What were Build America Bonds (BABs)?

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AcadiFi · Accepted Answer

Build America Bonds were a 2009-2010 program under the American Recovery and Reinvestment Act (ARRA) that let state/local governments issue TAXABLE municipal bonds while receiving a 35% federal interest subsidy directly from Treasury (Direct Payment BABs), or pass a tax credit to bondholders (Tax Credit BABs). Goal: open the MUCH larger taxable bond market to munis during the post-2008 financing crunch, when tax-exempt markets were dislocated. $181B was issued in 2009-2010. Example: Metropolitan Transit Authority of Grand Rivers issued $500M 30-year BABs at 6.5% taxable coupon in 2010. Federal 35% subsidy meant MTA's net interest cost was 6.5% × (1-0.35) = 4.225% — cheaper than a comparable tax-exempt issue (~4.8%). The program lapsed December 31, 2010 when Congress didn't extend it. Post-program wrinkles: (1) Treasury subsidy was SEQUESTERED from 2013 onward — cut ~5.7-8.7% annually — forcing issuers to absorb higher net cost; (2) many BABs have 'extraordinary redemption provisions' (ERPs) letting issuers call bonds if the subsidy is materially reduced, exposing investors to call risk. Secondary market BABs trade at premiums with call risk — analysts look at subsidy reduction likelihood, ERP language, and make-whole call mechanics. The program is cited as precedent for a potential future direct-pay muni revival.

What were Build America Bonds (BABs)?

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