With three years of solid results, WIFIA looks poised for long-term success. But the program could also be a very effective part of the federal response to COVID-19.
By John Ryan
The U.S. EPA’s Water Infrastructure Finance and Innovation Act Loan Program (WIFIA) was enacted in 2014 and became operational in 2017. WIFIA has now completed three solicitation rounds over the period 2017-2019, generating 90 competitively selected applications totaling $13.6 billion of loan volume, of which more than $5 billion has been closed.
This volume in itself indicates that WIFIA has had excellent start. But beneath the surface, what’s actually happening? How is the program working as intended to improve U.S. water infrastructure? What do WIFIA results indicate about its future trajectory, and whether the initial success is substantive and sustainable? And — most immediately — should the program be considered in connection with federal policy responses to the COVID-19 crisis?
Answers to these questions are especially relevant in providing much-needed context for an issue arising in WIFIA funding proposals now being considered in Congress. Rigorous budgetary accounting is always important, but the significance of the specific issue (federal ownership of financed assets) should be considered in light of WIFIA’s actual and potential results for local communities and their distinctly non-federal water systems.
What Might Have Been Expected
WIFIA was closely modeled on the U.S. DOT’s Transportation Infrastructure Finance and Innovation Act (TIFIA) loan program. The intended purpose of both programs was to enable or accelerate new and innovative infrastructure projects that are basically creditworthy but have a difficult time finding cost-effective senior debt. TIFIA has followed this path since inception in 1999, and its results reflect the intrinsically challenging nature of this type of lending. But true to the original intention, TIFIA has succeeded in financing new transportation projects that wouldn’t have happened otherwise.
It might have been expected that WIFIA’s results in the U.S. water sector would track those of TIFIA in the transportation sector. Now that there is publicly available information and project descriptions on WIFIA’s many pending and closed loans, we can make preliminary assessments about whether that’s actually happening. The results are surprising.
Figure 1: WIFIA Selected Applications 2017-2019 Bond Ratings
What Actually Happened: Highly Rated Borrowers
Unlike TIFIA’s experience, the vast majority of WIFIA’s applicants are highly rated local public infrastructure agencies. More than 85 percent had long-term bond credit ratings of Aa3 (Moody’s) and AA- (S&P) or better, with a significant portion having the highest ratings available. At this level of creditworthiness, public water agencies have little problem placing cost-effective tax-exempt debt in the municipal bond market and typically do not seek federal programmatic alternatives. During the 2017-2019 period specifically, tax-exempt interest rates hit historical lows for highly rated issuers, typically below or close to the U.S. Treasury rate that WIFIA offers.
Why were such highly rated public agencies applying to WIFIA? Motivation in particular cases will vary, but two features offered by the program appear to be the common drivers. The first is a fixed ‘rate lock’ on post-closing loan drawdowns. This feature avoids the cost of negative arbitrage on construction escrow accounts, a significant factor for long construction phases of water infrastructure projects and inevitably present to some extent regardless of borrower rating or muni market conditions.
The second feature is less explicit in terms of cost-savings than the cost-less rate lock, but more important to the program’s ultimate impact on U.S. water infrastructure. WIFIA offers loan terms of 35 years after construction completion. Combined with a typical construction period of five years or more, a WIFIA loan can extend beyond 40 years. For highly rated public water agencies, placing very long-term debt is in itself not a problem, but the tax-exempt rates of the muni market are far more uncertain and less cost-effective outside the traded 30-year market. In contrast, WIFIA’s Treasury rate extends on a ‘flat-forward’ basis beyond 30 years, offering both certainty and cost-effectiveness for very long loan tenors.
Since the Program permits the 49 percent maximum WIFIA share of a financing to amortize more slowly than the 51 percent non-WIFIA part, it’s possible for a highly rated issuer to achieve the best of both worlds by combining tax-exempt series bonds for maturities up to 30 years with a WIFIA loan that provides maturities well beyond that. For typically long-lived water infrastructure projects, this ‘sculpted’ combination will lower the cost of a long-term financing that more closely reflects the asset’s useful life.
