If a company owns Industrial Development Board bonds that financed its own leased facility, can it still deduct that bond investment from its franchise-tax capital, and exclude the bond interest from income tax — even after paying big dividends to its parent and even though it borrowed the money to buy the bonds?

Plain-English summary

This ruling comes out of a big corporate reorganization built around an Industrial Development Board (IDB) bond deal. Through a 1987 restructuring, "Taxpayer" became a subsidiary holding a mill and expanded facility near a City in Alabama. The IDB of the City issued roughly $500 million (later $550,667,074) in Industrial Revenue Bonds to finance the facility, leased the facility back to the Taxpayer (rent equal to the bonds' principal and interest), and the Taxpayer bought the IDB's bonds — using capital its parent contributed, some of which the parent had borrowed. The Taxpayer's capital (paid-in plus retained earnings) was about $1.295 billion, and it planned to declare a large dividend (~$775 million) to a new parent while always keeping its capital at or above the outstanding bonds, and to fund a further ~$950 million expansion the same way.

Against that backdrop the Taxpayer asked three questions, and the Department ruled on each "notwithstanding the dividend":

A. Franchise-tax deduction from capital — yes. Alabama franchise tax on a foreign corporation is based on the capital it employs in the state, and § 40-14-41(d)(2)(b) lets a corporation deduct from that capital "[t]he amount invested by the taxpayer in bonds or other securities issued by the State of Alabama, or any county, municipality, or other political subdivision … or any public corporation organized under the laws of" Alabama. Municipal industrial development boards are public corporations organized under Alabama law (Harris v. Ethics Commission; George A. Fuller Co. v. Vulcan Materials Co.), so the Taxpayer's investment in the IDB bonds is deductible from its capital employed. Critically, entitlement depends on OWNING the bonds — not on the source of the funds used to buy them, and not affected by future dividends to the parent.

B. Income-tax exemption of the bond interest — yes. § 11-54-96 exempts income from bonds issued by municipal industrial development boards from "all taxation in the State of Alabama," with no restriction. So the interest the Taxpayer receives on the IDB bonds is exempt from Alabama income tax, notwithstanding any dividends to the parent.

C. Source of funds doesn't change B — confirmed. The § 11-54-96 exemption is not predicated on the source of the funds used to buy the bonds. So even though the Taxpayer got the purchase money from its parent (Company A), which had borrowed some or all of it, all the interest the Taxpayer receives on the IDB bonds it owns is still tax-exempt.

What this means for you

Investing in Alabama public/IDB bonds shrinks the franchise-tax base

Under § 40-14-41(d)(2)(b), amounts a corporation invests in bonds of the State of Alabama, its political subdivisions, or public corporations (including municipal industrial development boards) are deductible from the capital employed on which Alabama franchise tax is based. If you hold such bonds, make sure the deduction is claimed.

Ownership controls — not the source of the money or later dividends

The Department twice stressed that these benefits turn on owning the bonds, not on how you funded the purchase (even borrowed, parent-contributed funds) and not on dividends you later pay out. Structuring cash movements around the deal doesn't forfeit the deduction or the interest exemption, as long as ownership is intact.

IDB bond interest is exempt from Alabama income tax

Section 11-54-96 exempts municipal IDB bond income from all Alabama taxation. A company that both leases an IDB-financed facility and holds the IDB's bonds can receive the bond interest free of Alabama income tax — a distinct benefit from the franchise-tax capital deduction.

Still a one-taxpayer, fact-specific ruling

Under § 40-2A-5 this ruling is not precedent and binds the Department only as to this Taxpayer and its specific reorganization and bond structure. The franchise tax has since been reworked — confirm current law for your entity and deal.

Common questions

Q: Can a company deduct its investment in Industrial Development Board bonds from Alabama franchise tax?
A: Yes. Section 40-14-41(d)(2)(b) allows a deduction from capital employed for amounts invested in bonds of Alabama public corporations, and municipal IDBs are such public corporations — so the bond investment is deductible.

Q: Does it matter that the company borrowed (through its parent) the money to buy the bonds, or that it pays dividends?
A: No. The Department ruled that both the franchise-tax deduction and the income-tax interest exemption depend on owning the bonds, not on the source of the purchase funds or on dividends paid to the parent.

