--- kind: "range" citation: "26 C.F.R. §§ 1.103-7–1.103-11" title: "26" from: "1.103-7" to: "1.103-11" count: 5 url: "https://uscodex.org/cfr/26/1.103-7..1.103-11" --- # §1.103-7. Industrial development bonds. - (a) **In general.** Under [section 103(c)(1)](/cfr/26/103.md?p=c-1) and this section, an industrial development bond issued after April 30, 1968, shall be treated as an obligation not described in [section 103(a)(1)](/cfr/26/103.md?p=a-1) and [§ 1.103-1](/cfr/26/1.103-1.md). Accordingly, interest paid on such a bond is includable in gross income unless the bond was issued by a State, or local governmental unit to finance certain exempt facilities (see [section 103(c)(4)](/cfr/26/103.md?p=c-4) and [§ 1.103-8](/cfr/26/1.103-8.md)), to finance an industrial park (see [section 103(c)(5)](/cfr/26/103.md?p=c-5) and [§ 1.103-9](/cfr/26/1.103-9.md)), or as part of an exempt small issue (see [section 103(c)(6)](/cfr/26/103.md?p=c-6) and [§ 1.103-10](/cfr/26/1.103-10.md)). For applicable rules when an industrial development bond is held by a substantial user (or a person related to a substantial user) of such an exempt facility, or an industrial park, or a facility financed with the proceeds of such an exempt small issue, see [section 103(c)(7)](/cfr/26/103.md?p=c-7) and [§ 1.103-11](/cfr/26/1.103-11.md). See also [§ 1.103-12](/cfr/26/1.103-12.md) for the transitional provisions concerning the interest paid on certain industrial development bonds issued before January 1, 1969, and certain other industrial development bonds. Even if [section 103(c)](/cfr/26/103.md?p=c) does not prevent a bond from being treated as an obligation described in [section 103(a)(1)](/cfr/26/103.md?p=a-1) and [§ 1.103-1](/cfr/26/1.103-1.md), such bond shall nevertheless be treated as an obligation which is not described in [section 103(a)(1)](/cfr/26/103.md?p=a-1) and [§ 1.103-1](/cfr/26/1.103-1.md) if under [section 103(d)](/cfr/26/103.md?p=d) it is an arbitrage bond. For purposes of [section 103(c)](/cfr/26/103.md?p=c), the term “issue” includes a single obligation such as a single note issued in connection with a bank loan as well as a series of notes or bonds. - (b) **Industrial development bonds—** - (1) **Definition.** For purposes of this section, the term “industrial development bond” means any obligation— - (i) Which is issued as part of an issue all or a major portion of the proceeds of which are to be used directly or indirectly in any trade or business carried on by any person who is not an exempt person (as defined in [subparagraph (2)](#b-2) of this paragraph), and - (ii) The payment of the principal or interest on which, under the terms of such obligation or any underlying arrangement (as described in [subparagraph (4)](#b-4) of this paragraph), is in whole or in major part (i.e., major portion)— (a) Secured by any interest in property used or to be used in a trade or business, (b) Secured by any interest in payments in respect of property used or to be used in a trade or business, or (c) To be derived from payments in respect of property, or borrowed money, used or to be used in a trade or business. - (2) **Exempt person.** The term “exempt person” means a governmental unit as defined in this subparagraph, or an organization which is described in [section 501(c)(3)](/cfr/26/501.md?p=c-3) and this subparagraph and is exempt from taxation under [section 501(a)](/cfr/26/501.md?p=a). For purposes of this subparagraph, the term “governmental unit” means a State or local governmental unit (as defined in [§ 1.103-1](/cfr/26/1.103-1.md)). For purposes of this subparagraph, the term “governmental unit” also includes the United States of America (or an agency or instrumentality of the United States of America), but only in the case of obligations (i) issued on or before August 3, 1972, or (ii) issued after August 3, 1972, with respect to which a bond resolution or any other official action was taken and in reliance on such action either (a) construction of such facility to be financed with such obligations commenced or (b) a binding contract was entered into, or an irrevocable bid was submitted, prior to August 3, 1972, or (iii) issued after August 3, 1972, with respect to a program approved by Congress prior to such date but only if (a) a portion of such program has been financed by obligations issued prior to such date, to which [section 103(a)](/cfr/26/103.md?p=a) applied pursuant to a ruling issued by the Commissioner or his delegate prior to such date and (b) construction of one or more facilities comprising a part of such program commenced prior to such date. For purposes of this subparagraph, a tax-exempt organization is an exempt person only with respect to a trade or business it carries on which is not an unrelated trade or business. Whether a particular trade or business carried on by a tax-exempt organization is an unrelated trade or business is determined by applying the rules of [section 513(a)](/cfr/26/513.md?p=a) (relating to general rule for unrelated trade or business) and the regulations thereunder to the tax-exempt organization without regard to whether the organization is an organization subject to the tax imposed by [section 511](/cfr/26/511.md) (relating to imposition of tax on unrelated business income of charitable, etc., organizations). - (3) **Trade or business test.** - (i) **The trade or business test relates to the use of the proceeds of a bond issue.** The test is met if all or a major portion of the proceeds of a bond issue is used in a trade or business carried on by a nonexempt person. For example, if all or a major portion of the proceeds of a bond issue is to be loaned to one or more private business users, or is to be used to acquire, construct, or reconstruct facilities to be leased or sold to such private business users, and such proceeds or facilities are to be used in trades or businesses carried on by them, such proceeds are to be used in a trade or business carried on by persons who are not exempt persons, and the debt obligations comprising the bond issue satisfy the trade or business test. If, however, less than a major portion of the proceeds of an issue is to be loaned to nonexempt persons or is to be used to acquire or construct facilities which will be used in a trade or business carried on by a nonexempt person, the debt obligations will not be industrial development bonds. Also, when publicly-owned facilities which are intended for general public use, such as toll roads or bridges, are constructed with the proceeds of a bond issue and used by nonexempt persons in their trades or businesses on the same basis as other members of the public, such use does not constitute a use in the trade or business of a nonexempt person for purposes of the trade or business test. - (ii) In determining whether a debt obligation meets the trade or business test, the indirect, as well as the direct, use of the proceeds is to be taken into account. For example, the debt obligations comprising a bond issue do not fail to satisfy the trade or business test merely because the State or local governmental unit uses the proceeds to engage in a series of financing transactions for property to be used by private business users in trades or businesses carried on by them. Similarly, if such proceeds are to be used to construct facilities to be leased or sold to any nonexempt person for use in a trade or business it carries on, such proceeds are to be used in a trade or business carried on by a nonexempt person and the debt obligations comprising such issue satisfy the trade or business test. If such proceeds are to be used to construct facilities to be leased or sold to an exempt person who will, in turn, lease or sell the facilities to a nonexempt person for use in a trade or business, such proceeds are to be used in a trade or business carried on by a nonexempt person and the debt obligations comprising such issue satisfy the trade or business test. In addition, proceeds will be treated as being used in the trade or business of a nonexempt person in situations involving other arrangements, whether in a single transaction or in a series of transactions, whereby a nonexempt person uses property acquired with the proceeds of a bond issue in its trade or business. - (iii) The use of more than 25 percent of the proceeds of an issue of obligations in the trades or businesses of nonexempt persons will constitute the use of a major portion of such proceeds in such manner. In the case of the direct or indirect use of the proceeds of an issue of obligations or the direct or indirect use of a facility constructed, reconstructed, or acquired with such proceeds, the use by all nonexempt persons in their trades or businesses must be aggregated to determine whether the trade or business test is satisfied. If more than 25 percent of the proceeds of a bond issue is used in the trades or businesses of nonexempt persons, the trade or business test is satisfied. For special rules with respect to the acquisition of the output of facilities, see [subparagraph (5)](#b-5) of this paragraph. - (4) **Security interest test.** The security interest test relates to the nature of the security for, and the source of, the payment of either the principal or interest on a bond issue. The nature of the security for, and the source of, the payment may be determined from the terms of the bond indenture or on the basis of an underlying arrangement. An underlying arrangement to provide security for, or the source of, the payment of the principal or interest on an obligation may result from separate agreements between the parties or may be determined on the basis of all the facts and circumstances surrounding the issuance of the bonds. The property which is the security for, or the source of, the payment of either the principal or interest on a debt obligation need not be property acquired with bond proceeds. The security interest test is satisfied if, for example, a debt obligation is secured by unimproved land or investment securities used, directly or indirectly, in any trade or business carried on by any private business user. A pledge of the full faith and credit of a State or local governmental unit will not prevent a debt obligation from otherwise satisfying the security interest test. For example, if the payment of either the principal or interest on a bond issue is secured by both a pledge of the full faith and credit of a State or local governmental unit and any interest in property used or to be used in a trade or business, the bond issue satisfies the security interest test. For rules with respect to the acquisition of the output of facilities see [subparagraph (5)](#b-5) of this paragraph. - (5) **Trade or business test and security interest test with respect to certain output contracts.