When both the rate-lock and Treasury flat-forward features are used in a typical WIFIA financing (Aa3/AA- rating, 40-year term with five-year construction phase), the result on average for the 2017-2019 period was approximately a 7 percent reduction in the present value of debt service, compared to an equivalent bond-only transaction. That’s about a $10 million savings on the average sized WIFIA project, a scale that’s sufficient to motivate even highly rated borrowers with tax-exempt bond alternatives.
Figure 2: Sculpted Combination of Municipal Series Bonds (51%) and WIFIA Loan (49%)
Where WIFIA Loan Value Goes
Although it’s easy to see why highly rated water agencies would seek a WIFIA loan for the capitalization of long-lived infrastructure projects, where the value of a WIFIA loan goes is a different matter. Since the vast majority of WIFIA borrowers are public-sector agencies, the value will generally be directed to some public purpose, not to a private-sector windfall. But beyond that outcomes are less clear.
Although WIFIA loan value arises only in connection with the long-term financing of a specific infrastructure project, its cash benefit is realized simply as lower debt service over the term of the loan. For a water agency with multiple assets and operations, this fungible benefit can be deployed in various ways. It might enable a change in the project’s design or schedule. But there may be other uses with a better return or higher priority — lowering water rates, increasing the O&M budget or improving a different project.
A preliminary assessment of publicly available information about the program’s 2017-2019 selected projects suggests that WIFIA loan value was in fact often used for general purposes, not to enable or accelerate the project itself. Almost 90 percent of the selected projects appear to involve essential basic system upgrades and rehabilitations or are otherwise required for regulatory compliance. Projects of this type have long planning stages and many engineering constraints. Fine-tuning the project’s capitalization is typically left to the final stage, since highly rated water agencies can be relatively certain that cost-effective financing will be available for must-do system projects. As a result, WIFIA projects tend to be ‘shovel-ready’, which contributed to the program’s smooth start and rapid growth in loan volume. But as such, cost savings from utilizing a WIFIA loan are likely to go elsewhere.
In itself, this is not a bad public policy result. Local public water agencies are well-positioned to efficiently allocate WIFIA loan value towards the highest local priorities. However, these priorities may or may not include the WIFIA project itself or even other water infrastructure. In contrast to TIFIA, where loan value can be more directly connected to an increase in transportation infrastructure assets, WIFIA’s outcomes appear to be more complex. Does this mean that despite attracting and executing high-quality loans, the Program is not accomplishing its fundamental mission, to improve U.S. water infrastructure?
In the short-term, and for specific loans, this may be the case. But in the long-term context, which is what matters for infrastructure policy outcomes, it is a different story. As the program is increasingly seen by borrowers to be a permanent and reliably efficient fixture in the municipal finance market, their planning decisions will start to reflect the slightly lower cost of capital that WIFIA makes available, especially the cost-effectiveness of maturities beyond 30 years. On the margin, this will encourage projects that are optimally done with longer construction terms and longer useful lives. In effect, WIFIA’s enabling effect on planning for more efficient physical water infrastructure over the long run is the Program’s fundamental impact on national water infrastructure, not necessarily enabling specific projects as TIFIA does.
The WIFIA program’s current trajectory is sustainable in terms of cost and risk (both very low) to federal taxpayers. That’s consistent with policy outcomes that work through the long-term encouragement of efficient decisions across the water sector, not just individual projects. This is a different path than perhaps was intended when the program was originally modeled on TIFIA. But results so far indicate that it is a very effective one.
Figure 3: Potential Uses of WIFIA Loan Value by Water Agencies.
COVID-19 Policy Responses
The basic factors that drove WIFIA results for the 2017-2019 period are long-term in nature and will likely continue to determine WIFIA’s future outcomes and guide long-term policy. But since February 2020 there is another context in which WIFIA’s immediately operative capabilities should be examined – how the Program can be a part of federal policy responses for post-COVID-19 economic recovery.
