This is the fourth post in the FCRA Non-Federal Series

In July 2022, the GAO published a report on the FCRA non-federal issue, Transparency Needed for Evaluation of Potential Federal Involvement in Projects Seeking Loans.  Unlike the two prior reports discussed in this series, the GAO Report does not analyze budget principles but primarily describes the results of an investigation.  It was requested by the House’s Budget Committee in 2020 and the investigation was conducted from June 2021 to July 2022. 

The core of the GAO Report is a description of OMB’s concepts underlying the FCRA non-federal criteria for WIFIA published in 2020, per the Congressional directive.  Interestingly, Treasury involvement is not mentioned, even though in the directive it was named along with EPA and OMB as one of primary parties responsible for criteria development.  That doesn’t mean Treasury wasn’t involved in some way, though the relative lack of focus and precision about debt mechanics in the published criteria does suggest their input was limited.

The Report also briefly describes GAO investigation into how the FCRA non-federal issue is considered at five other federal infrastructure loan programs, though outside of WIFIA, it’s apparently non-existent or very infrequent.  That scope, however, is the context for GAO’s single recommendation, that criteria for the FCRA non-federal issue be developed and applied uniformly to all federal loan programs.  Since the GAO Report does not question or evaluate OMB’s thought processes or the resultant WIFIA criteria, the implication is that WIFIA’s currently published criteria should be the model for a universal application.

Factors Considered by OMB in the Development of the Criteria

There are five important paragraphs in the GAO Report on OMB’s description of its thinking in developing the FCRA non-federal criteria. I’ll quote them and make some general observations about each in sequence.

According to OMB staff, their classification of a borrower as federal or non-federal depends on whether a loan is sought for a federal or non-federal activity, rather than solely on whether the direct recipient of the loan is a federal or non-federal entity.  In other words, the fact that a loan applicant is not a federal entity does not automatically mean that the proposed project will be considered non-federal for the purposes of FCRA.

• 1967 Report makes it clear that the distinguishing characteristic of a federal program loan is the obligation to repay, not what it is ‘sought for’.  Repayment is the ‘activity’ that matters here.  I think it can be assumed (though it should also be confirmed) that if substantial non-federal entities are willing to commit to repay a large amount of money over decades, they are doing it out of non-federal self-interest – the project, or part thereof, that they’re paying for is (perhaps sadly) not a patriotic gift to the nation.  Their presumably rational decision to allocate their own non-federal resources for loan repayment is the external, non-federal discipline that the 1967 Report is looking for with respect to separate budget treatment.

• FCRA does not classify ‘projects’ – only federal program loans.  With that more precise language replacement, the sentence can be flipped around with equal truth: “In other words, the fact that a loan applicant is a federal entity (e.g., for CBO scoring purposes) does not automatically mean that the proposed program loan will be considered federal for the purposes of FCRA.” Again, it all depends on who’s repaying the loan.

Structure of the Project.  OMB staff stated that if the federal government is the primary recipient of a completed project or if it receives the majority of a benefit from a project completed by a non-federal borrower, OMB may determine the loan would not qualify for FCRA’s special budgetary treatment.

• On surface this makes complete sense – if the project’s primary beneficiary is federal, then it’s a federal project.  This echoes the CBO Report’s criteria and its examples describing facilities dedicated for use by federal agencies.

• But there’s a missing piece that ought to be made explicit.  If the project’s primary beneficiary is federal, then what is the ultimate source of the proposed program loan’s repayment?  Presumably, it will also be a federal entity, directly or (more likely) indirectly through contractual or lease payments, as in CBO’s examples.  If that’s the case, then a proposed program loan will fail the external discipline test and should not receive FCRA treatment.  But much more fundamentally, infrastructure loan programs are intended to support financing for large-scale public projects that benefit specific local or regional communities.  It’s hard to imagine that a large-scale infrastructure project that primarily benefitted only a federal agency would even meet threshold eligibility at an infrastructure loan program – much less that local or regional communities would pay for it.

• Still, the ‘Structure of the Project’ is important, though the key point about this is not mentioned.  In the real world, a large-scale project with federal participation but with substantial non-federal participants, owners, and stakeholders, and financed at least in part by non-recourse debt, will have a complex structure that can’t be easily classified as wholly one thing or another [1].  It depends on what ‘activity’ you’re concerned about.  Regarding FCRA treatment, that activity is specifically the repayment of a program loan and whether it is subject to external, non-federal discipline.  For the FCRA non-federal issue, consideration of the project’s structure needs to be focused on answering this precise question.

Financing of the Project.  OMB also assesses the resources available to a borrower for repayment and how dependent a project may be on federal support.  OMB staff stated that as part of credit program implementation, agencies are asked why a given objective cannot be achieved without federal support, what existing private sources of credit are available to support the project’s objective, and what other federal credit or noncredit programs exist to support the objective.

