The New Jersey Environmental Infrastructure Trust assumes responsibility of complying with federal arbitrage requirements for each borrower in the financing program. .
What is arbitrage? Arbitrage, in the context of municipal securities, is the difference between the rate at which the proceeds were borrowed and the rate at which the proceeds were invested. Most local governments can borrow funds at tax-exempt rates by issuing municipal bonds. They can invest the funds received from issuing bonds into taxable securities such as U.S. Treasury securities, which typically earn higher rates than comparable tax-exempt securities. With the rate advantage offered by taxable securities over tax-exempt securities, the local government issuing municipal bonds could, depending on market conditions, position itself to earn positive arbitrage, or earn a rate higher than the borrowing rate, on the bond proceeds.
In general, any arbitrage earned on the investment of tax-exempt bond proceeds must be rebated or remitted to the IRS.
The Trust examines arbitrage compliance issues during the early structuring of each bond issue, permitting the Trust to take advantage of rebate exceptions that could allow for the retention of all or part of the arbitrage earnings, therefore resulting in further savings for each borrower.
The Trust staff reviews the bond documents to verify that the issue is subject to rebate or penalty in lieu of rebate and, if so, determining the gross proceeds and the related funds and accounts that are applicable to the rebate or penalty. The Trust staff then produces a detailed report that includes the bond yield, investment yields, earnings and expenditure activity, a summary of each fund and account indicating the aggregate portfolio yield and excess earnings (rebate) for each fund or account and a cumulative rebate liability summary. The rebate calculations are then reviewed by the Trust's independent auditor on an annual basis, to ensure accuracy and compliance with the Internal Revenue Code and the Income Tax Regulations in relation to the arbitrage rebate requirements.
