By Angela W. Adolph

The Internal Revenue Code restricts the amount of private business use that can occur in facilities financed with tax-exempt bond proceeds, but there are a number of exceptions to this general rule. Certain facilities (“exempt facilities”) that are privately used are eligible for tax-exempt bond financing if they benefit the general public or implement specific Congressional policies. In August, the IRS issued final regulations for determining whether a facility is a “solid waste disposal facility” that qualifies for tax-exempt bond financing.

The final regulations define a “solid waste disposal facility” as a facility that processes solid waste in a qualified solid waste disposal process, performs a function preliminary to such process, or is functionally related and subordinate to the facility. Under prior regulations, the solid waste had to have no value, which greatly limited the facilities that could be financed with tax-exempt bonds. The final regulations abandon the “no value test” and define solid waste as garbage, refuse, and other solid material derived from any agricultural, commercial, consumer, governmental or industrial operation or activity if the material is reasonably expected to be introduced within a reasonable time into a qualified solid waste disposal facility and is either used material or residual material. The final regulations provide that a material is a “solid” if it is solid at ambient temperature and pressure, but does not include virgin material (with some exceptions), solids within liquids and liquid waste, precious metals (with some exceptions), hazardous materials, and radioactive materials. And, the final regulations eliminate the provision of the proposed rule that residual material is solid waste only if it is less than 5% of the material introduced into the related process.

A facility that performs a “preliminary function” also qualifies as a solid waste disposal facility. Such preliminary functions include collecting, sorting, separating, storing, treating, disassembling, or handling solid waste. The final regulations do away with the 50% threshold limit on preliminary functions, but the function still must be preliminary to and directly related to a qualified solid waste disposal process.

There are 3 types of solid waste disposal processes provided for in the final regulations. Absent any express restriction, a solid waste disposal process can include any biological, engineering, industrial, or technical method. The disposal processes provided in the final regulations include: (1) a final disposal process; (2) an energy conversion process; and (3) a recycling process. A final disposal process is just that; it’s the last stop for the material, which is either landfilled, incinerated (without capturing useful energy), or otherwise indefinitely contained. An energy conversion process involves a thermal, chemical, or other process applied to solid waste to create and capture energy. A recycling process involves reconstituting or transforming the solid material, but does not include refurbishing, repairing, or similar activities.

Both energy conversion and recycling processes result in the production of a product that is useful for consumption in agricultural, consumer, commercial, governmental, or industrial operations or activity and which could be sold for such use. The final regulations continue to provide that solid waste disposal process ends at the production of the first marketable product. Whether a “useful product” has been produced involves determining whether a product could be sold, not whether the product actually is sold. Operational constraints that affect the point in production when a useful product can reasonably be extracted or isolated and sold independently may be considered in the analysis. The final regulations provide that the costs of extracting, isolating, storing and transporting the product to a market may be taken into account only if the product is to be used at a different location from where it is produced.

What if the facility in question is a mixed-use facility that provides both a qualified solid waste disposal function and another non-qualified function? The final regulations continue the current rule that permits partial financing of a facility in which only a portion qualifies as a solid waste disposal facility. The costs allocable to the qualified solid waste disposal function are determined using any reasonable method and based on all facts and circumstances. The final regulations also permit an entire facility to be financed with tax-exempt bonds even where the facility processes solid waste and material that does not qualify as solid waste (a “mixed-input facility”) if at least 65% of the materials processed (as determined by weight or volume) are solid waste. This 65% test must be satisfied each year after the facility is actually operating substantially at design levels, with some exceptions for extraordinary events outside the facility’s control. The final regulations provide a 3 year curative period to address the impact from such events.

The final regulations also provide several examples of various facilities that would qualify for tax-exempt financing as solid waste disposal facilities. Such examples include: A facility that converts used tires into roadbed material is engaged in a recycling process so that facility qualifies as a solid waste disposal facility. A facility that burns solid waste and captures steam as useful energy is engaged in an energy conversion process, and so qualifies as a solid waste disposal facility. But, any facilities used to further process the steam to generate electricity are not engaged in an energy conversion process and would not qualify as solid waste disposal facilities. A transfer station that collects, sorts, and processes solid waste before it is landfilled and the trucks used to haul the waste to the transfer station provide preliminary functions directly related to disposal and so qualify as solid waste disposal facilities if at least 65% of the material brought to the transfer station is solid waste. Refurbishment is not a qualified disposal process, so a facility that restores and repairs old cars does not qualify as a solid waste disposal facility.

The final regulations are applicable to bonds issued after October 18, 2011, but may be applied retroactively. The final regs only need to be applied to refunding bonds where the refunding involves an extension of the remaining weighted average maturity of the refunded bonds.