** - (i) The use by one or more nonexempt persons of a major portion of the [subparagraph (5)](#b-5) output of facilities such as electric energy, gas, or water facilities constructed, reconstructed, or acquired with the proceeds of an issue satisfies the trade or business test and the security interest test if such use has the effect of transferring to nonexempt persons the benefits of ownership of such facilities, and the burdens of paying the debt service on governmental obligations used directly or indirectly to finance such facilities, so as to constitute the indirect use by them of a major portion of such proceeds. Such benefits and burdens are transferred and a major portion of the proceeds of an issue is used indirectly by the users of the [subparagraph (5)](#b-5) output of such a facility which is owned and operated by an exempt person where— (a)(1) One nonexempt person agrees pursuant to a contract to take, or to take or pay for, a major portion (more than 25 percent) of the [subparagraph (5)](#b-5) output (within the meaning of subdivision (ii) of this subparagraph) of such a facility (whether or not conditional upon the production of such output) or (2) two or more nonexempt persons, each of which pays annually a guaranteed minimum payment exceeding 3 percent of the average annual debt service with respect to the obligations in question, agree, pursuant to contracts, to take, or to take or pay for, a major portion (more than 25 percent) of the [subparagraph (5)](#b-5) output of such a facility (whether or not conditioned upon the production of such output), and (b) Payment made or to be made with respect to such contract or contracts by such nonexempt person or persons exceeds a major part (more than 25 percent) of the total debt service with respect to such issue of obligations. - (ii) **For purposes of this subparagraph—** (a) Where a contract described in subdivision (i) of this subparagraph may be extended by the issuer of obligations described therein, the term of the contract shall be considered to include the period for which such contract may be so extended. (b) The [subparagraph (5)](#b-5) output of a facility shall be determined by multiplying the number of units produced or to be produced by the facility in 1 year by the number of years in the contract term of the issue of obligations issued to provide such facility. The number of units produced or to be produced by a facility in 1 year shall be determined by reference to its nameplate capacity (or where there is no nameplate capacity, its maximum capacity) without any reduction for reserves or other unutilized capacity. The contract term of an issue begins on the date the output of a facility is first taken, pursuant to a take or a take or pay contract, by a nonexempt person and ends on the latest maturity date of any obligation of the issue (determined without regard to any optional redemption dates). If, however, on or before the date of issue of a prior issue of governmental obligations issued to provide a facility, the issuer makes a commitment in the bond indenture or related document to refinance such prior issue with one or more subsequent issues of governmental obligations, then the contract term of the issue shall be determined with regard to the latest redemption date of any obligation of the last such refinancing issue with respect to such facility (determined without regard to any optional redemption dates). Where it appears that the term of an issue (or the terms of two or more issues) is extended for purposes of extending the contract term of an issue and thereby increasing the [subparagraph (5)](#b-5) output of the facility provided by such issue, the [subparagraph (5)](#b-5) output of such facility shall be determined by the Commissioner without regard to the provisions of this subdivision (b). (c) The total debt service with respect to an issue of obligations shall be the total dollar amount (excluding any penalties) payable with respect to such issue over its entire term. The entire term of an issue begins on its date of issue and ends on the latest maturity date of any obligation of the issue (determined without regard to any optional redemption dates). If, however, on or before the date of issue of a prior issue of governmental obligations the issuer makes a commitment in the bond indenture or related document to refinance such prior issue with one or more subsequent issues of governmental obligations, the entire term of the issue shall be determined with regard to the latest redemption date of any obligation of the last such refinancing issue (determined without regard to any optional redemption dates). (d) Two or more nonexempt persons who are related persons (within the meaning of [section 103(c)(6)(C)](/cfr/26/103.md?p=c-6-C)) shall be treated as one nonexempt person. - (c) **Examples.** The application of the rules contained in [section 103(c)](/cfr/26/103.md?p=c) (2) and (3) and [paragraph (b)](#b) of this section are illustrated by the following examples: - (d) **Certain refunding issues—** - (1) **General rule.** In the case of an issue of obligations issued to refund the outstanding face amount of an issue of obligations, the proceeds of the refunding issue will be considered to be used for the purpose for which the proceeds of the issue to be refunded were used. The rules of this subparagraph shall apply regardless of the date of issuance of the issue to be refunded and shall apply to refunding issues to be issued to refund prior refunding issues. - (2) **Obligations issued prior to effective date.** In the case of an issue of obligations issued to refund the outstanding face amount of an issue of obligations issued on or before April 30, 1968 (or before January 1, 1969, if the transitional rules of [§ 1.103-12](/cfr/26/1.103-12.md) are applicable) which would have been industrial development bonds within the meaning of [section 103(c)(2)](/cfr/26/103.md?p=c-2) had they been issued after such date, the refunding issue shall not be considered to be an issue of industrial development bonds if it does not make funds available for any purpose other than the debt service on the obligations. For rules as to arbitrage bonds, see [section 103(d)](/cfr/26/103.md?p=d). - (3) **Examples.** The provisions of this paragraph may be illustrated by the following examples: # §1.103-8. Interest on bonds to finance certain exempt facilities. - (a) **In general—** - (1) **General rule.** - (i) Under [section 103(b)(4)](/cfr/26/103.md?p=b-4), interest paid on an issue of obligations issued by a State or local governmental unit (as defined in [§ 1.103-1](/cfr/26/1.103-1.md)) is not includable in gross income if substantially all of the proceeds of such issue is to be used to provide one or more of the exempt facilities listed in [subparagraphs (A) through (J)](/cfr/26/103.md?p=b-4-A..b-4-J) of section 103(b)(4) and in this section. However, interest on an obligation of such issue is includable in gross income if the obligation is held by a substantial user or a related person (as described in [section 103(b)(13)](/cfr/26/103.md?p=b-13) and [§ 1.103-11](/cfr/26/1.103-11.md)). If substantially all of the proceeds of a bond issue is to be used to provide such exempt facilities, the debt obligations are treated as obligations described in [section 103(a)(1)](/cfr/26/103.md?p=a-1) and [§ 1.103-1](/cfr/26/1.103-1.md) even though such obligations are industrial development bonds as defined in [section 103(b)(2)](/cfr/26/103.md?p=b-2) and [§ 1.103-7](/cfr/26/1.103-7.md). Substantially all of the proceeds of an issue of governmental obligations are used to provide an exempt facility if 90 percent or more of such proceeds are so used. For purposes of this “substantially all” test, two rules apply. First, proceeds are reduced by amounts properly allocable on a pro rata basis between providing the exempt facility and other uses of the proceeds. Second, amounts used to provide an exempt facility include amounts paid or incurred which are chargeable to the facility's capital account or would be so chargeable either with a proper election by a taxpayer (for example, under [section 266](/cfr/26/266.md)) or but for a proper election by a taxpayer to deduct such amounts. In the event the amount payable with respect to an issue during each annual period over its term is less than the amount of interest accruing thereon in such period, e.g., in the case of an issue sold by the issuer for less than its face amount, see [paragraph (a)(6)](#a-6) of this section to determine the amount of proceeds of the issue. - (ii) The provisions of subdivision (i) of this subparagraph shall also apply to an issue of obligations substantially all of the proceeds of which is to be used to provide exempt facilities described in this section and for either or both of the following purposes: (a) To acquire or develop land as the site for an industrial park described in [section 103(b)(5)](/cfr/26/103.md?p=b-5) and § [1.103-9](/cfr/26/1.103-9.md), [(b)](/cfr/26/1.103-9.md?p=b) to provide facilities to be used by an exempt person. - (iii) [Section 103(b)(4)](/cfr/26/103.md?p=b-4) only becomes applicable where the bond issue meets both the trade or business and the security interest tests so that obligations are industrial development bonds within the meaning of [section 103(b)(2)](/cfr/26/103.md?p=b-2). For rules as to exempt facilities including property functionally related and subordinate to such facilities, see [subparagraph (3)](#a-3) of this paragraph. For rules with respect to the ultimate use of proceeds of obligations, see [subparagraph (4)](#a-4) of this paragraph. For rules which limit the application of the provisions of this section see [subparagraph (5)](#a-5) of this paragraph. For the interrelationship of the rules provided in this section and the exemption for certain small issues provided in [section 103(b)(6)](/cfr/26/103.md?p=b-6), see [§ 1.103-10](/cfr/26/1.103-10.md). - (2) **Public use requirement.** To qualify under [section 103(b)(4)](/cfr/26/103.md?p=b-4) and this section as an exempt facility, a facility must serve or be available on a regular basis for general public use, or be a part of a facility so used, as contrasted with similar types of facilities which are constructed for the exclusive use of a limited number of nonexempt persons in their trades or businesses. For example, a private dock or wharf owned by or leased to, and serving only a single manufacturing plant would not qualify as a facility for general public use, but a hangar or repair facility at a municipal airport, or a dock or a wharf, would qualify even if it is owned by, or leased or permanently assigned to, a nonexempt person provided that such nonexempt person directly serves the general public, such as a common passenger carrier or freight carrier. Similarly, an airport owned or operated by a nonexempt person for general public use is a facility for public use, as is a dock or wharf which is a part of a public port. However, a landing strip which, by reason of a formal or informal agreement or by reason of geographic location, will not be available for general public use does not satisfy the public use requirement. Sewage or solid waste disposal facilities and air or water pollution control facilities, described in [sections 103(b)(4)](/cfr/26/103.md?p=b-4) (E) and (F) and paragraphs [(f)](#f) and [(g)](#g) of this section, will be treated in all events as serving a general public use although they may be part of a nonpublic facility such as a manufacturing facility used in the trade or business of a nonexempt user. - (3) **Functionally related and subordinate.** An exempt facility includes any land, building, or other property functionally related and subordinate to such facility. Property is not functionally related and subordinate to a facility if it is not of a character and size commensurate with the character and size of such facility. Since substantially all of the proceeds of a bond issue must be used for the exempt facility (or for any combination of exempt facilities, industrial parks, and facilities to be used by exempt persons), including property functionally related and subordinate thereto, an insubstantial amount of the proceeds of a bond issue may be used for facilities which are neither exempt facilities (or a combination of exempt facilities, industrial parks and facilities to be used by exempt persons) nor functionally related and subordinate to exempt facilities. Thus, for example, where substantially all of the proceeds of an urban redevelopment bond issue are to be used by a State urban redevelopment agency for residential real property for family units within the meaning of [section 103(b)(4)(A)](/cfr/26/103.md?p=b-4-A) and [paragraph (b)](#b) of this section, an insubstantial amount may be used for an industrial or commercial project or for any other purpose that is not functionally related and subordinate to the residential real property for family units. - (4) **Ultimate use of proceeds.