• The first sentence starts in a promising way with a mention of loan repayment (finally!) but then slides into an apparent implication that the overall degree of federal support for a project will determine the ‘resources available’ for that repayment.  In fact, they aren’t necessarily related.  In a real-world infrastructure project financing, the ‘borrower’ is likely to be a special purpose company e.g., ProjectCo LLC.  But the substantive source of repayment for the program loan and other non-recourse debt will be the non-federal resources of the beneficiaries of the project (or relevant parts thereof), likely local or regional communities.  The federal participant will most likely be involved at or below the ProjectCo development, management, and ownership level.  The relationship between the repaying beneficiaries and the federal participant needs to be examined, but assuming they’re honest and rational actors, it’s unlikely that the resources for loan repayment will be considered federal.  The degree of overall federal support for the project, outside repayment resources, might be a policy matter for the loan program to consider, but it isn’t a FCRA issue.

• The questions about loan program objectives are explicitly asked in OMB Circular A-129 and are applicable to all federal credit programs and loans.  But what they address is whether federal credit is necessary, not ‘federal support’ as a whole.  Certainly, the questions have nothing to do with FCRA.  If a loan program is making loans to highly rated, indisputably non-federal public agencies with excellent access to the tax-exempt bond market for financing essential infrastructure projects that they’ll do anyway, the loans will certainly receive FCRA treatment, but one might wonder how they’re consistent with Circular A-129 [2].  On the other hand, a program loan to a one-off, very large-scale, and barely investment-grade infrastructure project financing being developed by a consortium of regional authorities and including a federal participant will have great answers to the Circular’s questions but encounter the FCRA non-federal issue.  What is OMB’s point here?

• Perhaps OMB is thinking that the FCRA non-federal issue might be correlated to a project receiving a lot of federal support, in effect ‘reminding’ the loan program that there might be a Circular A-129 issue (e.g., the loan is not necessary) with that, even though the two are separate.  While that reminder might not be a bad idea in terms of overall policy objectives, I’m not sure it belongs in the specific FCRA criteria that Congress asked for or how it would work with other loan program eligibility or selection criteria.  For example, WIFIA explicitly references federal support in its selection criteria: §3907 (b)(2)(K) The extent to which assistance under this chapter reduces the contribution of Federal assistance to the project.  A federally involved project that would otherwise need to rely completely on federal resources but has decided to raise non-recourse debt, including a program loan, to be repaid from non-federal sources is clearly reducing ‘Federal assistance’ to the project.  In this case, the project’s FCRA non-federal issue is indicating an opportunity to reduce federal support, a statutory program objective.

Project Liabilities.  OMB staff stated that, in some cases, former or current federal involvement in projects may confer a significant level of control and future responsibility, or liability, to the federal government.  OMB staff stated that in these cases, future activity completed by a non-federal borrower on an asset would still be considered a federal project.

• OMB appears to be referring to the project’s non-debt liabilities – that is, recourse performance obligations of the project’s owners, developers, and the federal participant.  These can be substantial in a classic project financing, though they are usually off-set by contractual arrangements with other creditworthy parties – construction bonding, insurance, third-party O&M management, etc.  It’s possible (maybe likely in some cases) that the federal participant can uniquely absorb some project risks that the private-sector or sub-national governments can’t.  But presumably this is part of the federal participant’s policy implementation towards objectives that can be achieved by the project, especially if the project won’t happen otherwise.  If there is a cost, it will need to be authorized in the usual way and, if paid, show up in the participant’s part of the federal budget.  Certainly, this role will enhance or may even enable the project with respect to the benefits that non-federal entities are willing to pay for.  But isn’t that the point of federal involvement in the first place?

• More specifically, for the FCRA non-federal issue, the federal participant’s “level of control and future responsibility, or liability” needs to be put in the context of the project’s non-recourse debt and program loan repayment.  Any project finance lender would want to see that a project’s developers, managers, and owners are willing to commit to exercise control and assume the responsibilities and liabilities that are needed to make the project successful, even though the loan is not recourse to any of them.  Maybe the federal participant can and will take an out-sized role relative to the others – but that’s a difference in degree, not principle.  Regardless of how excellent and beneficial the project is due to the federal participant’s capabilities and efforts, an independent decision must be made by the project’s non-federal beneficiaries to commit their non-federal resources to make long-term payments to the project.  Their decision, not those of the federal participant, is the basis of the project’s non-recourse debt repayment and therefore the source of external, non-federal discipline for the program loan’s FCRA treatment.  

• The ’former’ involvement of the federal government in aspects of the project (primarily land or existing large-scale federal infrastructure, I think) should be seen in the same context with respect to the specific FCRA non-federal issue.  Such historical facts may increase the federal participant’s role or responsibilities in a new project.  But no matter how large, these are in a sense ‘sunk costs’ – the marginal improvement attainable by the new project construction is what the project’s non-federal beneficiaries are willing to pay for, and thus the non-lender recourse debt’s source of repayment.  A concessionaire’s gift shop in a federal park is a tiny fraction of the park’s total operations, but that doesn’t make the shop’s loan from a local bank a ‘federal loan’.  The federal government is de facto committed to certain kinds of disaster relief that make it possible to obtain mortgages on structures built in flood plains where flood insurance is unavailable – are those mortgages ‘federal debt’? 

