph (b)(2)(ii)(B), the "obligor" of an issue means the actual issuer of the issue. Except as provided in the next sentence, the obligor of the portion of an issue properly allocable to an investment in a purpose investment means the conduit borrower (as defined in section 1.150-1(g)) under that purpose investment. The obligor of an issue used to finance loans for an owner-occupied residence under section 143, student loans under section 144(b), or similar purpose investments means the actual issuer.

(C) DEFINITION OF RELATED PARTY. When applied to a governmental unit or a 501(c)(3) organization, "related party" means any member ofthe same "controlled group" (as defined in section 1.150-1(f)) as that party. When applied to any person that is not a governmental unit or 501(c)(3) organization, "related party" means "related person" (as defined in section 144(a)(3)).

(iii) CERTAIN REPAYMENTS OF DEBT TO RELATED PARTIES. If the proceeds of an issue are used directly or indirectly to pay debt service on an obligation owed to a person that is a related party to the obligor, that use is not treated as an expenditure of those proceeds under section 1.148-4(d). Thus, that use is not an expenditure for the payment of debt service on the obligation owed to the related party.

(iv) CERTAIN SPECIAL RULES FOR PURPOSE INVESTMENTS. For purposesof this paragraph (b), the following special rule apply:

(A) DEFINITION OF CONDUIT LOAN, CONDUIT FINANCING ISSUE, AND CONDUIT LOAN REFUNDING ISSUE. For purposes of this paragraph (b)(2)(iv) --

(1) A "conduit loan" is a purpose investment that is an obligation;

(2) A "conduit financing issue" is an issue all or a portion of the proceeds of which are invested in one or more conduit loans; and

(3) A "conduit loan refunding issue" is a refunding issue within the meaning of paragraph (b)(1) that is used to refund a prior issue that is a conduit loan.

(B) REFUNDING OF A CONDUIT FINANCING ISSUE BY A CONDUIT LOAN REFUNDING ISSUE. Except as provided in paragraph (b)(2)(iv)(C) of this section, if a conduit borrower uses proceeds of a conduit loan refunding issue to make debt service payments on a conduit loan ("conduit loan refunding payments") and the issuer of a conduit financing issue uses those conduit loan refunding payments directly or indirectly to pay debt service on the conduit financing issue or any other issue, then for purposes of paragraph (b)(1) of this section, that debt service so paid is treated as paid from the proceeds of the conduit loan refunding issue. Thus, a conduit loan refunding issue may be a refunding issue under paragraph (b)(1) of this section with respect to both the conduit loan and either the conduit financing issue or another issue.

(C) RECYCLING OF CERTAIN PAYMENTS UNDER PURPOSE INVESTMENTS. If an issuer of a conduit financing issue, as holder of a conduit loan, receives conduit loan refunding payments and uses those payments either to make a new conduit loan during the applicable temporary period for those amounts under section 148(c) or to pay interest on the conduit financing issue during that temporary period, then, for purposes of paragraph (b)(1) of this section, the conduit loan refunding issue is not a refunding issue with respect to the conduit financing issue. Any such new conduit loan is treated as made from the proceeds of the conduit financing issue.

(v) SUBSTANCE OF TRANSACTION CONTROLS. In the absence of other applicable controlling rules under this paragraph (b), the determination of whether an issue is a refunding issue is based on the substance of the transaction in light of all the facts and circumstances.

(3) CURRENT REFUNDING ISSUE. "current refunding issue" means are funding issue that is issued not more than 90 days before the last expenditure of any proceeds of the refunding issue for the payment of debt service on the prior issue.

(4) ADVANCE REFUNDING ISSUE. "Advance refunding issue" means are funding issue that is not a current refunding issue.

(5) PRIOR ISSUE. "Prior issue" means an issue of obligations all or a portion of the debt service on which is paid or provided for with proceeds of a refunding issue. A prior issue may be issued before, at the same time as, or after a refunding issue.

(6) UNREFUNDED AMOUNT REMAINS ELIGIBLE FOR FUTURE ADVANCE REFUNDING. For purposes of the restriction in section 149(d)(3)(A)(i) on the permitted number of advance refunding issues, any debt service on a prior issue that has not been paid or provided for by any advance refunding issue is not treated as having been advance refunded for purposes of section 149(d).

(c) OTHER DEFINITIONS. For purposes of this section, the following definitions apply --

(1) AFTER-ARISING REPLACEMENT AMOUNTS. (i) IN GENERAL. "After-arising replacement amounts" mean any amounts, including investment earnings thereon, that become available to an issuer after the date of issue of the refunding issue as a direct or indirect result of the plan of the refunding to the extent that, as of the date of therefunding issue --

(A) The amounts are reasonably expected by the issuer to become available for use to acquire investments that may be higher yielding (whether or not so used); and

(B) The present value of the amounts is in excess of the present value of the debt service savings attributable to the refunding issue, computed in both cases using the yield on the refunding issue as the discount rate.

(ii) ALLOCATION OF AFTER-ARISING REPLACEMENT AMOUNTS. Notwithstanding anything in section 1.148-4 to the contrary, after-arising replacement amounts with respect to a refunding issue are allocated to the refunding issue.

(2) DEBT SERVICE. "Debt service" means any principal of an issue of obligations, any interest on an issue, and any redemption premium or other amount paid to retire or redeem an issue.

(3) MULTIPURPOSE ISSUE. "Multipurpose issue" means an issue that is used for two or more separate governmental purposes determined in accordance with paragraph (j) of this section.

(4) OBLIGATION. "Obligation" means any evidence of indebtedness regardless of whether the interest on the indebtedness is excludable from gross income under section 103(a) or the obligor is a State or political subdivision thereof. A purpose investment that is an evidence of indebtedness is an obligation. The obligor of a purpose investment that is an obligation is a conduit borrower (as defined insection 1.150-1(g)).