** The question whether substantially all of the proceeds of an issue of obligations are to be used to provide one or more of the exempt facilities listed in [subparagraphs (A) through (J)](/cfr/26/103.md?p=b-4-A..b-4-J) of section 103(b)(4) and in this section is to be resolved by reference to the ultimate use of such proceeds. For example, such proceeds will be treated as used to provide residential rental property whether the State or local governmental unit (i) constructs such property and leases or sells it to any person who is not an exempt person for use in such person's trade or business of leasing such property; (ii) lends the proceeds to any such person for such purpose; or (iii) lends the proceeds to banks or other financial institutions in order to increase the supply of funds for mortgage lending under conditions requiring such banks or other financial institutions to use such proceeds only for further lending for residential rental property. - (5) **Limitation.** - (i) A facility qualifies under this section only to the extent that there is a valid reimbursement allocation under [§ 1.150-2](/cfr/26/1.150-2.md) with respect to expenditures that are incurred before the issue date of the bonds to provide the facility and that are to be paid with the proceeds of the issue. In addition, if the original use of the facility begins before the issue date of the bonds, the facility does not qualify under this section if any person that was a substantial user of the facility at any time during the 5-year period before the issue date or any related person to that user receives (directly or indirectly) 5 percent or more of the proceeds of the issue for the user's interest in the facility and is a substantial user of the facility at any time during the 5-year period after the issue date, unless— - (A) An official intent for the facility is adopted under [§ 1.150-2](/cfr/26/1.150-2.md) within 60 days after the date on which acquisition, construction, or reconstruction of that facility commenced; and - (B) For an acquisition, no person that is a substantial user or related person after the acquisition date was also a substantial user more than 60 days before the date on which the official intent was adopted. - (ii) A facility, the original use of which commences (or the acquisition of which occurs) on or after the issue date of bonds to provide that facility, qualifies under this section only to the extent that an official intent for the facility is adopted under [§ 1.150-2](/cfr/26/1.150-2.md) by the issuer of the bonds within 60 days after the commencement of the construction, reconstruction, or acquisition of that facility. Temporary construction or other financing of a facility prior to the issuance of the bonds to provide that facility will not cause that facility to be one that does not qualify under this [paragraph (a)(5)(ii)](#a-5-ii). - (iii) For purposes of [paragraph (a)(5)(i)](#a-5-i) of this section, substantial user has the meaning used in [section 147(a)(1)](/cfr/26/147.md?p=a-1), related person has the meaning used in [section 144(a)(3)](/cfr/26/144.md?p=a-3), and a user that is a governmental unit within the meaning of [§ 1.103-1](/cfr/26/1.103-1.md) is disregarded. - (iv) Except to the extent provided in §§ [1.142-4(d)](/cfr/26/1.142-4.md?p=d), [1.148-11A(i)](/cfr/26/1.148-11A.md?p=i), and [1.150-2(j)](/cfr/26/1.150-2.md?p=j), this [paragraph (a)(5)](#a-5) applies to bonds issued after June 30, 1993, and sold before July 8, 1997. See [§ 1.142-4(d)](/cfr/26/1.142-4.md?p=d) for rules relating to bonds sold on or after July 8, 1997. - (6) **Deep discount obligations.** - (i) Except as otherwise provided in [paragraph (a)(7)](#a-7) of this section, the proceeds of any issue of obligations sold by the issuer after June 4, 1982, shall include any imputed proceeds of the issue. The imputed proceeds of an issue equal the sum of the amounts of imputed proceeds for each annual period (hereinafter, bond year) over the term of the issue. - (ii) **The amount of imputed proceeds for a bond year equals—** (a) The sum of the amounts of interest that will accrue with respect to each obligation that is part of the issue in such year, reduced (but not below zero) by (b) The sum of the amounts of principal and interest that become payable with respect to the issue in that bond year. - (iii) Interest will be deemed to accrue with respect to an obligation on an amount that, as of the commencement of that year, is equal to the sum of— (a) The purchase price (as defined in [§ 1.103-13(d)(2)](/cfr/26/1.103-13.md?p=d-2)) allocable to the obligation and (b) The aggregate of the amounts of interest accruing in each prior bond year with respect to the obligation, reduced by all amounts that became payable with respect to the obligation in prior bond years. Any amount that becomes payable during the 30 day period following any bond year will be deemed to have become payable in such bond year. Thus, to the extent interest on an obligation accruing during a bond year does not become payable within 30 days from the end of such year, it is treated as reinvested under the same terms as the obligation. For purposes of this [subparagraph (6)](#a-6), the rate at which such interest accrues is equal to the yield of the obligation. Yield is computed in the same manner as set forth in [§ 1.103-13(c)(1)(ii)](/cfr/26/1.103-13.md?p=c-1-ii) for computing yield on governmental obligations (assuming annual compounding of interest). Such computations shall be made without regard to optional call dates. - (7) **Deep discount obligations; special rules.** - (i) **There are no imputed proceeds with respect to an obligation if—** (a) The obligation does not have a stated interest rate (determinable at the date of issue) that increases over the term of the obligation, and (b) The purchase price of the obligation is at least 95 percent of its face amount. - (ii) If the actual rate at which interest is to accrue over the term of an obligation is indeterminable at the date of issue then, in computing the yield of the obligation for purposes of this paragraph, such rate shall be determined as if the conditions as of the date of issue will not change over the term of the obligation. Thus, for example, if interest on an obligation is to be paid semiannually at a rate equal to 80 percent of the yield on six month Treasury bills at the most recent public sale immediately prior to the corresponding interest payment date and the yield on six month Treasury bills sold immediately preceding the issue date is 10 percent, then the six month Treasury bill rate is deemed to be a constant 10 percent for purposes of determining the amount of imputed proceeds of the issue. Therefore, all interest payments on the obligation would be deemed to be made at a rate of 8 percent. - (8) **Examples.** The principles of this paragraph may be illustrated by the following examples: - (b) **Residential rental property—** - (1) **General rule for obligations issued after April 24, 1979.** [Section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to any obligation which is issued after April 24, 1979, and is part of an issue substantially all of the proceeds of which are to be used to provide a residential rental project in which 20 percent or more of the units are to be occupied by individuals or families of low or moderate income (as defined in [paragraph (b)(8)(v)](#b-8-v) of this section). In the case of a targeted area project, the minimum percentage of units which are to be occupied by individuals of low or moderate income is 15 percent. See generally [§ 1.103-7](/cfr/26/1.103-7.md) for rules relating to refunding issues. - (2) **Registration requirement.** Any obligation (including any refunding obligation) issued after December 31, 1981, to provide a residential rental project must be issued as part of an issue, each obligation of which is in registered form (as defined in [paragraph (b)(8)(ii)](#b-8-ii) of this section). - (3) **Transitional rule.** For purposes of this section, obligations issued after April 24, 1979, may be treated as issued before April 25, 1979, if the transitional requirements of section 1104 of the Mortgage Subsidy Bond Tax Act of 1980 (94 Stat. 2670) are satisfied. - (4) **Residential rental project.** - (i) **In general.** A residential rental project is a building or structure, together with any functionally related and subordinate facilities, containing one or more similarly constructed units— (a) Which are used on other than a transient basis, and (b) Which satisfy the requirements of [paragraph (b)(5)(i)](#b-5-i) of this section and are available to members of the general public in accordance with the requirement of [paragraph (a)(2)](#a-2) of this section. - (ii) **Multiple buildings.** (a) Proximate buildings or structures (hereinafter “buildings”) which have similarly constructed units are treated as part of the same project if they are owned for Federal tax purposes by the same person and if the buildings are financed pursuant to a common plan. (b) Buildings are proximate if they are located on a single tract of land. The term “tract” means any parcel or parcels of land which are contiguous except for the interposition of a road, street, stream or similar property. Otherwise, parcels are contiguous if their boundaries meet at one or more points. (c) A common plan of financing exists if, for example, all such buildings are provided by the same issue or several issues subject to a common indenture. - (iii) **Functionally related and subordinate facilities.** Under [paragraph (a)(3)](#a-3) of this section, facilities that are functionally related and subordinate to residential rental projects include facilities for use by the tenants, for example, swimming pools, other recreational facilities, parking areas, and other facilities which are reasonably required for the project, for example, heating and cooling equipment, trash disposal equipment or units for resident managers or maintenance personnel. - (iv) **Owner-occupied residences.** For purposes of [section 103 (b)(4)(A)](/cfr/26/103.md?p=b-4-A) and this [paragraph (b)](#b), the term “residential rental project” does not include any building or structure which contains fewer than five units, one unit of which is occupied by an owner of the units. - (5) **Requirement must be continuously satisfied—** - (i) **Rental requirement.** Once available for occupancy, each unit (as defined in [paragraph (b)(8)(i)](#b-8-i) of this section) in a residential rental project must be rented or available for rental on a continuous basis during the longer of— (a) The remaining term of the obligation, or (b) The qualified project period (as defined in [paragraph (b)(7)](#b-7) of this section). - (ii) **Low or moderate income occupancy requirement.