OMB staff reported that they developed these criteria based on the principles outlined in the 1967 Report of the President’s Commission on Budget Concepts.  OMB staff stated that OMB applies concepts from the report to determine if an activity is federal in nature, and thereby ineligible for special budgetary treatment under FCRA.  If an activity is determined to be federal in nature, then an agency must seek appropriations to pay for the full value of the activity and record its full liability for the activity consistent with the recording statute.

• This paragraph simply states what is already known, that OMB used the 1967 Report as a primary source, per the Congressional directive, and that FCRA treatment is not intended for federal borrowers.  But it’s quoted here in full because of the specific use of the word ‘activity’.  If the relevant activity is precisely defined as a ‘program loan that finances infrastructure construction for beneficiaries who will use their own resources for loan repayment’, then the FCRA non-federal issue is somewhat straightforward:  FCRA treatment is justified when the beneficiaries and their resources are demonstrably non-federal (thereby imposing external discipline to loan repayment), otherwise not. With that definition of ‘activity’, the paragraph makes sense with an additional clarification that the ‘agency’ is in fact the loan program itself.

• However, if the activity is defined as a ‘program loan to a project that might be considered ‘federal’ due to federal participation, in which case the loan is also necessarily ‘federal’, then I think the FCRA non-federal issue ‘could easily carry on into quite esoteric matters’, as the 1967 Report put it.  And those matters would seem to go well beyond program loans and FCRA.  If a complex, multi-party project financing with a federal participant, but without a program loan, is considered ‘federal’ per the OMB’s criteria, then should all the project’s non-recourse debt be considered ‘federal’, regardless of purpose or repayment source?  In this case, FCRA is not relevant because there’s no program loan, but shouldn’t the federal participant (as the ‘agency’ referred to in the paragraph) be recording the ‘full liability’ of the project anyway?  If not, why?  What if the non-recourse debt includes tax-exempt bonds — are these ‘federal’ tax-exempt bonds? And does scale matter?  What about a bank loan to a privately owned gift shop on the project’s grounds?  And so on.  Unfortunately, it seems that OMB was loosely using the latter definition of activity, or some variation thereof.   As a result, I think their criteria inevitably slid into a rabbit hole. The lack of a precise definition of ‘activity’ is a fundamental — but easily fixable — problem with the current criteria. More on this in future posts.

Other Items in the GAO Report

• GAO notes that OMB publishes government-wide criteria for various aspects of federal loan program implementation and budgeting (e.g., Circulars A-11 and A-129), but not yet for the specific FCRA non-federal issue.  This is apparently due to the infrequency of the issue arising, even at WIFIA.  But that may change now that the Corps’ part of WIFIA authorization, CWIFP, is being implemented.  Was the urgency of the Congressional directive related to the expectation of Corps’ projects applying for CWIFP loans?

• WIFIA managers noted that the Fargo-Moorhead program loan would not have passed the current criteria, but details weren’t provided.  The disqualification of this transaction under current criteria will be an important data and illustration point for future post in this series.

• GAO lists the five other infrastructure loan programs they investigated with respect to the FCRA non-federal issue – TIFIA, RRIF, and three USDA programs for water, energy, and telecommunications, respectively.  None except RRIF encountered the issue.  The way RRIF described its analysis of the FCRA issue for a loan to Amtrak, arguably a ‘federal’ operation per OMB’s criteria [3], appears to be simpler and more consistent with the 1967 Report’s external discipline principle, and notes same the policy objective of reducing federal cost as in WIFIA’s selection criteria (emphasis added):

Another way that case study programs screen for federal participation in projects applying for loans is by evaluating the overall sources of financing for a project.  Ensuring a borrower can finance a project with some non-federal sources helps reduce the amount of fiscal risk to the federal government.  For example, DOT officials told us that as part of their loan evaluation, they ensured the 2016 Railroad Rehabilitation and Improvement Financing loan provided to Amtrak was fully repayable by Northeast Corridor revenues.  DOT officials assessed Amtrak’s available revenues and did not consider any federal assistance as a repayment source for the loan.

• GAO’s recommendation that OMB should publish government-wide criteria (again, implicitly based on those published for WIFIA) is succinct and unqualified. It should be recalled that the Congressional directive explicitly excluded a public comment period for the development of WIFIA criteria. Would that also be the case for government-wide FCRA criteria?

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Notes

[1] The second part of the prior post in this series sketches out a classic project financing.

[2] This in fact describes the vast majority of WIFIA loans. The need for loan assistance to highly rated public water agencies financing basic, essential water infrastructure projects is not clear, nor is the additionality. I don’t think OMB has ever questioned the program’s compliance with their A-129 criteria in their course of annual reviews.

[3] Amtrak is apparently considered a federal ‘independent agency’. If it were evaluated by WIFIA’s current criteria for the FCRA non-federal issue as a ‘project’, it likely would be considered a federal project due aspects of federal exercise of sovereign power, ownership, control and liability. Presumably, if OMB’s current WIFIA criteria were in place government wide when RRIF was considering the Amtrak loan in 2016, the program would have had to reject it, despite the persuasiveness of their alternative analysis based on a non-federal source of repayment.