(5) PRINCIPAL AMOUNT. Except as provided in paragraph (c)(5)(i)or (c)(5)(ii) of this section, "principal amount" of a bond means face amount.

(i) BONDS ISSUED AT A DISCOUNT. If the excess of the stated retirement price of the bond over its issue price exceeds one-fourth of one percent of the stated retirement price at maturity multiplied by the number of complete years between the date of issue and the final scheduled maturity date, the "principal amount" of that bond is its present value.

(ii) BONDS ISSUED AT A PREMIUM. If the excess of the issue price of the bond over its stated retirement price exceeds one-fourth of one percent of the stated retirement price at maturity multiplied by the number of complete years between the date of issue and the final scheduled maturity date, the "principal amount" of that bond is its present value.

(6) PROCEEDS. Except as provided in the next sentence,"proceeds," with respect to an issue, has the same meaning as in section 1.148-8(d)(2). For purposes of this section only, "proceeds"include after-arising replacement amounts. For example, proceeds include after-arising replacement amounts for purposes of the definition of a refunding issue under paragraph (b)(1) and the determination of transferred proceeds under paragraph (d) of this section.

(7) REFUNDING ESCROW FUND. "Refunding escrow fund" means any escrow fund or funds invested in nonpurpose investments to provide for payment of any debt service on any prior issue.

(8) SERIES OF REFUNDINGS. An issue is part of a series of refundings if it finances or refinances the same expenditures for a particular governmental purpose as another issue.

(9) TRANSFERRED PROCEEDS. "Transferred proceeds" means any proceeds of a prior issue that become proceeds of a refunding issue and cease to be proceeds of the prior issue pursuant to paragraph (d) of this section (or the applicable corresponding provision of prior law).

(d) TRANSFERRED PROCEEDS ALLOCATION RULE -- (1) IN GENERAL. At the time that proceeds of the refunding issue discharge any of the outstanding principal amount of the prior issue, proceeds of the prior issue (as defined in paragraph (c)(6) of this section) become transferred proceeds of the refunding issue and cease to be proceeds of the prior issue. The amount of proceeds of the prior issue that becomes transferred proceeds of the refunding issue is an amount equal to the total proceeds of the prior issue at the time of that discharge multiplied by a fraction --

(i) The numerator of which is the principal amount of the prior issue discharged with proceeds of the refunding issue on that date; and

(ii) The denominator of which is the total outstanding principal amount of the prior issue immediately prior to that discharge.

(2) RELATION OF TRANSFERRED PROCEEDS RULE TO UNIVERSAL CAPRULE -- (i) IN GENERAL. Paragraphs (d)(1) and (e) of this section apply to allocate transferred proceeds and corresponding investments to a refunding issue on any date required by those paragraphs before the universal cap rule of section 1.148-4(b)(3) applies to reallocate any of those amounts. If nonpurpose investments of transferred proceeds of an issue exceed the universal cap on the date that the investments become transferred proceeds, those transferred proceeds are immediately reallocated back to the issue from which they transferred to the extent of the unused universal cap on that issue.

(ii) EXAMPLE. The following example illustrates the applicationof this paragraph of (d)(2):

EXAMPLE. On January 1, 1995, $100,000 of nonpurpose investments of proceeds of issue A become transferred proceeds of issue B under section 1.148-11, but the unused portion of issue B's universal cap is $75,000 as of that date. On January 1, 1995, A has unused universal cap in excess of $25,000. Thus, $25,000 of nonpurpose investments representing the transferred proceeds are immediately reallocated back to issue A on January 1, 1995, and are proceeds of issue A. On the next transfer date under section 1.148-11, the $25,000 receives no priority in determining transferred proceeds as of that date but is treated the same as all other proceeds of issue A subject to transfer.

(e) SPECIAL ALLOCATION RULES FOR REFUNDING ISSUES -- (1) ALLOCATIONS OF INVESTMENTS TO TRANSFERRED PROCEEDS -- (i) IN GENERAL. When proceeds of a prior issue become transferred proceeds of are funding issue, investments of proceeds of the prior issue that are held in a refunding escrow fund for another issue are allocated to the transferred proceeds under the ratable allocation method described in paragraph (e)(1)(ii) of this section. Investments of proceeds of the prior issue that are not held in a refunding escrowfund for another issue are allocated to the transferred proceeds by consistent application of either the ratable allocation method described in paragraph (e)(1)(ii) of this section or the representative allocation method described in paragraph (e)(1)(iii) of this section.

(ii) RATABLE ALLOCATION METHOD. As a portion of the proceeds of a prior issue becomes transferred proceeds of a refunding issue under paragraph (d) of this section, a ratable portion of each nonpurpose investment of proceeds of the prior issue is allocated to transferred proceeds of the refunding issue. In addition, a ratable portion of each purpose investment of proceeds of the prior issue is allocated to transferred proceeds of the refunding issue.

(iii) REPRESENTATIVE ALLOCATION METHOD. As a portion of the proceeds of a prior issue becomes transferred proceeds of a refunding issue under paragraph (d) of this section, representative portions of the portfolio of nonpurpose investments and the portfolio of purpose investments of proceeds of the prior issue are allocated to transferred proceeds of the refunding issue. Unlike the ratable allocation method, this representative allocation method permits an allocation of particular whole investments. Whether a portion is representative is based on all the facts and circumstances, including, without limitation, whether the current yields, maturities, and current unrealized gains or losses on the particular allocated investments are reasonably comparable to those of the unallocated investments in the aggregate. In addition, if a portion of nonpurpose investments is otherwise representative, it is within the issuer's discretion to allocate the portion from whichever source of funds it deems appropriate, such as a reserve fund or a refunding escrow fund for a prior issue.