** Individuals or families of low or moderate income must occupy that percentage of completed units in such project applicable to the project under [paragraph (b)(1)](#b-1) of this section continuously during the qualified project period. For this purpose, a unit occupied by an individual or family who at the commencement of the occupancy is of low or moderate income is treated as occupied by such an individual or family during their tenancy in such unit, even though they subsequently cease to be of low or moderate income. Moreover, such unit is treated as occupied by an individual or family of low or moderate income until reoccupied, other than for a temporary period, at which time the character of the unit shall be redetermined. In no event shall such temporary period exceed 31 days. - (6) **Effect of post-issuance noncompliance—** - (i) **In general.** Unless corrected within a reasonable period, noncompliance with the requirements of this [paragraph (b)](#b) shall cause the project to be treated as other than a project described in [section 103 (b)(4)(A)](/cfr/26/103.md?p=b-4-A) and this [paragraph (b)](#b) as of the date of issue. After an issue to provide such project ceases to qualify, subsequent conformity with the requirements will not alter the taxable status of such issue. - (ii) **Correction of noncompliance.** If the issuer corrects any noncompliance arising from events occurring after the issuance of the obligation within a reasonable period, such noncompliance (e.g., an unauthorized sublease) shall not cause the project to be a project not described in this [paragraph (b)](#b). A reasonable period is at least 60 days after such error is first discovered or would have been discovered by the exercise of reasonable diligence. - (iii) **Involuntary loss.** (a) The requirements of [paragraph (b)](#b) shall cease to apply to a project in the event of involuntary noncompliance caused by fire, seizure, requisition, foreclosure, transfer of title by deed in lieu of foreclosure, change in a Federal law or an action of a Federal agency after the date of issue which prevents an issuer from enforcing the requirements of this paragraph, or condemnation or similar event but only if, within a reasonable period, either the obligation used to provide such project is retired or amounts received as a consequence of such event are used to provide a project which meets the requirement of [section 103 (b)(4)(A)](/cfr/26/103.md?p=b-4-A) and this [paragraph (b)](#b). (b) The provisions of paragraph (b)(6)(iii)(a) of this section shall cease to apply to a project subject to foreclosure, transfer of title by deed in lieu of foreclosure or similar event if, at anytime during that part of the qualified project period subsequent to such event, the obligor on the acquired purpose obligation (as defined in [§ 1.103-13(b)(4)(iv)(a)](/cfr/26/1.103-13.md?p=b-4-iv-a)) or a related person (as defined in [§ 1.103-10(e)](/cfr/26/1.103-10.md?p=e)) obtains an ownership interest in such project for tax purposes. - (7) **Qualified project period.** The term “qualified project period” means— - (i) For obligations issued after April 24, 1979, and prior to September 4, 1982, a period of 20 years commencing on the later of the date that the project becomes available for occupancy or the date of issue of the obligations. The requirement of [paragraph (b)(5)(ii)](#b-5-ii) of this section shall be deemed met if the owner of the project contracts with a Federal or state agency to maintain at least 20 percent (or 15 percent in the case of targeted areas) of the units for low or moderate income individuals or families (as defined in [paragraph (b)(8)(v)](#b-8-v) of this section) for 20 years in consideration for rent subsidies for such individuals or families for such period. - (ii) For obligations issued after September 3, 1982, a period beginning on the later of the first day on which at least 10 percent of the units in the project are first occupied or the date of issue of an obligation described in [section 103(b)(4)(A)](/cfr/26/103.md?p=b-4-A) and this paragraph and ending on the later of the date— (a) Which is 10 years after the date on which at least 50 percent of the units in the project are first occupied, (b) Which is a qualified number of days after the date on which any of the units in the project is first occupied, or (c) On which any assistance provided with respect to the project under section 8 of the United States Housing Act of 1937 terminates. - (8) **Other definitions.** For purposes of this paragraph— - (i) **Unit.** The term “unit” means any accommodation containing separate and complete facilities for living, sleeping, eating, cooking, and sanitation. Such accommodations may be served by centrally located equipment, such as air conditioning or heating. Thus, for example, an apartment containing a living area, a sleeping area, bathing and sanitation facilities, and cooking facilities equipped with a cooking range, refrigerator, and sink, all of which are separate and distinct from other apartments, would constitute a unit. - (ii) **In registered form.** The term “in registered form” has the same meaning as in [section 6049](/cfr/26/6049.md). With respect to obligations issued after December 31, 1982, such term shall have the same meaning as prescribed in [section 103(j)](/cfr/26/103.md?p=j) (including the regulations thereunder). - (iii) **Targeted area project.** The term “targeted area project” means a project located in a qualified census tract (as defined in [§ 6a.103A-2(b)(4)](/cfr/26/6a.103A-2.md?p=b-4)) or an area of chronic economic distress (as defined in [§ 6a.103A-2(b)(5)](/cfr/26/6a.103A-2.md?p=b-5)). - (iv) **Building or structure.** The term “building or structure” generally means a discrete edifice or other man-made construction consisting of an independent foundation, outer walls, and roof. A single unit which is not an entire building but is merely a part of a building is not a building or structure within the meaning of this section. As such, while single townhouses are not buildings if their foundation, outer walls, and roof are not independent, detached houses and rowhouses are buildings. - (v) **Low or moderate income.** Individuals and families of low or moderate income shall be determined in a manner consistent with determinations of lower income families under section 8 of the United States Housing Act of 1937, as amended, except that the percentage of median gross income which qualifies as low or moderate income shall be 80 percent. Therefore, occupants of a unit are considered individuals or families of low or moderate income only if their adjusted income (computed in the manner prescribed with [§ 1.167(k)-3(b)(3)](/cfr/26/1.167..3.md)) does not exceed 80 percent of the median gross income for the area. Notwithstanding the foregoing, the occupants of a unit shall not be considered to be of low or moderate income if all the occupants are students (as defined in [section 151(e)(4)](/cfr/26/151.md?p=e-4)), no one of whom is entitled to file a joint return under [section 6013](/cfr/26/6013.md). The method of determining low or moderate income in effect on the date of issue will be determinative for such issue, even if such method is subsequently changed. In the event programs under section 8(f) of the Housing Act of 1937, as amended, are terminated prior to the date of issue, the applicable method shall be that in effect immediately prior to the date of such termination. - (9) **Examples.** The following examples illustrate the application of this [paragraph (b)](#b). - (10) **Obligations issued before April 25, 1979—** - (i) **General rules.** [Section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to obligations issued before April 25, 1979, which are part of an issue substantially all of the proceeds of which are to be used to provide residential real property for family units. In order to qualify under this [paragraph (b)](#b) as an exempt facility, the facility must satisfy the public use requirement of [paragraph (a)(2)](#a-2) of this section by being available for use by members of the general public. - (ii) **Family units defined.** For purposes of this [paragraph (b)](#b) the term “family unit” means a building or any portion thereof which contains complete living facilities which are to be used on other than a transient basis by one or more persons, and facilities functionally related and subordinate thereto. Thus, an apartment which is to be used on other than a transient basis as a residence by a single person or by a family and which contains complete facilities for living, sleeping, eating, cooking, and sanitation, constitutes a family unit. Such a unit may be served by centrally located machinery and equipment as in a typical apartment building. To qualify as a family unit, the living facilities must be a separate, self-contained building or constitute one unit in a building substantially all of which consists of similar units, together with functionally related and subordinate facilities and areas. Hotels, motels, dormitories, fraternity and sorority houses, rooming houses, hospitals, sanitariums, rest homes, and trailer parks and courts for use on a transient basis do not constitute residential real property for family units. - (iii) **Functionally related and subordinate facilities.** Under [paragraph (a)(3)](#a-3) of this section, facilities which are functionally related and subordinate to residential real property actually used for family units include, for example, facilities for use by the occupants such as a swimming pool, a parking area, and recreational facilities. - (c) **Sports facilities—** - (1) **General rule.** [Section 103(b)(4)(B)](/cfr/26/103.md?p=b-4-B) provides that [section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to obligations issued by a State or local governmental unit which are part of an issue substantially all of the proceeds of which are to be used to provide sports facilities. In order to qualify as an exempt facility under [section 103(b)(4)(B)](/cfr/26/103.md?p=b-4-B) and this paragraph, the facility must satisfy the public use requirement of [paragraph (a)(2)](#a-2) of this section by being available for use by members of the general public either as participants or as spectators. - (2) **Sports facility defined.** - (i) For purposes of [section 103(b)(4)(B)](/cfr/26/103.md?p=b-4-B) and this paragraph, the term “sports facilities” includes both outdoor and indoor facilities. The facility may be designed either as a spectator or as a participation facility. For example, the term includes both indoor and outdoor stadiums for baseball, football, ice hockey, or other sports events, as well as facilities for the participation of the general public in sports activities, such as golf courses, ski slopes, swimming pools, tennis courts, and gymnasiums. The term does not include, however, facilities such as a golf course, swimming pool, or tennis court, which are constructed for use by members of a private club or as integral or subordinate parts of a hotel or motel, or the use of which will be restricted to a special class or group or to guests of a particular hotel or motel, since they are not facilities for the use of the general public as required by [paragraph (a)(2)](#a-2) of this section. - (ii) Under [paragraph (a)(3)](#a-3) of this section, facilities which are functionally related and subordinate to a sports facility, such as a parking lot, clubhouse, ski slope warming house, bath house, or ski tow, are considered to be part of a sports facility. A ski lodge which consists primarily of overnight accommodations is not functionally related and subordinate to a sports facility. - (d) **Convention or trade show facilities—** - (1) **General rule.