The Internal Revue Service (“IRS”) has released new safe harbor guidelines for management contracts in Revenue Procedure 2016-44 (the “New Guidelines”) that determine whether a management contract results in private business use. These new safe harbors will eventually replace the old safe harbors found in Revenue Procedure 97-13, as modified by Revenue Procedure 2001-39 and Notice 2014-67. Generally, the New Guidelines provide two safe harbors under which management contracts with respect to property financed with tax-exempt bonds do not result in private business use.
First, the safe harbor is available to management contracts that meet all of the conditions set forth in Sections 5.02 through 5.07 of the New Guidelines, as summarized below:
The contract (1) must provide for payments to the service provider that are “reasonable” compensation for services rendered under the management contract; (2) must not provide to the service provider a share of net profits from the operation of the managed property; and (3) must not, in substance, impose upon the service provider the burden of bearing any share of net losses from the operation of the managed property. § 5.02.
The term of the contract, and all renewal options, must not be greater than the lesser of 30 years or 80 percent of the weighted average reasonably expected economic life of the managed property. § 5.03.
The qualified user (1) must exercise a significant degree of control over the use of the managed property and (2) must bear the risk of loss upon damage or destruction to the managed property. §§ 5.04 and 5.05.
The service provider (1) must agree that it is not entitled to and will not take any tax position that is inconsistent with being a service provider to the qualified user with respect to the managed property and (2) must not have any role or relationship with the qualified user that, in effect, substantially limits the qualified user’s ability to exercise its rights under the contract, based on all the facts and circumstances. §§ 5.06 and 5.07.
Second, the safe harbor is also available to management contracts that are an “eligible expense reimbursement arrangement.” An eligible expense reimbursement arrangement means a management contract under which the only compensation consists of reimbursements of actual and direct expenses paid by the service provider to unrelated parties and reasonable related administrative overhead expenses of the service provider. §§ 5.01 and 4.01.
The New Guidelines also provide that use by a service provider that is functionally related and subordinate to a management contract that fulfills the safe harbor requirements set forth in Section 5 of the New Guidelines also does not result in private business use.
These safe harbors apply to any management contract that is entered into on or after August 22, 2016, and an issuer may apply these safe harbors to any management contract that was entered into before August 22, 2016. The IRS is providing a phase-in for these new safe harbors, allowing an issuer to apply the safe harbors in Revenue Procedure 97-13, as modified by Revenue Procedure 2001-39 and Notice 2014-67, to a management contract entered into before August 18, 2017 that is not materially modified or extended on or after August 18, 2017.
The full text of Revenue Procedure 2016-44 is available here.
Credit: Harrison Sullivan