(2) ALLOCATIONS OF MIXED ESCROWS TO INVESTMENTS AND EXPENDITURES FOR DEBT SERVICE ON A PRIOR ISSUE -- (i) In general. Except as provided in paragraph (e)(2)(ii) of this section, if proceeds of are funding issue and other amounts that are not proceeds of are funding issue are deposited in a refunding escrow fund (a "mixed escrow fund"), the issuer must allocate those proceeds and other amounts to investments and to expenditures for debt service on the prior issue in a consistent manner that complies with section 1.148-4(e); provided that allocations of those proceeds to expenditures must not occur faster than ratably with the allocation of those other amounts in the mixed escrow fund to expenditures. For example, if an accounting method allocates the amounts in the refunding escrow fund that are not proceeds of the refunding issue to expenditures for debt service on the prior issue before any allocations of proceeds of the refunding issue to those expenditures, that method meets the requirements of this paragraph (e)(2).

(ii) SPECIAL RULE FOR CERTAIN SHORT-TERM FUNDS. If an amount is deposited in a mixed escrow fund, and, prior to the date of issue of the refunding issue, that amount had been held in a bona fide debt service fund, a fund to carry out the governmental purpose of the prior issue (e.g., a construction fund), or another fund the inappropriate use of which could cause the issue to violate section 149(d)(4), the issuer must allocate that amount to investments and expenditures in a consistent manner that complies with section 1.148-4(e); provided that the expenditure of that amount must occur not later than six months after the date that, prior to the date of issue of the refunding issue, the amount was reasonably expected by the issuer to be expended.

(3) RESTRICTIONS ON ESCROW RESTRUCTURINGS -- (i) IN GENERAL. If proceeds of a refunding issue are set aside in a refunding escrow fund to be used to pay debt service on a specified prior issue, funds other than proceeds of the refunding issue may not be allocated subsequently to expenditures for the payment of debt service on the prior issue.

(ii) EXAMPLE. The following example illustrates the application of this paragraph (e)(3).

EXAMPLE. On January 1, 1985, County 0 issued a $10 million issue (the "1985 issue") that bore interest at 7 percent and that matured in 30 years. On January 1, 1996, to refund the 1985 issue, B issued an $8 million issue (the "1996 issue") that bode interest at 10 percent, was callable in 10 years, and matured in 30 years. B invested the proceeds of the 1996 issue in a refunding escrow fund (the "1985 escrow") structured to pay the 1985 issue at maturity. On January 1, 1997, B issued a $10 million issue (the "1997 issue") that bore interest at 6 percent, was callable in 10 years, and matured in 30 years. Instead of investing the proceeds of the 1997 issue in a refunding escrow fund to pay the 1996 issue, B sold the investments in the 1985 escrow at a premium. B used a portion of the proceeds of that escrow sale to fund a new refunding escrow fund for the 1996 issue. B invested the proceeds of the 1997 issue in a refunding escrow fund for the 1985 issue (the "new 1985 escrow"). B asserted that since the restructured escrow fund for the 1996 issue was financed with proceeds of the 1996 issue, payment of any principal amount of the 1996 issue from this source would not cause proceeds of the 1996 issue to become transferred proceeds of the 1997 issue. Since the proceeds of the 1996 issue were set aside in a refunding escrow fund to be used to refund the 1985 issue, funds other than proceeds of the 1996 issue may not be allocated subsequently to expenditures for payment of debt service on the 1985 issue. Thus, the proceeds of the 1996 issue continue to be allocated to expenditures for payment of debt service on the 1985 issue, and the proceeds of the 1997 issue are deemed to be allocated to payment of debt service on the 1996 issue.

(f) TEMPORARY PERIODS IN REFUNDINGS -- (1) IN GENERAL. Proceeds of a refunding issue may be invested in higher yielding investments under section 148(c) only during the temporary periods described in paragraph (f)(2) of this section:

(2) CATEGORIES OF TEMPORARY PERIODS IN REFUNDINGS. The available temporary periods for proceeds of a refunding issue are as follows:

(i) GENERAL TEMPORARY PERIOD FOR REFUNDING ISSUES. Except as otherwise provided in this paragraph (f), the general temporary period for proceeds (other than transferred proceeds) of a refunding issue is the period ending 30 days after the date of issue of the refunding issue. This general temporary period may be extended as provided in this paragraph (f).

(ii) TEMPORARY PERIODS FOR CURRENT REFUNDING ISSUES -- (A) In general. Except as otherwise provided in paragraph (f)(2)(ii)(B) of this section, the general temporary period for proceeds (other than transferred proceeds) of a current refunding issue is 90 days.

(B) TEMPORARY PERIOD FOR SHORT-TERM CURRENT REFUNDING ISSUES. The temporary period for proceeds (other than transferred proceeds) of a current refunding issue that has an original term to maturity of 270 days or less is 30 days. The aggregate temporary periods for proceeds (other than transferred proceeds) of all current refunding issues described in the preceding sentence that are part of the same series of refundings is 90 days. For example, if an issue of tax-exempt commercial paper having a maturity of one month is refunded four times by refunding issues having one-month maturities, the first three refunding issues each have a 30-day temporary period, but, as aresult of the tacking rule in the preceding sentence, the fourth refunding issue has no temporary period under this paragraph(f)(2)(ii)(9).

(iii) TEMPORARY PERIODS FOR TRANSFERRED PROCEEDS -- (A) IN GENERAL. Except as otherwise provided in paragraph (f)(2)(iii)(9) of this section, each available temporary period for transferred proceeds of a refunding issue begins on the date they become transferred proceeds of the refunding issue and ends on the date that, without regard to the discharge of the prior issue, the available temporary period for those proceeds would have ended had those proceeds remained proceeds of the prior issue.

(B) TERMINATION OF INITIAL TEMPORARY PERIOD FOR PRIOR ISSUE IN AN ADVANCE REFUNDING. The initial temporary period under section 1.103-14(b)(1) for the portion of a prior issue refunded by an advance refunding issue (including transferred proceeds of the refunding issue) terminates on the date of issue of the advance refunding issue.