** [Section 103(b)(4)(C)](/cfr/26/103.md?p=b-4-C) provides that [section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to obligations issued by a State or local governmental unit which are a part of an issue substantially all of the proceeds of which are to be used to provide convention or trade show facilities. In order to qualify under [section 103(b)(4)(C)](/cfr/26/103.md?p=b-4-C) and this paragraph as an exempt facility, the facility must satisfy the public use requirement of [paragraph (a)(2)](#a-2) of this section by being available for an appropriate charge or rental, on a rate scale basis, for use by members of the general public. The public use requirement is not satisfied if the use of a convention or trade show facility is limited by long-term leases to a single user or group of users. - (2) **Convention or trade show facilities defined.** For purposes of [section 103(b)(4)(C)](/cfr/26/103.md?p=b-4-C) and this paragraph, the term “convention or trade show facilities” means special-purpose buildings or structures, such as meeting halls and display areas, which are generally used to house a convention or trade show, including, under [paragraph (a)(3)](#a-3) of this section, facilities functionally related and subordinate to such facilities such as parking lots or railroad sidings. A hotel or motel which is available to the general public, whether or not it is intended primarily to house persons attending or participating in a convention or trade show, is neither a convention or trade show facility nor functionally related and subordinate thereto. - (e) **Certain transportation facilities—** - (1) **General rule.** [Section 103(b)(4)(D)](/cfr/26/103.md?p=b-4-D) provides that [section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to obligations issued by a State or local governmental unit which are part of an issue substantially all of the proceeds of which are to be used to provide (i) airports, docks, wharves, mass commuting facilities, or public parking facilities, or (ii) storage or training facilities directly related to any such facility. In order to qualify under [section 103(b)(4)(D)](/cfr/26/103.md?p=b-4-D) and this paragraph as an exempt facility, the facility must satisfy the public use requirement of [paragraph (a)(2)](#a-2) of this section by being available for use by members of the general public or for use by common carriers or charter carriers which serve members of the general public. A dock or wharf which is part of a public port (or a public port to be constructed in accordance with a plan which has been finally adopted on the date the obligations in question are issued) satisfies the public use test. A parking lot will be available for use by the general public unless more than an insubstantial portion thereof will be used exclusively by or for the benefit of a nonexempt person by reason of a formal or informal agreement or by reason of the remote geographic location of the facility. - (2) **Definitions.** For purposes of [section 103(b)(4)(D)](/cfr/26/103.md?p=b-4-D) and this paragraph— - (i) **With respect to bonds sold at or before 5—** 00 p.m. EST on December 29, 1978, an airport includes service accommodations for the public such as terminals, retail stores in such terminals, runways, hangars, loading facilities, repair shops, parking areas, and facilities which, under [paragraph (a)(3)](#a-3) of this section, are functionally related and subordinate to the airport, such as facilities for the preparation of in-flight meals, restaurants, and accommodations for temporary or overnight use by passengers, and other facilities functionally related to the needs or convenience of passengers, shipping companies, and airlines. The term “airport” does not include a landing strip which, by reason of a formal or informal agreement, or by reason of geographic location, will not be available for general public use. - (ii) **With respect to bonds sold after 5—** 00 p.m. EST on December 29, 1978— (a) An airport includes facilities which are directly related and essential to— (1) Servicing aircraft or enabling aircraft to take off and land, or (2) Transferring passengers or cargo to or from aircraft. (b) Under [paragraph (a)(3)](#a-3) of this section, an airport includes facilities other than those described in paragraph (e)(2)(ii)(a) only if they are functionally related and subordinate to an airport (as defined in paragraph (e)(2)(ii)(a)). A facility (or part thereof) is not functionally related and subordinate to an airport if the facility (or part thereof)— (1) Is not of a character and size commensurate with the character and size of the airport at or adjacent to which the facility is located, or (2) Is not located at or adjacent to that airport. (c) As an illustration of the rules of this [paragraph (e)(2)(ii)](#e-2-ii), an office building (or office space within a building) or a computer facility, either of which serves a system-wide or regional function of an airline, is not considered part of an airport since that facility is not described in either paragraph (e)(2)(ii)(a) or (b). However, a maintenance or overhaul facility which services aircraft is considered part of an airport under paragraph (e)(2)(ii)(a) since that facility is directly related and essential to servicing aircraft and must be located where aircraft take off and land in order to perform its function. (d) A hotel located at or adjacent to an airport satisfies the requirements of paragraph (e)(2)(ii)(b), that is, it is of a character and size commensurate with the character and size of the airport at or adjacent to which it is located, if the number of guest rooms in the hotel is reasonable for the size of the airport, taking into account the current and projected passenger usage of the terminal facility. If the hotel contains meeting rooms, the number and size of these rooms must be in reasonable proportion to the number of guest rooms in the hotel. Limited recreational facilities will not prevent the hotel from being of a character and size commensurate with the character and size of the airport. - (iii) A dock or wharf includes property which, under [paragraph (a)(3)](#a-3) of this section, is functionally related and subordinate to a dock or wharf such as the structure alongside which a vessel docks, the equipment needed to receive and to discharge cargo and passengers from the vessel, such as cranes and conveyors, related storage, handling, office, and passenger areas, and similar facilities. - (iv) A mass commuting facility includes real property together with improvements and personal property used therein, such as machinery, equipment, and furniture, serving the general public commuting on a day-to-day basis by bus, subway, rail, ferry, or other conveyance which moves over prescribed routes. Such property also includes terminals and facilities which, under [paragraph (a)(3)](#a-3) of this section, are functionally related and subordinate to the mass commuting facility, such as parking garages, car barns, and repair shops. Use of mass commuting facilities by noncommuters in common with commuters is immaterial. Thus, a terminal leased to a common carrier bus line which serves both commuters and long distance travelers would qualify as an exempt facility. - (3) **Related storage or training facility.** [Section 103 (b)(4)(D)](/cfr/26/103.md?p=b-4-D) includes only those storage and training facilities which are both (i) directly related to a facility to which subparagraph (1)(i) or (ii) of this paragraph applies and (ii) physically located on or adjacent to such a facility. For example, a storage facility would include a grain elevator, silo, warehouse, or oil and gas storage tank used in connection with a dock or wharf and located on or adjacent to such dock or wharf. Similarly, a training facility would include a building located at or adjacent to an airport for the training of flight personnel or a paved area immediately adjoining a bus garage used to train bus drivers. - (4) **Examples.** The principles of this paragraph may be illustrated by the following examples: - (f) **Certain public utility facilities—** - (1) **General rule.** - (i) [Section 103(b)(4)(E)](/cfr/26/103.md?p=b-4-E) provides that [section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to obligations issued by a State or local governmental unit which are part of an issue substantially all of the proceeds of which are to be used to provide sewage disposal facilities, solid waste disposal facilities, or facilities for the local furnishing of electric energy or gas. In order to qualify under [section 103(b)(4)(E)](/cfr/26/103.md?p=b-4-E) as an exempt facility, the facility must satisfy the public use requirement of [paragraph (a)(2)](#a-2) of this section. A public utility facility described in this subparagraph (with the exception of sewage and solid waste disposal facilities which will be treated in all events as serving the general public) will satisfy the public use requirement only if such facility, or the output thereof, is available for use by members of the general public. - (ii) A facility for the local furnishing of electric energy or gas is, for purposes of applying the public use test in [paragraph (a)(2)](#a-2) of this section, available for use by members of the general public if (a) the owner or operator of the facility is obligated, by a legislative enactment, local ordinance, regulation, or the equivalent thereof, to furnish electric energy or gas to all persons who desire such services and who are within the service area of the owner or operator of such facility, and (b) it is reasonably expected that such facility will serve or be available to a large segment of the general public in such service area. For rules with respect to facilities for the furnishing of water, see [paragraph (h)](#h) of this section. - (2) **Definitions.** For purposes of [section 103(b)(4)(E)](/cfr/26/103.md?p=b-4-E) and this paragraph— - (i) The term “sewage disposal facilities” means any property used for the collection, storage, treatment, utilization, processing, or final disposal of sewage. - (ii) The term “facilities for the local furnishing of electric energy or gas” means property which— (a) Is either property of a character subject to the allowance for depreciation provided in [section 167](/cfr/26/167.md) or land, (b) Is used to produce, collect, generate, transmit, store, distribute, or convey electric energy or gas. (c) Is used in the trade or business of furnishing electric energy or gas, and (d) Is a part of a system providing service to the general populace of one or more communities or municipalities, but in no event more than 2 contiguous counties (or a political equivalent) whether or not such counties are located in one State. - (g) **Air or water pollution control facilities—** - (1) **General rule.** [Section 103(b)(4)(F)](/cfr/26/103.md?p=b-4-F) provides that [section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to obligations issued by a State or local governmental unit which are part of an issue substantially all of the proceeds of which are to be used to provide air or water pollution control facilities. Such facilities are in all events treated as serving the general public and, thus, satisfy the public use requirement of [paragraph (a)(2)](#a-2) of this section. - (2) **Definitions.