What Are Industrial Revenue Bonds?
Industrial Revenue Bonds (IRB) are municipal debt securities issued by a government agency on behalf of a private sector company and intended to build or acquire factories or other heavy equipment and tools.
IRBs were formerly called Industrial Development Bonds (IDB).
Understanding Industrial Revenue Bonds (IRBs)
Municipal bonds are bonds issued by a state, municipality, or county to raise money for capital projects, such as infrastructure development. Investors expect a timely and periodic stream of interest income on these bonds and, upon maturity, repayment of their principal investment. The source of funds used for interest payments and principal depends on whether the muni bond is a general obligation bond or a revenue bond. A general obligation bond has its debt obligations made from the general funds of the municipal issuer. These bonds are backed by the full faith and credit of the issuer which may have the full authority to increase taxes in order to meet its payment obligations.
A revenue bond is a municipal bond that is backed by the revenues generated from a specific project or revenue source. When municipalities issue bonds on behalf of private or non-profit organizations, the underlying borrowers agree to repay the issuer, which pays the interest and principal on the securities solely from the revenue stream of the projects undertaken by the borrowers. An example of a revenue bond is the private activity bond (PAB), which is issued on behalf of private and non-profit organizations for the purpose of financing certain projects for the benefit of the community.
How Industrial Revenue Bonds Work
An Industrial Revenue Bond (IRB) is a form of PAB issued by a government to assist a private for-profit company that might otherwise be unable to obtain financing for its industrial venture or unwilling to undertake the project on its own. The proceeds from the bond are used to fund the acquisition, construction/reconstruction, expansion, or improvement of property that qualifies as a manufacturing facility or equipment. A private company’s project qualifies for an IRB if it involves manufacturing, waste disposal/recovery, or wastewater treatment. Also, to qualify, total capital expenditures at the project site for the three years prior and subsequent to the issuance of the bonds must be $20 million or less.
IRBs are small issue manufacturing bonds that are exempt from both federal and state income taxes and, thus, are issued at lower interest rates than comparable conventional loans. Since the project is legally owned by a governmental entity, the company developing the project obtains the status of a state or local government with respect to the property. The property being developed, thus, becomes exempt from many taxes, especially property taxes, until the bonds mature. If the company defaults on the lease payments, the bond trustee forecloses and sells the company’s assets to repay bondholders.
IRBs are governed by IRS statute and include the following provisions:
- the maximum amount of bonds that may be issued or outstanding is $10 million
- at least 95% of the bond proceeds must be spent on qualifying costs
- not more than 2% of the proceeds may be used for costs of issuance
- total IRBs outstanding at the company may not exceed $40 million
- The weighted average maturity of the bonds cannot exceed 120% of the average economic life of the facilities to be financed
- bond proceeds cannot be used to acquire used equipment, except as part of the acquisition of an entire facility
- no more than 25% of the proceeds can be used to acquire land
The government's goal in providing debt securities in the form of Industrial Revenue Bonds is to improve the economic and employment conditions of its region. Many IDBs are sold as variable rate demand obligation bonds (VRDO) secured by a bank letter of credit with a long-term credit rating of at least A3 from Moody's Investors Service, or an A- from Standard & Poor' or Fitch Ratings, Inc.