(iv) CERTAIN INVESTMENT PROCEEDS. Except for those investment proceeds of a refunding issue held in a refunding escrow fund or otherwise reasonably expected to be used to pay debt service on the prior issue, the temporary period for investment proceeds of arefunding issue is the 1-year period beginning on the date of receipt of those investment proceeds.

(v) CERTAIN ACCRUED INTEREST. Except for those proceeds of the refunding issue held in a refunding escrow fund or otherwise reasonably expected to be used to pay debt service on the prior issue, the temporary period for proceeds of a refunding issue that represent not more than 6 months' accrued interest on the refunding issue is the 1-year period beginning on the date of issue.

(vi) CERTAIN COSTS OF ISSUANCE. Except for those proceeds of arefunding issue held in a refunding escrow fund or otherwise reasonably expected to be used to pay debt service on the prior issue or those proceeds described in paragraph (f)(2)(v) of this section, the temporary period for proceeds of a refunding issue that are to be used to pay issuance costs is the 1-year period beginning on the date of issue.

(vii) CERTAIN AMOUNTS IN A BONA FIDE DEBT SERVICE FUND. The temporary period for proceeds of a refunding issue (other than transferred proceeds) that are held in a bona fide debt service fund (as defined in section 1.103-13(b)(12) is 13 months.

(3) PERMITTED WAIVERS OF TEMPORARY PERIODS AND MINOR PORTIONS. An issuer may elect to waive any temporary period for proceeds of are funding issue under this paragraph (f) and any available minor portion for proceeds of a refunding issue under paragraph (g) of this section (e.g., to ease compliance with yield restrictions on are funding escrow fund).

(g) MINOR PORTIONS IN REFUNDINGS. As of the date of issue of the refunding issue and at all times thereafter, a minor portion of the proceeds of the refunding issue qualifies for investment in higher yielding investments under section 148(e), and a minor portion of the proceeds of the prior issue qualifies for investment in higher yielding investments under either section 148(e) or section 149(d)(3)(v), whichever is applicable. For purposes of sections 148(e) and 149(d)(3)(v), "proceeds of the issue" means sale proceeds.

(h) REASONABLY REQUIRED RESERVE OR REPLACEMENT FUNDS IN REFUNDINGS -- (1) IN GENERAL. As of the date of issue of a refunding issue and at all times thereafter, a reserve or replacement fund with respect to the refunding issue or the prior issue is a reasonably required reserve or replacement fund under section 148(d) that may be invested in higher yielding investments only if:

(i) AGGREGATE LIMITATION ON HIGHER YIELDING INVESTMENTS IN RESERVE FUNDS FOR REFUNDING ISSUE AND REFUNDED ISSUE. Except as provided in paragraph (h)(2) of this section, the aggregate amount invested in higher yielding investments in reserve or replacement funds for both the refunding issue and the portion of the prior-issue refunded by the refunding issue does not exceed 10 percent of sale proceeds of the refunding issue (regardless of whether proceeds ofthe prior issue have become transferred proceeds of the refunding issue).

(ii) USE LIMITATION. The proceeds of the refunding issue invested in the reserve or replacement fund are not used to pay debt service on the prior issue.

(2) RULING REQUIRED FOR RESERVE OR REPLACEMENT FUNDS IN HIGHER AMOUNTS. A reserve or replacement fund in an amount in excess of the amount allowed under paragraph (h)(1) of this section is a reasonably required reserve or replacement fund that may be invested in higher yielding investments only if the issuer receives a ruling from the Internal Revenue Service that the specified larger reserve or replacement fund is necessary.

(i) PAYMENT TO INTERNAL REVENUE SERVICE WITH RESPECT TO CERTAIN TRANSFERRED PROCEEDS OF A CURRENT REFUNDING ISSUE -- (1) IN GENERAL. If, as a result of a current refunding, proceeds of a prior issue that are held in a refunding escrow fund for another issue become or will become transferred proceeds of a current refunding issue and the issuer is required to reduce the yield on any nonpurpose investment to satisfy arbitrage yield restrictions under section 148(a), the issuer may pay an amount to the Internal Revenue Service. That amount is treated as provided in paragraph (i)(2) of this section.

(2) EFFECT OF PAYMENT. As of the date that a payment is made, the amount paid under this paragraph (i) is treated as a reduction in the yield on the nonpurpose investments of the transferred proceeds under section 1.103-13(c) based on application of the present value method and a reduction in actual receipts (as defined in section 1.148-2(b)(2)(i)) from these investments.

(3) MANNER OF PAYMENT. Except as otherwise prescribed by the Commissioner, a payment under paragraph (i)(1) of this section is made when paid to the Internal Revenue Service at the same place and in the same manner as the issuer is required to file an information reporting return for the current refunding issue to which the payment relates under section 149(e). To satisfy this paragraph (i)(3), a payment must be made not later than 90 days after the date of issue of the current refunding issue.

(j) MULTIPURPOSE ISSUE ALLOCATIONS -- (1) IN GENERAL. This paragraph (j) applies to allocations of multipurpose issues to the extent that these allocations affect allocations with respect to the refunding purposes of the issue. Except as otherwise provided in this paragraph (j), proceeds, investments, and bonds of a multipurpose issue may be allocated among the various separate governmental purposes of the issue using any reasonable, consistently applied allocation method. The reasonableness of any allocation method used for this purpose is determined based on all the facts and circumstances. Except as otherwise provided in this paragraph (j), the following general allocation rules apply to multipurpose issues:

(i) ALLOCATION OF PROCEEDS AND INVESTMENTS TO PORTIONS OF ISSUE. The portion of the proceeds and investments of proceeds of a multipurpose issue used for any separate governmental purpose of the issue must be reasonably allocated to the portion of the issue treated as a separate issue for that governmental purpose.

