Opinion 93-8

BONDS OR NOTES -- Variable Rate Obligations (propriety of including a provision to increase the interest rate due to change in law)

LOCAL FINANCE LAW, §54.90: Variable rate bonds or notes issued pursuant to Local Finance Law, §54.90 may provide at the time of original issuance that the interest rate payable under the obligation shall increase if a change in the Internal Revenue Code or other statute has the effect of reducing the yield payable to holders of the obligation. The provision must clearly define what events will cause the municipality to pay the higher rates and what procedures or indices will be used to compute the new rate.


You have asked whether a variable rate bond or note issued pursuant to Local Finance Law, §54.90 may provide at the time of original issuance that the interest rate payable on such obligation will increase if a change in the Internal Revenue Code affects the yield received by the holder of the bond or note.

Section 54.90 of the Local Finance Law authorizes a municipality to issue bonds or notes, on or before June 30, 1994, "with interest rates that vary in accordance with a formula or procedure ... set forth or referred to in the bonds or notes". The issuance of variable rate bonds or notes, however, is subject to certain limitations specified in that statute.

Specifically, section 54.90 provides that variable rate bonds or notes must be subject to a maximum rate of interest. The statute further provides that at no time shall the principal amount of variable rate obligations issued pursuant to section 54.90 exceed 10 percent of the debt limit prescribed by Local Finance Law, §104.00. For purposes of determining the amount of outstanding variable rate debt subject to this limit, the municipality may exclude variable rate debt which bears interest at rates and for periods specified at the time of issuance. Finally, if the holders of variable rate bonds or notes are provided with the right to require the municipality or other person to repurchase the bonds or notes prior to the final maturity thereof, section 54.90 requires that the municipality enter into one or more letter of credit or liquidity facility agreements in connection with such bonds or notes.

As noted, Local Finance Law, §54.90 allows the interest rate payable under a bond or note issued in accordance with that section to vary according to a formula or procedure specified or referred to in the obligation. In our view, nothing in section 54.90 precludes a municipality from including a provision at the time of original issuance which provides that the interest rate payable under the obligation shall increase if a change in the Internal Revenue Code or other statute has the effect of reducing the yield payable to holders of the obligation. Such a provision, however, must clearly define what events will cause the municipality to pay the higher rate of interest and what procedure or indices will be used to compute the new rate. In this regard, we note that, in our opinion, the statute does not contemplate a formula or procedure which requires the municipality to pay additional interest in an amount that varies from holder to holder according to how the change in Federal or State law affects the holder's individual tax liability.

Of course, any variable rate bond or note issued pursuant to Local Finance Law, §54.90 must comply with the other requirements contained in that section. Therefore, based upon our understanding of the formula referred to in your inquiry, it is our opinion that the bonds or notes containing such a provision would be subject to the 10% limit contained in section 54.90. In addition, the bonds or notes would be required to state a maximum rate of interest. However, a liquidity facility would not be required unless the holders of the obligations are given the right to tender the obligations prior to their stated final maturity.

March 9, 1993
Jean M. Roncallo, Esq., Assistant Town Attorney
Town of Oyster Bay