Boston University School of Law
Private Activity Bonds (PABs) are private debt issued under the auspices of state governments. The states issued $119.4 billion dollars of long-term PABs in 1985. Utilizing the state government conduit transforms the bond interest into federally tax exempt income. As a result, PABs bear lower interest rates than comparable taxable bonds. PAB financing significantly reduces private capital costs at the expense of the Federal Treasury. The structure of the PAB subsidy is fundamentally flawed. State governments subsidize local businesses and investments with PABs, often in competition with sister states. The states receive significant local benefits, but bear no direct costs themselves. They reap where they did not sow. The Federal government bears all direct costs associated with the PAB subsidy. The estimated tax expenditure exceeds eleven billion dollars per year. As a result, states possess strong economic incentives to expend the federal subsidy by overproducing PABs. State, local, and federal authorities agree that some form of restrictions on PABs are necessary. Current efforts have largely ignored the fundamental overproduction incentive. Worse yet, many of these ineffective regulations severely encroach upon state and local governmental authority to issue tax-free debt. This Article will examine the current regulatory morass and suggests that almost all federal regulation of PABs could be replaced by a simple participation requirement which would confront the central problem without undue federal interference in state and local government.
Taxation Without Premeditation: An Economic Analysis of the Structure, Regulation and Strangulation of the Private Activity Bond Market
Boston University Journal of Tax Law
Available at: https://scholarship.law.bu.edu/faculty_scholarship/1727