(ii) ALLOCATION OF BONDS TO PORTIONS OF ISSUE. The portion ofthe bonds of a multipurpose issue allocated to a separate governmental purpose must have an issue price that bears the same ratio to the aggregate issue price of all the bonds of the multipurpose issue as the portion of the sale proceeds of the multipurpose issue used for that governmental purpose bears to the aggregate sale proceeds of the multipurpose issue.

(iii) ALLOCATIONS INVOLVING CERTAIN COMMON COSTS. Except as otherwise provided in this paragraph (j)(1)(iii), proceeds, investments, and bonds of a multipurpose issue must be allocated among the separate governmental purposes to account for common costs described in paragraph (j)(3)(ii) of this section using any reasonable allocation method. For this purpose, ratable allocations of common costs among the separate governmental purposes of the multipurpose issue is generally a reasonable allocation method. If another allocation method more accurately reflects the extent to which any separate governmental purpose of a multipurpose issue enjoys the economic benefit or bears the economic burden of certain common costs, that allocation method may be used to account for those common costs.

(iv) SEPARATE ISSUE TREATMENT. The portion of the bonds of a multipurpose issue reasonably allocated to any separate governmental purpose under this paragraph (j) is treated as a separate issue for all purposes of sections 148 and 149(d) except as limited by paragraph (a) of this section.

(2) GENERAL ANTI-ABUSE RULE FOR MULTIPURPOSE ISSUE ALLOCATIONS. An allocation method used to allocate proceeds, investments, or bonds of a multipurpose issue is not reasonable if it is employed as an artifice or device under section 1.103-13(j) or section 1.148-9(g) to avoid, in whole or in part, arbitrage yield restrictions or arbitrage rebate requirements.

(3) SEPARATE GOVERNMENTAL PURPOSES OF A MULTIPURPOSE ISSUE. For purposes of this paragraph (j), separate governmental purposes of a multipurpose issue are determined as follows --

(i) IN GENERAL. Separate governmental purposes of a multipurpose issue include the refunding of a separate prior issue, the financing of a separate purpose investment, the financing of a construction issue (as defined in section 1.148-6(e)), and each other clearly discrete governmental purpose reasonably expected to be financed by that issue. For purposes of the preceding sentence, if a prior issue was used for separate governmental purposes, the separate governmental purposes of a refunding issue with respect to that issue include the separate governmental purposes of the prior issue. Separate governmental purposes may be treated as a single governmental purpose if proceeds of the multipurpose issue used to finance those purposes are eligible for the same initial temporary period under section 148(c). For example, the use of proceeds of a multipurpose issue to finance separate qualified loans for owner-occupied residences under section 143 may be treated as a single purpose. A prior issue that is not otherwise a multipurpose issue may not be treated as a multipurpose issue merely by virtue of being refunded in part by a refunding issue.

(ii) FINANCING OF COMMON COSTS. Common costs of a multipurpose issue are not separate governmental purposes. Common costs include issuance costs, accrued interest, capitalized interest on the issue, reserve or replacement fund, and similar costs properly allocable to the issue.

(iii) EXAMPLE. The following example illustrates the application of this paragraph (j)(3).

EXAMPLE. On January 1, 1993, Housing Authority of State A issued a $10 million issue (the "1993 issue") at an interest rate of 10 percent to finance qualified mortgage loans for owner-occupied residences under section 143. During 1993, A originated $5 million in qualified mortgage loans at an interest rate of 10 percent. In 1994, the market interest rates for housing loans dropped to 8 percent and A was unable to originate further loans from the 1993 issue. On January 1, 1995, A issued a $5 million issue (the "1995 issue") at an interest rate of 8 percent to refund partially the 1993 issue. Under paragraph (j) of this section, A treated the portion of the 1993 issue used to originate $5 million in loans as a separate issue comprised of that group of purpose investments. A allocated those purpose investments representing those loans to that separate unrefunded portion of the issue. In addition, A treated the unoriginated portion of the 1993 issue as a separate issue and allocated the nonpurpose investments representing the unoriginated proceeds of the 1993 issue to the refunded portion of the issue. Thus, when proceeds of the 1995 issue are used to pay principal on the refunded portion of the 1993 issue that is treated as a separate issue under paragraph (j) of this section, only the portion of the 1993 issue representing unoriginated loan funds invested in nonpurpose investments transfer to become transferred proceeds of the 1995 issue.

(4) ALLOCATIONS OF BONDS OF A MULTIPURPOSE ISSUE -- (i) SAFEHARBOR FOR PRO RATA ALLOCATION METHOD FOR BONDS. For purposes of paragraph (j)(1) of this section, allocation of bonds of a multipurpose issue among its separate governmental purposes using apro rata allocation method is a reasonable method. Under the pro rataallocation method, either a ratable portion of each bond or a ratable number of substantially identical whole bonds (same interest rate, maturity, credit, and other terms) of the multipurpose issue are allocated among its separate governmental purposes in proportion to the amount of sale proceeds of the issue used for each separategovernmental purpose.

(ii) SAFE HARBOR FOR ALLOCATIONS OF BONDS USED TO FINANCE SEPARATE PURPOSE INVESTMENTS. For purposes of paragraph (j)(1) of this section, an allocation of a portion of the bonds of a multipurpose issue to a particular purpose investment is generally reasonable if that purpose investment has debt service that generally corresponds in time and amount to the debt service on the bonds allocated to that purpose investment.

(iii) ROUNDING OF BOND ALLOCATIONS TO NEXT WHOLE BOND DENOMINATION PERMITTED. If a fractional allocation of bonds of a multipurpose issue among its separate governmental purposes satisfies paragraph (j)(4) of this section, then an allocation that rounds each such fractional allocation up or down to the next integral multiple of a permitted denomination of bonds of that issue not in excess of $100,000 also satisfies paragraph (j)(4) of this section.