Q: Is the interest on IDB bonds taxable in Alabama?
A: No. Section 11-54-96 exempts income from municipal IDB bonds from all Alabama taxation, so the interest is exempt from Alabama income tax.

Q: Can I rely on this ruling?
A: No. Ala. Code § 40-2A-5 makes revenue rulings non-precedential; this one is limited to the Taxpayer's facts and bond structure.

Citations and references

Statutes:

• Ala. Code 1975 § 40-14-41(d)(2)(b) — franchise-tax deduction from capital employed for amounts invested in Alabama public/municipal/public-corporation bonds
• Ala. Code 1975 § 11-54-96 — income from municipal industrial development board bonds is exempt from all Alabama taxation
• Ala. Code 1975 § 40-2A-5 — revenue rulings are not to be used or cited as precedent

Cases cited:

• Harris v. Ethics Commission, 585 So. 2d 93 (Ala. Civ. App. 1971) — municipal industrial development boards are public corporations
• George A. Fuller Co. v. Vulcan Materials Co., 293 Ala. 199, 301 So. 2d 74 (1974)

Source

• Landing page: Alabama Department of Revenue -- Revenue Rulings
• Original PDF: https://www.revenue.alabama.gov/wp-content/uploads/2022/06/2017_05_RR-93-012.pdf

Original ruling text

State of Alabama
Department of Revenue

Montgomery, Alabama 36132 GEORGE E. MINGLEDORFF III
Assistant Commissioner
GEORGE E. MINGLEDORFF III LEWIS A. EASTERLY
Commissioner (Acting) Secretary

ALABAMA DEPARTMENT OF REVENUE
REVENUE RULING 93-012:

This document may not be used or cited as precedent. Code of
Alabama 1975, 840-2A-5(a).

TO:

FROM: Commissioner of Revenue
Alabama Department of Revenue

DATE: February 24, 1994

RE: Revenue Ruling 93-012;

FACTS

In the summer of 1987, Company A was considering a
reorganization of Company B which, at that time, was owned
jointly by Company A and Company C. In connection with that
reorganization, it was contemplated that Company A, or a
subsidiary of Company A, would construct an expansion of the
facility located near City, Alabama. .

The expansion of the facility was funded with proceeds of
Industrial Revenue Bonds issued by the Industrial Development
Board of City, Alabama (Board).

The reorganization was structured in a way that Company B
created a wholly owned subsidiary named Taxpayer. At the
conclusion of the transaction, Taxpayer became a wholly owned
subsidiary of Company A. Company B transferred its City mill
and assets to Taxpayer. Company B then transferred all of its
common capital stock in Taxpayer to Company A in exchange for
the stock of Company B owned by Company A.

Pursuant to an Inducement Agreement entered between Company A
and the Board, the Board issued approximately $500,000,000.00 in
Industrial Revenue Bonds. Company A assigned its rights under
the Agreement to Taxpayer. Some of the costs of the project
were financed through’ bonds which were’ sold to Taxpayer.
Taxpayer purchased the bonds with funds provided to the Taxpayer

by Company A as a capital contribution. Company A obtained all
or a portion of the funds contributed to the Capital of Taxpayer
by borrowing such funds.

The Board leased the land and expanded facilities (Project) to
the Taxpayer. Beginning June l, 1989, and June land
December 1, in each year thereafter until the full payment of
the bonds, the Taxpayer will Pay as rent for the Project, a sum
of money equal to the amount Payable on such dates as principal
of and interest on the bonds.

As of June 30, 1993, the Board had issued Industrial Revenue
Bonds totaling $550,667,074.00, the proceeds of which were used
by the Board to construct facilities for lease to the Taxpayer.
As of June 30, 1993, the Taxpayer's capital, including retained
earnings and paid-in capital, was $1,295,267,236.00, composed of
the following amounts;

Paid-in Capital $ 883,360,707.00
Retained Earnings $ G11,906,529.00

$1,295,267,236.00

Taxpayer had been a wholly owned subsidiary of Company A.
However, as part of an overall corporate restructuring, Company
A contributed the stock of Taxpayer to another subsidiary owned
by Company A so that Taxpayer is now wholly owned by a wholly
owned subsidiary of Company A.