** - (i) For purposes of [section 103(b)(4)(F)](/cfr/26/103.md?p=b-4-F) and this paragraph, property is a pollution control facility to the extent that the test of either subdivision (iii) or (iv) of this subparagraph is satisfied, but only if— (a) It is property which is described in subdivision (ii) of this subparagraph and is either of a character subject to the allowance for depreciation provided in [section 167](/cfr/26/167.md) or land, and (b) Either (1) a Federal, State, or local agency exercising jurisdiction has certified that the facility, as designed, is in furtherance of the purpose of abating or controlling atmospheric pollutants or contaminants, or water pollution, as the case may be, or (2) the facility is designed to meet or exceed applicable Federal, State, and local requirements for the control of atmospheric pollutants or contaminants, or water pollution, as the case may be, in effect at the time the obligations, the proceeds of which are to be used to provide such facilities, are issued. - (ii) Property is described in this subdivision if it is property to be used, in whole or in part, to abate or control water or atmospheric pollution or contamination by removing, altering, disposing, or storing pollutants, contaminants, wastes, or heat. In the case of property to be used to control water pollution, such property includes the necessary intercepting sewers, pumping, power, and other equipment, and their appurtenances. For rules relating to facilities which remove pollutants from fuel or certain other items, see subdivision (vi) of this subparagraph. - (iii) In the case of an expenditure for property which is designed for no significant purpose other than the control of pollution, the total expenditure for such property satisfies the test of this subdivision. Thus, where property which is to serve no function other than the control of pollution is to be added to an existing manufacturing or production facility, the total expenditure for such property satisfies the test of this subdivision. Also, if an expenditure for property would not be made but for the purpose of controlling pollution, and if the expenditure has no significant purpose other than the purpose of pollution control, the total expenditure for such property satisfies the test of this subdivision even though such property serves one or more functions in addition to its function as a pollution control facility. - (iv) In the case of property to be placed in service for the purpose of controlling pollution and for a significant purpose other than controlling pollution, only the incremental cost of such facility satisfies the test of this subdivision. The “incremental cost” of property is the excess of its total cost over that portion of its cost expended for a purpose other than the control of pollution. - (v) An expenditure has a significant purpose other than the control of pollution if it results in an increase in production or capacity, or in a material extension of the useful life of a manufacturing or production facility or a part thereof. - (h) **Water facilities—** - (1) **General rule.** [Section 103(b)(4)(G)](/cfr/26/103.md?p=b-4-G) provides that [section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to obligations issued by a State or local governmental unit which are part of an issue substantially all of the proceeds of which are to be used to provide facilities for the furnishing of water which are available, on reasonable demand, to members of the general public. A water facility will satisfy the public use test of [paragraph (a)(2)](#a-2) of this section if it will provide water, on reasonable demand, to any member of the general public within the service area of the water system of which such facility is a part. - (2) **Definition.** For purposes of [section 103(b)(4)(G)](/cfr/26/103.md?p=b-4-G) and this paragraph, the “water facilities” include artesian wells, reservoirs, dams, related equipment and pipelines, and other facilities used to furnish water for domestic, industrial, irrigation, or other purposes. - (3) **Effective date.** The provisions of this paragraph apply in the case of facilities provided by obligations issued after January 1, 1969. In the case of facilities provided by obligations issued on or before such date to which [section 103(b)](/cfr/26/103.md?p=b) is applicable, the provisions of [paragraph (f)](#f) of this section shall apply. For such purposes, wherever the term “local furnishing of electric energy or gas” appears in [paragraph (f)](#f) of this section, such term shall be deemed to read “local furnishing of electric energy, gas, or water.” - (i) **Examples.** The application of [section 103(b)(4)](/cfr/26/103.md?p=b-4) and this section are illustrated by the following examples: # §1.103-9. Interest on bonds to finance industrial parks. - (a) **General rule.** - (1) Under [section 103(c)(5)](/cfr/26/103.md?p=c-5), interest paid on an issue of obligations issued by a State or local governmental unit (as defined in [§ 1.103-1](/cfr/26/1.103-1.md)) is not includable in gross income if substantially all of the proceeds of such issue is to be used to finance the acquisition or development of land as the site for an industrial park (referred to in this section as “industrial park bonds”). However, interest on an obligation of such an issue is includable in gross income if the obligation is held by a substantial user or a related person (as described in [section 103(c)(7)](/cfr/26/103.md?p=c-7) and [§ 1.103-11](/cfr/26/1.103-11.md)). If substantially all of the proceeds of a bond issue is to be so used to finance an industrial park, the debt obligations are treated as obligations described in [section 103(a)(1)](/cfr/26/103.md?p=a-1) and [§ 1.103-1](/cfr/26/1.103-1.md) even though such obligations are industrial development bonds within the meaning of [section 103(c)(2)](/cfr/26/103.md?p=c-2) and [§ 1.103-7](/cfr/26/1.103-7.md). Whether substantially all of the proceeds of an issue of governmental obligations are used to finance an industrial park is determined consistently with the rules for exempt facilities in [§ 1.103-8(a)(1)(i)](/cfr/26/1.103-8.md?p=a-1-i). - (2) The provisions of [subparagraph (1)](#a-1) of this paragraph shall also apply to an issue of obligations substantially all of the proceeds of which is to be used to acquire or develop land as the site for an industrial park described in [section 103(c)(5)](/cfr/26/103.md?p=c-5) and this section and for either or both of the following purposes: (i) To finance exempt facilities described in [section 103(c)(4)](/cfr/26/103.md?p=c-4) and § [1.103-8](/cfr/26/1.103-8.md), [(ii)](/cfr/26/1.103-8.md?p=ii) to finance facilities to be used by an exempt person. - (3) [Section 103(c)(5)](/cfr/26/103.md?p=c-5) only becomes applicable where the bond issue meets both the trade or business and the security interest tests so that the obligations are industrial development bonds within the meaning of [section 103(c)(2)](/cfr/26/103.md?p=c-2). For the interrelationship of the rules provided in this section and the exemption for certain small issues provided in [section 103(c)(6)](/cfr/26/103.md?p=c-6), see [§ 1.103-10](/cfr/26/1.103-10.md). - (b) **Definition of an industrial park.** For purposes of [section 103(c)(5)](/cfr/26/103.md?p=c-5) and this section, the term “industrial park” means a tract of land, other than a tract of land intended for use by a single enterprise, suitable primarily for use as building sites by a group of enterprises engaged in industrial, distribution, or wholesale businesses if either— - (1) The control and administration of the tract is vested in an exempt person (within the meaning of [paragraph (b)(2)](/cfr/26/1.103-7.md?p=b-2) of § 1.103-7), or - (2) The uses of the tract are normally (i) regulated by protective minimum restrictions, ordinarily including the size of individual sites, parking and loading regulations, and building setback lines, and (ii) designed to be compatible, under a comprehensive plan, with the community in which the industrial park is located and with the uses of the surrounding land. - (c) **Development of land defined.** For purposes of [section 103(c)(5)](/cfr/26/103.md?p=c-5) and this section, the term “development of land” includes the provision of certain improvements to an industrial park site if such improvements are incidental to the use of the land as an industrial park. Such incidental improvements include the building or installation of incidental water, sewer, sewage and waste disposal, drainage, or similar facilities (whether surface, subsurface, or both). Such incidental improvements include the provision of incidental transportation facilities, such as hard-surface roads (including curbs and gutters) and railroad spurs and sidings; power distribution facilities, such as gas and electric lines; and communication facilities. The provision of structures or buildings of any kind is not included within the meaning of the term “development of land,” except for those structures or buildings which are necessary in connection with the incidental improvements encompassed by the term, such as, for example, a water pumphouse and storage tank needed in connection with the incidental provision of water facilities in an industrial park. - (d) **Examples.** The application of the rules contained in [section 103(c)(5)](/cfr/26/103.md?p=c-5) and this section are illustrated by the following examples: # §1.103-10. Exemption for certain small issues of industrial development bonds. - (a) **In general.** [Section 103(b)(6)](/cfr/26/103.md?p=b-6) applies to certain industrial development bond issues (referred to in this section as “exempt small issues”) and bonds issued to refund certain issues (referred to in this section as “exempt small refunding issues”). If an issue is an exempt small issue or an exempt small refunding issue, then under the requirements of [section 103(b)(6)](/cfr/26/103.md?p=b-6) and this section the interest paid on the debt obligations is not includable in gross income, and the obligations are treated as obligations described in [section 103(a)(1)](/cfr/26/103.md?p=a-1) and [§ 1.103-1](/cfr/26/1.103-1.md), even though such obligations are industrial development bonds as defined in [section 103(b)(2)](/cfr/26/103.md?p=b-2) and [§ 1.103-7](/cfr/26/1.103-7.md). However, interest on an obligation of such an issue is includable in gross income if the obligation is held by a substantial user of the financed facilities or a related person (as described in [section 103(b)(7)](/cfr/26/103.md?p=b-7) and [§ 1.103-11](/cfr/26/1.103-11.md)). [Section 103(b)(6)](/cfr/26/103.md?p=b-6) only becomes applicable where the bond issue meets both the trade or business and the security interest tests so that the obligations are industrial development bonds within the meaning of [section 103(b)(2)](/cfr/26/103.md?p=b-2). For bonds issued before January 1, 1979, in taxable years ending before such date, and for capital expenditures made before January 1, 1979, with respect to such bonds, paragraphs [(b)](#b), [(c)](#c), and [(d)](#d) of this section shall be applied by substituting $5 million for $10 million. - (b) **Small issue exemption—** - (1) **$1 million or less.