(iv) RESTRICTIONS ON ALLOCATIONS OF BONDS TO REFUNDING PURPOSES. If a portion of a multipurpose issue is used for refunding purposes, a method of allocating bonds of that issue is reasonable under this paragraph (j) only if it satisfies one of the following tests:

(A) PRO RATA ALLOCATION METHOD. The portion of the bonds allocated to refunding purposes results from use of the pro rata allocation method under paragraph (j)(4)(i) of this section.

(B) WEIGHTED AVERAGE MATURITY TEST. The portion of the bonds allocated to refunding purposes has a weighted average maturity that is not less than 90% of the remaining weighted average maturity of the bonds being refunded by the multipurpose issue.

(5) LIMITATION ON MULTI-GENERATION ALLOCATIONS. This paragraph (j) does not apply to allocations of a multipurpose refunded issue unless that refunded issue is refunded directly by an issue to which this paragraph (j) applies. For example, if in a series of refundings, a 1993 issue refunds a 1985 multipurpose issue which in turn refunds a 1980 multipurpose issue, this paragraph (j) applies to allocations of the 1985 issue for purposes of allocating the refunding purposes of the 1993 issue, but does not permit re-allocations of the 1980 issue.

(k) GENERAL ANTI-ABUSE RULE FOR REFUNDINGS. Any allocation affecting a refunding issue or any other action taken for a purpose of avoiding, in whole or in part, the restrictions of sections 148 or 149 or the purposes of this section is deemed to be an artifice or device under section 1.103-13(j) and section 1.148-9(g), and, in the case of an advance refunding issue, an abusive device under 149(d)(4).

Par. 8. A new section 1.148-12T is added to read as follows:

SECTION 1.148-12T ARBITRAGE REBATE IN LIEU OF CERTAIN YIELD RESTRICTIONS (TEMPORARY).

(a) EXTENSION OF CERTAIN TEMPORARY PERIODS UPON COMPLIANCE WITH ARBITRAGE REBATE REQUIREMENT -- (1) IN GENERAL. Except as otherwise provided in this paragraph (a), proceeds (as defined in section 1.148-8(d)) of an issue qualify for investment in higher yielding investments and are treated as invested for a reasonable temporary period under section 148 if all the following requirements are satisfied:

(i) COMPLIANCE WITH REBATE REQUIREMENT. The proceeds are subject to the rebate requirement of section 148(f), and are not otherwise exempt from that requirement under any exception to section 148(f),and the issuer complies with the rebate requirement of section 148(f) with respect to those proceeds.

(ii) COMPLIANCE WITH ELIGIBLE TEMPORARY PERIOD. The proceeds are or were eligible for another temporary period under section 148 and all qualification requirements for that temporary period were satisfied.

(2) EXCEPTIONS. Paragraph (a)(1) of this section does not apply to the following:

(i) TEMPORARY PERIOD FOR CERTAIN REFUNDING ISSUES. Any proceeds (including transferred proceeds) of a refunding issue other than transferred proceeds to which the initial temporary period under section 148(c) applies.

(ii) TEMPORARY PERIODS FOR CERTAIN REFUNDED ISSUES. Any proceeds of an issue that has been refunded by an advance refunding issue (as defined in section 1.148-11(b)).

(iii) TEMPORARY PERIODS FOR CERTAIN POOLED ISSUES. Any proceedsto which section 148(c)(2) relating to certain pooled financing issues applies.

(iv) NOT COVERED BY TWO-YEAR CONSTRUCTION EXCEPTION PENALTY ELECTION. Any proceeds that are subject to an election of the issuer to pay penalty in lieu of rebate under section 148(f)(4)(C)(vii).

(3) ANTI-ABUSE RULE. This section does not apply to any use of proceeds of an issue in a manner that constitutes an artifice or device under section 1.103-13(j) or section 1.148-9(g).

(4) EFFECTIVE DATE. The provisions of this section are effective for all issues issued after May 18, 1992.

Par. 9. A new section 1.148-13T is added to read as follows:

SECTION 1.148-13T RECOVERY OF OVERPAYMENT (TEMPORARY).

(a) GENERAL RULE. Except as provided in paragraph (c) of this section, an issuer may recover an overpayment with respect to an issue by proving to the satisfaction of the Commissioner that the issuer made the overpayment.

(b) OVERPAYMENT DEFINED. An overpayment with respect to an issue is the amount paid to the United States under sections 1.148-1 through 1.148-8 in excess of --

(1) The rebatable arbitrage with respect to the issue determined as of the most recent installment computation date and

(2) All amounts that are otherwise required to be paid to the United States under sections 1.148-1 through 1.148-8 as of the date the refund is first requested.

(c) SPECIAL RULES FOR RECOVERY. (1) An overpayment may be recovered only to the extent that --

(i) The overpayment was paid as a result of a mistake; and

(ii) Receipt of the recovery by the issuer on the date that the recovery is first requested would not result in additional rebatable arbitrage as of that date.

(2) An overpayment of an amount paid as a penalty in lieu of rebate under section 148(f)(4)(C)(vii) may not be recovered before the end of the fourth spending period (as defined in section 1.148-6(c)(1)(iv)).

(3) An overpayment may not be recovered because interest on the issue is not excludable from gross income under section 103.

(4) The Commissioner is not required to refund an overpayment prior to the final computation date unless the issuer proves to the satisfaction of the Commissioner that there will be no additional rebatable arbitrage with respect to the issue as of the date the refund is first requested or that the overpayment was solely the result of an arithmetic mistake.

(5) The Commissioner is not required to process any request for refund prior to September 15, 1992.

(6) The Commissioner is not required to refund an amount less than $3,000 prior to the final computation date.

Par. 10. A new section 1.149(d)-1 is added to read as follows:

SECTION 1.149(d)-1 RESTRICTIONS ON ADVANCE REFUNDINGS.

(a) GENERAL RULE. Under section 149(d) and this section, nothing in section 103(a) or in any other provision of law shall be construed to provide an exemption from Federal income tax for interest on any bond issued as part of an issue described in paragraph (b), (c),or (d) of this section.