It is contemplated that the Taxpayer will declare a dividend of
approximately $775,000,000.00 to its new parent so that, at the
conclusion of the transaction, the capital of the Taxpayer,
whether it be from paid-in capital or retained earnings, will
still equal or exceed the amount of the then outstanding bonds
issued by the Board. It is also contemplated that the Taxpayer
Will declare additional dividends in the future to its parent
but will at all times maintain as its capital at least the sum
of paid-in capital and retained earnings in an amount to equal
or exceed the aggregate amount of bonds issued and outstanding.

The Taxpayer proposes, over the next several years, to engage in
an expansion of the City facility, which expansion will total
approximately $950,000,000.00. These improvements will be
financed by the issuance of bonds by the Board, which bonds were
induced on December 19, 1991, The Taxpayer will purchase the
bonds issued by the Board using either its retained earnings,
existing capital, or additional capital contributed by the
Parent to the Taxpayer. No portion of the funds used by the
Taxpayer to purchase the bonds will be borrowed funds. At all
times, the sum of paid-in capital and retained earnings will
equal or exceed the aggregate amount of the bonds outstanding.

RULINGS

You have requested that I issue the following rulings, which are
restated from your request.

A. Notwithstanding the dividend, for
franchise tax purposes Taxpayer will be
allowed a deduction from its Alabama tax
base for the amount invested by it in
bonds issued by the Industrial
Development Board of the City, the
proceeds of which were used to finance a
facility for Taxpayer.

Alabama franchise tax is imposed on foreign corporations based
on the actual amount of the corporation's Capital employed in
the state. In determining the amount of capital employed by a
foreign corporation in the state, Code of Alabama 1975,
§840-14-41-d-2-b allows a deduction from the corporation's
capital for

[t]he amount invested by the taxpayer in
bonds or other securities issued by the
State of Alabama, or any county,
municipality, or other political subdivision
of the State of Alabama, or any public
corporation organized under the laws of the
State of Alabama, ...

Municipal industrial development boards are public corporations
organized under the laws of the State of Alabama. Harris v.
Ethics Commission, 585 So.2d 93 (Ala. Civ. App. 1971); George
A. Fuller Co. v. Vulcan Materials Co., 293 Ala. 199, 301 So.2d
74 (€1974)., Investments in bonds issued by the Board are
deductible from Taxpayer's capital employed in the state for
Alabama franchise tax purposes, Pursuant to §8§40-14-41-d-2-b.
Entitlement to the deduction is based upon ownership of the
bonds, not the source of funds used to purchase the bonds. The
Taxpayer is entitled to a deduction from its capital for the
amount of its bonds, notwithstanding the source of the. funds
used to purchase the bonds or any future dividends given by the
Taxpayer to the Taxpayer's parent corporation. ,

For franchise tax purposes, Taxpayer will be allowed a deduction
from its Alabama tax base for the amount invested by it in bonds
issued by the Board, notwithstanding any dividends issued to the
Taxpayer's parent corporation.

B. Notwithstanding the dividend, interest
on bonds issued by the Board, the
proceeds of which were used to finance
project costs will be tax exempt for
Alabama income tax purposes even though
such bonds are owned by Taxpayer.

Code of Alabama 1975, §11-54-96, without any specific
restrictions, exempts the income from bonds issued by municipal
industrial development boards from "all taxation in the State of
Alabama." The interest received by Taxpayer on bonds issued by
the Board will be tax exempt for Alabama income tax purposes
Pursuant to 811-54-96, notwithstanding any dividends which may
be granted to the Taxpayer's parent corporation.

C. Notwithstanding the dividend, the
conclusion in paragraph B is not altered
by the fact that the funds to purchase
the bonds were initially received by
Taxpayer from its parent, at that time
Company A, even though Company A secured
all or a part of the funds for such.
capital contributions from borrowing.

Entitlement to the exemption from taxation provided by §11-54-96
is not predicated upon the source of funds used to purchase the
bonds. All interest received by the Taxpayer on bonds issued by
the Board and owned by the Taxpayer will be tax-exempt for
Alabama income tax purposes, notwithstanding the fact that the
funds used to purchase the bonds’ were received from the
Taxpayer's parent corporation.

GEORGE E. “INGLEDORFF It |

GEM: MDG:pj190B