A financing alternative that could reduce new project financing costs by hundreds of thousands of dollars a year remains often ignored, or little known, by a surprising number of otherwise sophisticated real estate executives involved in new capital projects. We have begun calling it “the best kept secret in real estate financing today.”
The secret – albeit an unintentional secret – is low-interest rate bond financing issued through local or regional industrial development agencies. These bonds may either tax-exempt or federally taxable bonds. The bonds are administered by state or local industrial development or economic development agencies and are available to companies, manufacturers and nonprofit institutions planning new capital projects.
There are more than 1,000 such state and local agencies nationwide. These agencies exist to encourage and support local industrial and economic development, increase employment and expand the tax base. These agencies may offer a variety of economic benefits, including issuing bonds on behalf of borrowers to finance their capital projects. These securities are not obligations of the municipality or any government entity, and the bonds are not backed by municipal or state taxes. Rather, these are solely the corporate obligation of the borrowers.
As capital market instruments, the advantage to the company or nonprofit borrower is that these bonds offer more flexible terms and are available at far more attractive interest rates when compared to bank loans. The bonds are typically issued with 10 to 40 year maturities. The interest rate may be fixed, floating or variable and their benefits are substantial.
For example, in only the last few years we have seen Fortunoff, a specialty retailer, reduce the cost of financing the development of a new department store by $2.5 million a year on a 30-year bond financing.
Interplex Industries Inc. lowered its acquisition, renovation and equipment financing costs for an industrial facility in Rhode Island by as much as 5 percent a year for 30 years.
And, more recently, Interplex Nacal Inc. has completed financing for a new 37,000-square-foot factory for the production of sophisticated, tight tolerance, precision metal parts, in Tustin, Calif., through a $5 million bond issued by the California Statewide Communities Development Authority. The low cost bonds – the opening interest rate on the $5 million bonds was 3.8 percent, significantly below today’s bank financing costs – is expected to save Interplex hundreds of thousands of dollars in acquisition and construction financing costs for the new expanded facility.
The Masters School in Dobbs Ferry, New York found it was able to cut the cost of financing a new $17.6 million science building by some $600,000 a year.
The bond’s interest rate was at 3.4 percent to 3.5 percent over a 10 year average. A bank loan issued at the same time would have been around 5 to 5.5 percent.
IDA issued tax-exempt bonds can be especially useful and cost-effective for nonprofit organizations, such as private schools and cultural institutions with a demonstrated need for capital funds to expand and improve their facilities to better serve their students or community members, implement their charter purpose and fulfill their mission.
These are just a few of more than 50 industrial and economic development agency bond financing capital projects we have been involved in over the past several years. And surprisingly, most of the key executives at these organizations had only little or no knowledge or understanding of the availability or advantages of low-cost bond financing for their projects when we first met with them.
We have also pointed out that such bond financing can be used to refund higher cost debt that the organization had been saddled with in previous years, a fact especially useful in an era of volatile interest rates. In one recent instance, John I. Haas Inc. was the borrower in a $10 million bond financing that was used to complete the refunding of debt issued in 1989 and extend the maturity of the bonds for another 22 years at a rate which has averaged under 5 percent, to date, including closing costs. Had the refunding not been available, the firm would have had to use $10 million of its equity to pay the maturing bonds and then borrowed needed funds at taxable rates in excess of 6 percent going forward.
As our experience has shown, low-interest rate bonds have helped a variety of business, manufacturers, private schools, nonprofit institutions and housing developers across the country to substantially reduce the cost of financing needed facilities. And, in the most recent years, they have done it at interest rates that have been below 2 percent– far below construction financing costs, or bridge loans that were available through other financing channels. In addition, this type of financing often brings with it certain tax abatements and economic incentives such as reduced energy costs. The quid pro quo for receiving such benefits is the creation or retention of jobs, or increasing tax ratables.
Within the recent period of low interest rates, the bonds have been more often issued as variable rate bonds. As capital market instruments, bonds most often have more flexible terms and far more attractive interest rates than comparable bank loans. Because the interest paid to bondholders is exempt from income taxes, the bonds are highly marketable to individual and institutional investors in high tax brackets, particularly where they may be taxed on three levels, federal, state and local.