** [Section 103(b)(6)(A)](/cfr/26/103.md?p=b-6-A) provides that [section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to any debt obligation issued by a State or local governmental unit as part of an issue where— - (i) The aggregate authorized face amount of such issue (determined by aggregating the outstanding face amount of any prior exempt small issues described in [paragraph (d)](#d) of this section and the face amount of the issue of obligations in question) is $1 million or less; and - (ii) Substantially all of the proceeds of such issue is to be used for the acquisition, construction, reconstruction, or improvement of land or property of a character subject to the allowance for depreciation under [section 167](/cfr/26/167.md). Proceeds which are loaned to a borrower for use as working capital or to finance inventory are not used in the manner described in the preceding sentence. Whether substantially all of the proceeds of an issue of governmental obligations are used in such manner is determined consistently with the rules for exempt facilities in [§ 1.103-8(a)(1)(i)](/cfr/26/1.103-8.md?p=a-1-i). Any obligation which is an industrial development bond within the meaning of [section 103(b)(2)](/cfr/26/103.md?p=b-2) and which satisfies the $1 million small issue exemption requirements is an exempt small issue. See [paragraph (c)(1)](#c-1) of this section for the treatment of refunding issues of $1 million or less. - (2) **$10 million or less.** - (i) Under [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D), the issuing State or local governmental unit may elect to have an aggregate authorized face amount of $10 million or less, in lieu of the $1 million exemption otherwise provided for in [section 103(b)(6)(A)](/cfr/26/103.md?p=b-6-A), with respect to issues of obligations that are industrial development bonds (within the meaning of [section 103(b)(2)](/cfr/26/103.md?p=b-2)) issued after October 24, 1968. If the election is made in a timely manner, the bonds will be treated as obligations of a State or local governmental unit described in [section 103(a)(1)](/cfr/26/103.md?p=a-1) and [§ 1.103-1](/cfr/26/1.103-1.md) if the sum of— (a) The aggregate face amount of the issue including the aggregate outstanding face amount of any prior $1 million or $10 million exempt small issues taken into account under [section 103(b)(6)(B)](/cfr/26/103.md?p=b-6-B) and [paragraph (d)](#d) of this section, and (b) The aggregate amount of “[section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditures” (within the meaning of [paragraph (b)(2)(ii)](#b-2-ii) of this section), - (ii) **The term “section 103(b)(6)(D) capital expenditure” is defined in this subdivision.** Special rules for applying such definition in the case of certain expenditures paid or incurred by a State or local governmental unit are prescribed in subdivision (iii) of this subparagraph. Except as excluded by subdivision (iv) or (v) of this subparagraph, an expenditure (regardless of how paid, whether in cash, notes, or stock in a taxable or nontaxable transaction) is a [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditure if— (a) The capital expenditure was financed other than out of the proceeds of issues to the extent such issues are taken into account under paragraph (b)(2)(i)(a) of this section. (b) The capital expenditures were paid or incurred during the 6-year period which begins 3 years before the date of issuance of the issue in question and ends 3 years after such date, (c) The principal user of the facility in connection with which the property resulting from the capital expenditures is used and the principal user of the facility financed by the proceeds of the issue in question is the same person or are two or more related persons (as defined in [section 103(b)(6)(C)](/cfr/26/103.md?p=b-6-C) and [paragraph (e)](#e) of this section), (d) Both facilities referred to in (c) of this subdivision were (during the period described in (b) of this subdivision or a part thereof) located in the same incorporated municipality or in the same county outside of the incorporated municipalities in such county), and (e) The capital expenditures were properly chargeable to the capital account of any person or State or local governmental unit (whether or not such person is the principal user of the facility or a related person) determined, for this purpose, without regard to any rule of the Code which permits expenditures properly chargeable to capital account to be treated as current expenses. With respect to obligations issued on or after August 8, 1972, determinations under the preceding sentence shall be made by including any expenditure which may, under any rule or election under the Code, be treated as a capital expenditure (whether or not such expenditure is so treated). With respect to obligations issued on or after August 8, 1972, for purposes of this subparagraph, capital expenditures made with respect to a contiguous or integrated facility which is located on both sides of a border between two or more political jurisdictions are made with respect to a facility located in all such jurisdictions and, therefore, shall be treated as if they were made in each such political jurisdiction. - (iii) Amounts properly chargeable to capital account under subdivision (ii) (e) of this subparagraph include capital expenditures made by a State or local governmental unit with respect to an exempt facility or an industrial park, within the 6-year period described in subdivision (ii)(b) of this subparagraph, out of the proceeds of bond issues to which [section 103(b)(1)](/cfr/26/103.md?p=b-1) did not apply by reason of [section 103(b)](/cfr/26/103.md?p=b) (4) or (5) (relating to certain exempt activities and industrial parks). Thus, for example, the cost to the lessor of a leased plantsite financed out of the proceeds of an issue for an exempt air pollution control facility under [section 103(b)(4)(F)](/cfr/26/103.md?p=b-4-F) and [paragraph (g)](/cfr/26/1.103-8.md?p=g) of § 1.103-8 would constitute a [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditure. However, in the case of an industrial park, only the land costs allocated on an area basis to the plantsite and the actual cost of any improvements made on the plantsite, or to be used principally in connection with the actual plantsite occupied by a principal user or a related person, shall be taken into account as capital expenditures. Where the actual amount of capital expenditures made with respect to a facility by a person (including a State or local governmental unit) other than the user of such facility (or a related person) cannot be ascertained, the fair market value of the property with respect to which the capital expenditures were made, at the time of such capital expenditures, shall be deemed to be the amount of such capital expenditures. In the case of a transaction which is not in form a purchase but which is treated as a purchase for Federal income tax purposes, the purchase price for Federal income tax purposes shall constitute a capital expenditure. - (iv) A [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditure shall not include any “excluded expenditure” described in (a) through (e) of this subdivision (iv). (a) A capital expenditure is an excluded expenditure if either it is made by a public utility company which is not the principal user of the facility financed by the proceeds of the issue in question (or a related person) with respect to property of such company, or it is made by a State or local governmental unit with respect to property of such unit, and if in either case it meets all of the following three conditions: Such property of such company or unit (as the case may be) must be used to provide gas, water, sewage disposal services, electric energy, or telephone service. Such property must be installed in, or connected to, the facility but must not consist of property which is such an integral part of the facility that the cost of such property is ordinarily included as part of the acquisition, construction, or reconstruction cost of such facility. Such property must be of a type normally paid for by the user (or a related person) in the form of periodic fees based upon time or use. (b) A capital expenditure is an excluded expenditure if it is made by a person other than the user, a related person, or a State or local governmental unit and if it is made with respect to tangible personal property (within the meaning of [paragraph (c)](/cfr/26/1.48-1.md?p=c) of § 1.48-1), or intangible personal property, leased to the user (or a related person) of a facility. However, the preceding sentence shall apply only if such personal property is leased by the manufacturer of such tangible or intangible personal property, or by a person in the trade or business of leasing property the same as, or similar to, such personal property, and only if, pursuant to general business practice, property of such type is ordinarily the subject of a lease. (c) A capital expenditure is an excluded expenditure if it is made to replace property damaged or destroyed by fire, storm, or other casualty, to the extent that these expenditures do not exceed in dollar amount the fair market value (determined immediately before the casualty) of the property replaced. (d) A capital expenditure is an excluded expenditure if it is required by a change made after the date of issue in a Federal or State law, or a local ordinance which has general application, or if it is required by a change made after such date in rules and regulations of general application issued under such law or ordinance. (e) A capital expenditure is an excluded expenditure if it is required by or arises out of circumstances which could not reasonably be foreseen on the date of issue or which arise out of a mistake of law or fact. However, the aggregate dollar amount taken into account under this subdivision (e) with respect to any issue may not exceed $1 million. With respect to expenditures incurred prior to December 11, 1971, the dollar amount specified in the preceding sentence shall be $250,000. - (v) (a) If the assets of a corporation are acquired by another corporation in a transaction to which [section 381(a)](/cfr/26/381.md?p=a) (relating to carryovers in certain corporate acquisitions) applies, the exchange of consideration by the acquiring corporation for such assets is not a [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditure by such acquiring corporation. (b) However, if an exchange referred to in (a) of this subdivision occurs during the 6-year period beginning 3 years before the date of issuance of an issue of obligations and ending 3 years after such date, the transferor and transferee shall be treated as having been related persons for the portion of such 6-year period preceding the date of the exchange for purposes of determining whether [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditures have been made. For purposes of this subdivision (b), the date of an exchange to which [section 381](/cfr/26/381.md) applies shall be the date of distribution or transfer within the meaning of paragraph (b) of § 1.381(b)-1. (c) If [section 351(a)](/cfr/26/351.md?p=a) applies to a transfer of property to a corporation solely in exchange for its stock or securities, the issuance of such stock or securities in such exchange is not a [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditure by such corporation. (d) However, if such a transfer referred to in (c) of this subdivision occurs during the 6-year period beginning 3 years before the date of issuance of an issue of obligations and ending 3 years after such date, and if, with respect to the property transferred, expenditures made within such period would have been [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditures if the transferor and transferee had been related persons for such period, then such expenditures shall be considered to be [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditures made by the transferee. In addition, if a transferor and transferee are related persons immediately following such transfer, such transferor and transferee shall also be treated as having been related persons