(b) CERTAIN PRIVATE ACTIVITY BONDS. [Reserved]

(c) OTHER BONDS. [Reserved]

(d) ABUSIVE TRANSACTIONS PROHIBITED -- (1) IN GENERAL. [Reserved]

(2) FAILURE TO PAY REQUIRED REBATE. Any issue to which section 149(d)(4) and section 1.148-1 apply that fails to meet the requirements of section 1.148-1 is described in this paragraph (d).Section 149(d)(4) and this paragraph (d)(2) apply to any bond issued after August 31, 1986, if any bond issued as part of the issue (of which such bond is a part) is issued to advance refund another bond (within the meaning of section 149(d)(5)). See section 1.148-0T(b)(2)(ii) for bonds to which section 1.148-1 applies.

(3) MIXED ESCROWS -- (i) IN GENERAL. Any issue any portion of which is a bond that is an advance refunding bond described insection 149(d)(5) is an issue described in section 149(d)(4) if --

(A) Any of the proceeds of the issue are invested in a refunding escrow fund in which a portion of the proceeds are invested in tax-exempt bonds (within the meaning of section 1.148-8(e)(3)) and a portion of the proceeds are invested in nonpurpose investments;

(B) The yield on the tax-exempt bonds in the refunding escrowfund exceeds the yield on the bonds;

(C) The yield on all the investments (including investment property and tax-exempt bonds) in the refunding escrow fund exceeds the yield on the bonds; and

(D) The weighted average maturity of the tax-exempt bonds in the refunding escrow fund is more than 25 percent greater or less than the weighted average maturity of the nonpurpose investments in therefunding escrow fund, and the weighted average maturity of nonpurpose investments in the refunding escrow fund is greater than 60 days.

(ii) ESCROW. For purposes of this section 1.149(d)-1(d)(3), are funding escrow fund means a refunding escrow fund as defined in section 1.148-8(g), except that investments in the escrow may include both nonpurpose investments and tax-exempt bonds.

(iii) EFFECTIVE DATE. This paragraph (d)(3) applies to any bond issued after May 28, 1991, if any bond issued as part of the issue (of which such bond is a part) is issued to advance refund another bond (within the meaning of section 149(d)(5).

Par. 11. New section 1.150-0 is added to read as follows:

SECTION 1.150-0 TABLE OF CONTENTS. This section lists the captioned paragraphs contained in section 1.150-1.

 SECTION 1.150-1 DEFINITIONS AND SPECIAL RULES RELATING TO TAX-EXEMPT

 

      BOND REQUIREMENTS IN GENERAL.

 

           (a) Applicability.

 

           (b) Bonds.

 

                (1) Bond.

 

                (2) Tax-exempt bond (or issue).

 

                (3) State or local bond.

 

                (4) Private activity bond.

 

                     (i) In general.

 

                     (ii) Qualified bond.

 

                (5) Fixed yield bond.

 

                (6) Variable yield bond.

 

                (7) Tender bond.

 

                     (i) In general.

 

                     (ii) Tender right.

 

                     (iii) Tender rate.

 

                (8) Current index bond.

 

                     (i) In general.

 

                     (ii) Interest index.

 

                     (iii) Current rate.

 

           (c) Sale and issue date.

 

               (1) Sale date.

 

               (2) Date of issue.

 

           (d) Final maturity date.

 

                (1) In general.

 

                (2) Actually and unconditionally due.

 

                (3) Single loan with partial principal repayments.

 

           (e) Internal Revenue Code.

 

           (f) Controlled group.

 

                (1) Direct control.

 

                (2) Indirect control.

 

                (3) Example.

 

           (g) Conduit borrower.

 

           (h) Capital expenditure.

 

           (i) Effective date.

 

                (1) [Reserved]

 

                (2) Effective dates for definitions of control, conduit borrower, and capital expenditure.

 

 

Par. 12. Section 1.150-1 is amended by revising paragraphs (a) through (e) to read as follows:

SECTION 1.150-1 DEFINITIONS AND SPECIAL RULES RELATING TO TAX-EXEMPT BOND REQUIREMENTS IN GENERAL.

(a) APPLICABILITY. Except to the extent otherwise provided, the definitions and rules in this section apply for purposes of the regulations under sections 141 through 150.

(b) BONDS -- (1) BOND. The term "bond" includes any obligation. Whenever necessary or appropriate to carry out the purposes of a provision, a single bond shall be treated as separate bonds (or separate bonds shall be treated as a single bond).

(2) TAX-EXEMPT BOND (OR ISSUE). The term "tax-exempt bond (or issue)" means any bond (or issue) the interest on which is excluded from gross income under any provision of law. Any bond (or issue) that (when issued) purported to be a tax-exempt bond (or issue) shall be treated as a tax-exempt bond (or issue).

(3) STATE OR LOCAL BOND. The term "State or local bond" means any bond that is (or would be) a tax-exempt bond (without regard to the last sentence of paragraph (b)(2) of this section) if the appropriate requirements of sections 141 through 150 are (or were) met.

(4) PRIVATE ACTIVITY BOND -- (i) IN GENERAL. The term "private activity bond" includes any bond that is a private activity bond (as defined in section 141). Such term shall not include any bond described in section 1312(c)(2) of the Tax Reform Act of 1986 to which section 141(a) does not apply by reason of section 1312 or 1313 of such Act.

(ii) QUALIFIED BOND. The term "qualified bond" means any private activity bond that is a qualified bond (within the meaning of section 141(e)). Each bond described in a subparagraph of section 141(e)(1) has the same meaning as when used in such subparagraph. Any bond to which section 141(a) does not apply by reason of section 1312 or 1313 of the Tax Reform Act of 1986 shall be treated as a bond described in the subparagraph of section 141(e)(1) to which the use of the proceeds of such bond most closely relates.

(5) FIXED YIELD BOND. The term "fixed yield bond" means any bond that is not a variable yield bond.

(6) VARIABLE YIELD BOND. The term "variable yield bond" means any bond if any interest or other amount payable on the bond (other than in the event of an unanticipated contingency) is determined by reference to (or by reference to an index that reflects) market interest rates or stock or commodity prices after the date of issue.

(7) TENDER BOND -- (i) IN GENERAL. The term "tender bond" means any variable yield bond that is subject to a tender right if --

(A) All interest on the bond (other than in the event of a remote contingency) accrues at a tender rate; and

(B) Such interest is actually and unconditionally due at periodic intervals of one year or less.

(ii) TENDER RIGHT. A bond is subject to a tender right if the holder of the bond is entitled (or required) to tender the bond for purchase or redemption at par on one or more tender dates before the final maturity date (plus accrued interest to the tender date if the tender date is not a regular interest payment date).

(iii) TENDER RATE. Interest on a bond that is subject to a tender right accrues at a tender rate if --

(A) In the case of interest accruing to the first tender date, the interest rate is set on or after the sale date at the lowest rate that would enable the bond to be marketed at par (plus accrued interest, if any) on the date of issue; and

(B) In the case of interest accruing for each period between tender dates (and for the final period to maturity), under the termsof the bond the interest rate is reset for such period at the lowest rate that would enable the bond to be remarketed at par (plus accrued interest, if any) at the beginning of the period. The interest accruing for each period may be subject to a minimum and/or maximum rate if the minimum and/or maximum rate is not designed to front-load or back-load interest.

(8) CURRENT INDEX BOND -- (i) IN GENERAL. The term "current index bond" means any variable yield bond if --

(A) All interest on the bond (other than in the event of a remote contingency) accrues at the current rate established by a single interest index or at a rate that is fixed and determinable as of the date of issue; and

(B) Such interest is actually and unconditionally due atperiodic intervals of one year or less.

The rate may vary from the current rate established by the interest index if the variation is based on a percentage or multiple of the current rate and/or a number of percentage or basis points more orless than the current rate and the variation is the same at alltimes.

(ii) INTEREST INDEX. The term "interest index" means a series of interest rates that reflect either --

(A) The rate that is currently publicly offered by a financial institution for a particular type of loan to a significant class of unrelated borrowers; or

(B) The average of a statistically significant sample of current yields on a class of publicly traded bonds. Examples of interest indexes include the prime rate of a designated financial institution, LIBOR, the applicable Federal rate, and the average yield on United States Treasury securities of a particular class.

(iii) CURRENT RATE. The interest rate in effect on a bond accrues at the current rate if it is based on a rate that is established by the interest index no earlier than six months before and no later than six months after the rate first is in effect.

(c) SALE AND ISSUE DATE -- (1) SALE DATE. The sale date of abond is the first day on which there is a binding contract in writing for the sale or exchange of the bond on specific terms that are not later modified or adjusted in any material respect. The sale date is the date on which the bond is sold by the issuer.

(2) DATE OF ISSUE. The date of issue of a bond is the first dayon which there is a physical delivery of the written evidence of the bond in exchange for the purchase price. Such day shall not be earlier than the first day on which interest begins to accrue on the bond for federal income tax purposes.

(d) FINAL MATURITY DATE -- (1) IN GENERAL. The final maturity date of a bond is the latest date on which any principal or interest on the bond is actually and unconditionally due.

(2) ACTUALLY AND UNCONDITIONALLY DUE. A payment of principal or interest on or the tender price or retirement price of a bond is actually and unconditionally due on the first day on which the failure to make the payment on a timely basis results in significant remedies and consequences to the issuer that are normal in similar lending transactions.

(3) SINGLE LOAN WITH PARTIAL PRINCIPAL REPAYMENTS. If a single debt instrument requires one or more payments of principal before the latest date that the final payment of principal and interest is actually and unconditionally due, each payment of principal (and related payments of interest) shall be treated as a separate bond. The final maturity date of each separate bond shall be the latest date on which any payment of principal or interest under the debtinstrument is actually and unconditionally due.

(e) INTERNAL REVENUE CODE. The term "1954 Code" means the Internal Revenue Code of 1954 as in effect before the enactment ofthe Tax Reform Act of 1986. Any reference to a section of the Internal Revenue Code (other than the 1954 Code) is to a section of the Internal Revenue Code of 1986.

* * * * * * *

PART 602 -- OMB CONTROL NUMBER UNDER THE PAPERWORK REDUCTION ACT

Par. 13. The authority citation for part 602 continues to read:

Authority: 26 U.S.C. 7805.

Par. 14. Section 602.101(c) is amended by removing the entries for "Sections 1.148-OT through 1.148-8T" and adding new entries to read as follows:

SECTION 602.101 OMB CONTROL NUMBERS UNDER THE PAPERWORK REDUCTION ACT.

* * * * * * *

 (c) * * *

 

 CFR PART OR SECTION WHERE                    CURRENT OMB

 

 IDENTIFIED OR DESCRIBED                      CONTROL NUMBER

 

 1.148-0                                      1545-1098

 

 1.148-1                                      1545-0720

 

                                              1545-1098

 

 1.148-2                                      1545-0720

 

 1.148-3                                      1545-0720

 

                                              1545-1098

 

 1.148-4                                      1545-0720

 

 1.148-5                                      1545-0720

 

 1.148-6                                      1545-0720

 

                                              1545-1297

 

 1.148-7                                      1545-0720

 

 1.148-8                                      1545-1098

 

 *   *   *   *   *   *

 

 1.148-11                                     1545-1303

 

 *   *   *   *   *   *

 

Joe Kump

 

Acting Commissioner of Internal Revenue

 

Approved:

 

Fred T. Goldberg, Jr.

 

Assistant Secretary of the Treasury
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