State and local governments and public agencies are bearing the brunt of the pandemic’s widespread impact, and they will be central in post-pandemic efforts for social and economic recovery. Highly rated public water agencies, though less directly involved in immediate responses, are far from immune to COVID-19’s economic and financial market fall-out. The most obvious challenges include:
- Loss of revenue due to delayed payment and the need to address decreased affordability of water rates.
- Increased costs due to disruption, emergency responses, loss of workdays, etc.
- For infrastructure investment, a perception of more difficult and uncertain conditions that will persist long after the immediate pandemic crisis.
The temptation to delay or even cancel planned water infrastructure projects in light of these challenges will be overwhelming. But physical infrastructure is just one concern — water rate affordability, personnel retention and service quality are also responsibilities of public water agencies. Likewise, federal government responses to date recognize the pandemic’s multifaceted impact on communities. More federal action is likely, especially as the need at the state & local public sector level grows. As a federal program, can WIFIA assist public water agencies in meeting emerging challenges caused by the COVID-19 pandemic? If so, how?
WIFIA’s Dual-Use Potential
Most fundamentally, a WIFIA loan will lower the cost of a long-term financing. In normal circumstances, that benefit is ultimately intended to encourage better water infrastructure. In the highly unusual circumstances of the COVID-19 crisis, however, WIFIA’s mission and the perception of its national-level benefit can be expanded to include local public benefit regardless of specific outcomes on physical infrastructure.
If a WIFIA loan enables or accelerates a water infrastructure project that otherwise would be stalled, this is a clearly a positive outcome under any circumstances. But for COVID-19 economic recovery objectives, the list of positive outcomes is much broader. Lowering water rates, keeping operational personnel on the payroll, catching up with delayed maintenance projects, funding special assistance programs and many other possible uses within a WIFIA borrower’s service community should all be considered acceptable outcomes.
Importantly, other than the perception of its mission, nothing fundamental (including its current positive long-term trajectory) needs to change for WIFIA to make the switch. The program inherently has a ‘dual-use capability’ that is immediately available for federal COVID-19 recovery initiatives.
Practical Policy Suggestions
Once WIFIA’s dual-use potential is recognized, temporarily expanding the program’s existing capabilities for post-COVID-19 recovery should also be considered. Three specific suggestions are listed below. Enacting them will require minor legislative amendments, but this may be practical in light of WIFIA’s characteristics discussed above — low-risk and cost to federal taxpayers, loan value efficiently delivered to local communities by local public-sector agencies, and the proven effectiveness of program operations. In the context of such crisis-responsive changes, further clarifications and refinements to the Program’s budgetary controls are a natural addition.
- Increase WIFIA’s Credit Subsidy Appropriation: Currently, the program has $50 million in funding available for the 2020 loan solicitation round. Simply increasing this amount by 50 percent or even 100 percent for COVID-19 recovery purposes is obviously a minor item in the scale of federal budgeting for pandemic response.
- Extend WIFIA’s Rate Lock and Treasuries Flat-Forward Features: This is a technical suggestion that has significant value to WIFIA’s highly rated borrowers who are financing very long-lived projects. Currently, the WIFIA loan rate lock can be used for up to one year past construction completion and final loan maturities can extend no later than 35 years after completion. Extending both of these time limitations, by two and five years respectively, is straightforward and adds little risk or cost to qualified loans.
- Include Refinancing of Existing Loans in WIFIA’s Eligible Uses: WIFIA’s predecessor program, TIFIA, already includes the ability to use its loans to refinance existing debt. This feature can simply be added to WIFIA’s equivalent list, perhaps with specific COVID-19 adjustments. In normal circumstances, the purely financial benefit of refinancing loans for highly rated water agencies that are clearly not financially constrained (as a TIFIA borrower might be) could be problematic with respect to improving infrastructure. But for post-COVID recovery objectives, immediately available refinancing benefits that can be allocated by public water agencies to the highest local priorities may be one of the program’s most effective policy responses.
John Ryan is principal of InRecap LLC. InRecap is focused on debt alternatives for the recapitalization of basic public infrastructure. John has an extensive background in structured and project finance. He recently served as an expert consultant to the U.S. Environmental Protection Agency. The views expressed in this article are solely those of the author.