for the portion of such 6-year period preceding the date of such transfer. (e) For purposes of this subdivision (v), the term “issue of obligations” means an issue being tested for purposes of qualifying or continuing to qualify under an election pursuant to [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) as to which an amount which would be a [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditure solely by reason of (b) or (d) of this subdivision must be taken into account. (f) If with respect to an issue of obligations an expenditure would not have been a [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditure but for the application of (b) or (d) of this subdivision, and if such [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) capital expenditure has the effect of making taxable the interest on an issue of obligations which qualified for exemption under [section 103(b)(6)(A)](/cfr/26/103.md?p=b-6-A) and this paragraph, the loss of tax exemption for such interest shall begin not earlier than the date of such exchange or transfer referred to in this subdivision (v). - (vi) The issuer may make the election provided by [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D) and this [paragraph (b)(2)](#b-2) (assuming that the bonds otherwise qualify under [section 103(b)(6)](/cfr/26/103.md?p=b-6) by noting the election affirmatively at or before the time of issuance of the issue in question on its books or records with respect to the issue. The term “books or records” includes the bond resolution or other similar legislation for the issue in question as well as the bond transcript or other compilation of bond and bond-related documents. If the issuer fails to make an election at the time and in the manner prescribed in this [paragraph (b)(2)](#b-2), the issue will not be treated as described in [section 103(b)(6)(D)](/cfr/26/103.md?p=b-6-D), and interest thereon will be includible in gross income. - (c) **Refunding or refinancing issue exemption—** - (1) **$1 million or less refunding issue.** [Section 103(b)(6)(A)](/cfr/26/103.md?p=b-6-A) also provides that [section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to any debt obligation issued by a State or local governmental unit as part of an issue the aggregate authorized face amount of which is $1 million or less, if substantially all of the proceeds of such issue are to be used— - (i) To redeem part of all of a prior issue substantially all of the proceeds of which were used to acquire, construct, reconstruct, or improve land or property of a character subject to the allowance for depreciation, or - (ii) **To redeem part or all of a prior exempt small refunding issue.** - (2) **10 million or less refinancing issue.** [Section 103(b)(6)(H)](/cfr/26/103.md?p=b-6-H) provides that [section 103(b)(1)](/cfr/26/103.md?p=b-1) shall not apply to any debt obligation issued by a governmental unit as part of an issue which is $10 million or less if the condition of [section 103(b)(6)(H)](/cfr/26/103.md?p=b-6-H) is met and if substantially all of the proceeds are to be used— - (i) To redeem part or all of one or more prior exempt small issues, or - (ii) **To redeem part or all of one or more prior exempt small refunding issues.** - (d) **Certain prior issues taken into account—** - (1) **In general.** [Section 103(b)(6)(B)](/cfr/26/103.md?p=b-6-B) provides, in effect, that if (i) a prior issue specified in [subparagraph (2)](#d-2) of this paragraph is an exempt small issue (including for this purpose an exempt small refunding issue) under [section 103(b)(6)(A)](/cfr/26/103.md?p=b-6-A) and this section, and (ii) such prior issue is outstanding at the time of issuance of a subsequent issue, then in determining the aggregate face amount of such subsequent issue (for purposes of determining whether such issue is a $1 million or $10 million exempt small issue under [section 103(b)(6)(A)](/cfr/26/103.md?p=b-6-A) and this section) there shall be taken into account the outstanding face amount of such prior exempt small issue. For purposes of this paragraph, the outstanding face amount of a prior exempt small issue does not include the face amount of any obligation which is to be redeemed from the proceeds of such subsequent issue. - (2) **Prior issues specified.** The face amount of an outstanding prior exempt small issue is taken into account under [subparagraph (1)](#d-1) of this paragraph if— - (i) The proceeds of both the prior exempt small issue and of the subsequent issue (whether or not the State or local governmental unit issuing such obligation is the same unit for each such issue) are or will be used primarily with respect to facilities located or to be located in the same incorporated municipality or located or to be located in the same county outside of an incorporated municipality in such county (and, for purposes of this subdivision, on or after August 8, 1972, a contiguous or integrated facility which is located on both sides of a border between two or more political jurisdictions shall be treated as if it is entirely within each such political jurisdiction), and - (ii) The principal user of the financed facilities referred to in subdivision (i) of this subparagraph is or will be the same person or two or more related persons (as defined in [section 103(b)(6)(C)](/cfr/26/103.md?p=b-6-C) and [paragraph (e)](#e) of this section). - (3) **Rules of application.** The rules of this paragraph shall apply— - (i) Only in the case of outstanding prior exempt small issues which are industrial development bonds to which [section 103(b)(1)](/cfr/26/103.md?p=b-1) would have applied but for the provisions of [section 103(b)(6)](/cfr/26/103.md?p=b-6). Thus, for example, the provisions of this paragraph do not apply in respect of a prior issue of obligations issued on or before April 30, 1968. In addition, the provisions of this paragraph do not apply in respect of a prior issue for an exempt facility under [section 103(b)(4)](/cfr/26/103.md?p=b-4) and [§ 1.103-8](/cfr/26/1.103-8.md), or for an industrial park under [section 103(b)(5)](/cfr/26/103.md?p=b-5) and [§ 1.103-9](/cfr/26/1.103-9.md), whether or not the issue might also have qualified as an exempt small issue under [section 103(b)(6)(A)](/cfr/26/103.md?p=b-6-A) and this section. - (ii) **To all prior exempt small issues which meet the requirements of this paragraph.** Thus, for example, in determining the aggregate face amount of an issue under [section 103(b)(6)(A)](/cfr/26/103.md?p=b-6-A), the outstanding face amount of prior $1 million or $10 million exempt small issues which meet the requirements of this paragraph shall be taken into account in determining the aggregate face amount of a subsequent issue being tested for the $1 million small issue exemption. Similarly, in determining the aggregate face amount of an issue under section [103(b)(6)(A)](/cfr/26/103.md?p=b-6-A) and [(D)](/cfr/26/103.md?p=b-6-D), the outstanding face amount of prior $1 million or $10 million exempt small issues which meet the requirements of this paragraph shall be taken into account in determining the aggregate face amount of a subsequent issue being tested for the $10 million small issue exemption. - (e) **Related persons.** For purposes of [section 103(b)](/cfr/26/103.md?p=b) and [§§ 1.103-7 through 1.103-11](/cfr/26/1.103-7..1.103-11.md), the term “related person” means a person who is related to another person if, on the date of issue of an issue of obligations— - (1) The relationship between such persons would result in a disallowance of losses under [section 267](/cfr/26/267.md) (relating to disallowance of losses, etc., between related taxpayers) and [section 707(b)](/cfr/26/707.md?p=b) (relating to losses disallowed, etc., between partners and controlled partnerships) and the regulations thereunder, or - (2) Such persons are members of the same controlled group of corporations, as defined in [section 1563(a)](/cfr/26/1563.md?p=a), relating to definition of controlled group of corporations (except that “more than 50 percent” shall be substituted for “at least 80 percent” each place it appears in [section 1563(a)](/cfr/26/1563.md?p=a)) and the regulations thereunder. - (f) **Disqualification of certain small issues.** - (1) [Section 103(b)(6)](/cfr/26/103.md?p=b-6) shall not apply to any obligation issued after April 24, 1979, which is part of an issue, a significant portion of the proceeds of which are to be used directly or indirectly to provide residential real property for family units. For purposes of the preceding sentence, the term “residential real property for family units” means residential rental projects (within the meaning of [§ 1.103-8(b)](/cfr/26/1.103-8.md?p=b)) and owner-occupied residences (within the meaning of [section 103A](/cfr/26/103A.md)). - (2) For purposes of [paragraph (f)(1)](#f-1), a significant portion of the proceeds of an issue are used to provide residential real property for family units if 5 percent or more of the proceeds are so used. - (g) **Examples.** The application of the rules contained in [section 103(b)(6)](/cfr/26/103.md?p=b-6) and this section are illustrated by the following examples: # §1.103-11. Bonds held by substantial users. - (a) **In general.** [Section 103(c)](/cfr/26/103.md?p=c) (4), (5), or (6) (relating respectively to interest on bonds to finance certain exempt facilities, interest on bonds to finance industrial parks, and the exemption for certain small issues of industrial development bonds) does not apply, as provided in [section 103(c)(7)](/cfr/26/103.md?p=c-7), with respect to any obligation for any period during which such obligation is held either by a person who is a substantial user of the facilities with respect to which the proceeds of such obligation were used or by a related person (within the meaning of [section 103(c)(6)(C)](/cfr/26/103.md?p=c-6-C) and [paragraph (e)](/cfr/26/1.103-10.md?p=e) of § 1.103-10). Therefore, in such a case, interest paid on such an obligation is includable in the gross income of a substantial user (or related person) for any period during which such obligation is held by such user (or related person). - (b) **Substantial user.** In general, a substantial user of a facility includes any nonexempt person who regularly uses a part of such facility in his trade or business. However, unless a facility, or a part thereof, is constructed, reconstructed, or acquired specifically for a nonexempt person or persons, such a nonexempt person shall be considered to be a substantial user of a facility only if (1) the gross revenue derived by such user with respect to such facility is more than 5 percent of the total revenue derived by all users of such facility or (2) the amount of area of the facility occupied by such user is more than 5 percent of the entire usable area of the facility. Under certain facts and circumstances, where a nonexempt person has a contractual or preemptive right to the exclusive use of property or a portion of property, such person may be a substantial user of such property. A substantial user may also be a lessee or sublessee of all or any portion of the facility. A licensee or similar person may also be a substantial user where his use is regular and is not merely a casual, infrequent, or sporadic use of the facility. Absent special circumstances, individuals who are physically present on or in the facility as employees of a substantial user shall not be deemed to be substantial users. - (c) **Examples.** The application of [section 103(c)(7)](/cfr/26/103.md?p=c-7) and this section are illustrated by the following examples: