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A photo Naguib Sawiris (of Orascom) taken with Kim Jong-il in North Korea

By Trent Thevenot

Last Tuesday we began a series devoted to the possible building of a fertilizer plant in Southeastern Iowa by Orascom. The name of the new corporation is Iowa Fertilizer Company which is looking at possible build sites in Lee County, Iowa, Peoria County, Illinois (with Illinois Senate passing final day tax credits, or expanding their Hurricane Ike damaged facility in Beaumont, Texas. Another interesting note that deserves to be added to this ongoing investigation is that Iowa Fertilizer Company was incorporated in Delaware where Orascom found a number of additional tax loopholes to latch onto.

A detailed explanation of MDA bonds and how they benefit Orascom, otherwise known as OCI, and how taxpayers will be the big losers in this venture.

The Federal Politics

The MDA bond program was created in response to the 2008 storms and floods that hit the Midwest. The program was part of the Heartland Disaster Tax Relief Act of 2008. Congress’ objective was to provide a mechanism for companies to get lower interest rates if they need to borrow money to rebuild. Congress was not lending the money, just providing incentives for lower interest rates from lenders.

In all, congress allowed a maximum of $14.4 billion to be borrowed through this program. Congress specified particular amounts to each of several states affected by the floods. To assure their intent was met, Congress required that businesses using the bonds (1) had been impacted by the floods and (2) had existed in a county declared a disaster area.

How the Bonds save Orascom (OCI) money and ‘cost’ the Federal Government and you the Taxpayer

Congress was not authorizing the federal government to loan or give money to the companies rebuilding after the floods. Congress was forgoing money that would come to the federal government via income taxes paid on interest from the borrowing.

Typical bonds sold by companies involve IRS income tax. Companies that borrow money through bond sales agree to pay interest to the bond buyers–the lenders. The interest lenders receive is taxable as income. If a bank or individual lends money through regular bonds, the interest payments received is taxable income. What Congress did through the MDA bonds was say that lenders who buy this specific type of bond will not have to pay income taxes on the interest.

If lenders receive, for example, $1 million in interest from MDA bonds, it is tax exempt. By contrast, in the case of regular corporate bonds that are taxable, lenders receiving interest are prepared to hand approximately 30% to the IRS. So, their truer profit from lending the money is no longer $1 million; it’s $700,000.

Continuing this example, Orascom has the option of selling regular bonds that require their lenders to pay 30 percent of the interest to the IRS, or Orascom can use MDA bonds that require their lenders to pay nothing to the IRS. Orascom is not impacted by this situation; it’s their lenders who pay the income tax. At this point in the example, Orascom has no incentive to use the MDA bonds.

Lenders would prefer to pay no federal income tax. So they offer Orascom lower interest rates if Orascom will go through the MDA process. It’s a way to share the tax savings with Orascom, which is what Congress anticipated. Congress knew that non-taxable bonds, bring lower interest rates to the borrowers. So instead of expecting $1 million in interest, the lenders lower the interest rates so that they receive, for example, $800,000 in interest payments from Orascom. That gets Orascom to borrow through the MDA program.

Orascom comes out ahead because they pay out less money in interest. The lenders come out ahead because they keep all the interest money; they don’t have to pay federal income tax on the interest. The loser is the federal treasury (you the taxpayer) because nobody pays income tax on the interest. The $300,000 that should have gone into the federal treasury is kept by the lenders and by Orascom.

Again, this is a simplified example. The true situation depends largely on Orascom’s credit rating. However, the Iowa Finance Authority and the Iowa Policy Project each have a model [*1].

The Iowa Policy Project (in the attached MDA Orascom Fertilizer Plant Bond Analysis Excel spreadsheet) predicted extremely conservatively that if Orascom used the MDA bonds to borrow $1.2 billion (instead of regular corporate bonds) the company would save the equivalent of being written a check today for $85 million. By plugging in the Iowa Finance Authority’s assumptions [*2], the savings for Orascom would be more like receiving a check today for $280 million.

The difference in the two estimates is caused by several factors that are unknown at this time. The Iowa Finance Authority assumed that MDA bond users would borrow for 20 years and would have a BB credit rating or higher. Their interest rates would be between 8.5%-9.5% with typical bonds and 6%-7% with MDA bonds. The IFA example expects that companies would pay approximately 25% less in interest over the life of the bonds. (The IPP assumed only a 15% discount and a better credit rating, which is why the two models differ.)

The 25% discount is consistent with a presentation by Bradley and Riley PC [*3], a law firm with offices in Iowa. The firm and other sources state that non-taxable bonds bring interest rates that are 25%-30% lower than if the same company with the same credit rating uses taxable bonds. By this account, even the IFA savings prediction of $280 is conservative.

Corporate Welfare—Orascom’s likely take from the Federal Government and you the taxpayer

In order to understand the full impact on the Federal Treasury and you the Federal Taxpayer, one must determine what Orascom’s interest payments would generate in federal income tax without using the MDA bonds. That tax would be paid by the lenders.

The company plans to borrow $1.2 billion. The Iowa Finance Authority predicted that the average company participating in the MDA program would pay between 8.5% and 9.5% if they were not participating. The law firm of Bradley and Riley PC predicted 7%. We will use 8%. [*1 & *3]

Plugging that 8% rate into a spreadsheet provided by the Iowa Policy Project, Orascom would pay approximately $1.25 billion in interest payments for 20-year bonds. If Orascom finances the project with 30-year, taxable bonds, the interest payments would amount to $2 billion. Being conservative, we’ll take the lower number.

In a typical (non-MDA) situation, Orascom’s expected interest payments of $1.25 billion would be taxable as income by the federal government.

Most of the lenders for these government and quasi-government bonds are in higher tax brackets. First, few lower income entities have money to invest. Second, tax professionals with the backing of simple equations discourage people in lower tax brackets from investing in these type bonds. Consequently, most of the entities lending their money to these companies are in the tax brackets of 28%, 33% and 35% [*4 ].

Again, we’ll be conservative and use the 28% tax bracket.

If Orascom paid $1.25 billion in interest, and its lenders paid 28 percent of that in income tax, the federal government would receive $336 million over 20 years.

Where is that money going? This is not money that the federal government is spending; it’s money that the federal government—currently running a huge deficit (See: US National Debt Clock)—is not receiving. Most of it would be staying in the pockets of Orascom’s lenders. The rest, approximately 25% of it ($84 million,) will be kept by the Egyptian company’s owners. The majority of them belong to the Sawiris Family, the wealthiest family in Egypt.

Figuring out the per-job expense to American Taxpayers

As with all our assumptions, we will be conservative on this. We will take the benefits that Orascom is expected to receive and divide them by the jobs they plan to create. Both sides of the equation will be estimates, conservative ones, giving the benefit of the doubt to Orascom (OCI).

We know from the conservative analysis above that Orascom will save by using the MDA bonds. The savings—determined by two models offered from the Iowa Policy Project and the Iowa Finance Authority—amount to between $85 million and $280 million. A third source noted above expects the savings to be even greater. For our sake, we will assume that Orascom will save $200 million through the MDA bonds.

On top of that, Orascom will be receiving more than $32 million in job credits and a forgivable loan from Iowa. This figure comes from the Public Interest Institute’s “Should Government Pick Winners?“ [*5] That brings Orascom’s bottom-line benefit to $232 million.

Details of economic incentives, like the following, were carefully laid out in the Public Interest Institute’s piece on this issue,

Orascom is taking advantage of every economic development incentive they can wrangle out of the state of Iowa and local governments. This includes $1.6 million in forgivable and low-interest loans from the state, almost $1.2 billion in federal loans through the 2008 flood-relief money, $2 million for road and rail improvements, and various local government incentives. [*6]

 

The local government incentives are yet to be determined since Lee County officials and Orascom are continuing their negotiations.

On the other side of the equation is what Orasom is bringing, or how the public is benefiting from this project. The only items we know that fit this description are the jobs. Orascom claims that it will create 1,500 to 2,000 temporary construction jobs and 165 full-time jobs at the plant. We have not included future property tax as a benefit because the company and Lee County are currently working on an agreement for tax increment financing on local property taxes. [*7]

If we give Orascom the benefit of the doubt, we would come up with 2,165 jobs that the company is creating. We would not subtract those likely to be filled by current Orascom employees who will move from Texas. Nor would we subtract the number of jobs likely to be filled by residents of Illinois and Missouri, two nearby states (who are strong components of this tri-states region) that will benefit even though they are not offering Orascom any incentives.

We would divide the amount of benefits that Orascom is receiving and divide by what they are giving ($232 million / 2165 jobs). The result is $107,000 per job. Again, that is very conservative. For every job that Orascom is creating, the company is benefiting by $107,000.

If we remove 25 percent of the permanent jobs due to the positions that will be filled by people who are not Iowa residents, the figure become ($232 million / 2124 jobs) $109,000 per job.

If we use the Iowa Finance Authority’s estimate of interest savings for Orascom, the figure becomes ($312 million / 2124 jobs) $146,000 per job.

If we remove the construction jobs since none are permanent and many will be filled by non-Iowa companies with many non-Iowa employees, the figure becomes ($312 million / 124 jobs) $2.5 million per permanent job.

The Worst news of all

On top of all this data, there is some text to deal with. It says that Orascom doesn’t qualify for this bond program.

The bond program was put together by Congress to help companies that suffered from flooding in 2008 while situated in counties that were declared disaster areas. Orascom didn’t have a plant in Iowa in 2008: It could not have suffered from the 2008 floods that hit Lee County. The county was declared a disaster area, but the land where the company wants to build was not flooded in 2008.

The reason that Orascom is getting to take advantage of the bonds is because of a decision by the IRS in 2009 [*8]. That decision allows state governors to choose practically any private project for these bonds. Restrictions Congress originally applied were lifted.

The deadline however still applies. The bond program ends on January 1, 2013. Orascom will have a hard time finding $1.2 billion available to borrow, and likely will get approval from the Iowa Finance Authority for portions as the company finds lenders. Because of the deadline, Congressman Dave Loebsack (D-IA) has asked the House Ways and Means Committee to extend the deadline. He specifically notes Orascom. [*9]. The committee has not taken up his request…yet.

Detailed Cliff Notes:

[*1] http://www.iowaeconomicdevelopment.com/jumpstart/downloads/MDA-Bonds_2-24-2010_FINAL.pdf , page 33

[*2] http://www.brownwinick.com/downloads/MDA_Bonds_-_2-24-2010_-_FINAL.ppt, screens 31-33

[*3] http://bradleyriley.com/newsletters/Midwest-Disaster-area-bonds-detailed/, page 9

[*4] http://bradstreettaxblog.com/?p=243

[*5] http://www.limitedgovernment.org/brief19-16.html

[*6] Reprinted by permission from INSTITUTE BRIEF, a publication of Public Interest Institute.” The views expressed in this publication are those of the author and not necessarily those of Public Interest Institute. They are brought to you in the interest of a better-informed citizenry.

[*7] http://www.dailydem.com/articles/2012/02/20/news/news1.txt

[*8] http://www.irs.gov/pub/irs-drop/n-10-10.pdf

[*9] http://kilj.com/2012/05/news/loebsack-calls-for-extension-of-program-to-ensure-continued-iowa-job-creation/

Note: Throughout this story, and our investigation into it, we found and used sources from both the left and right sides of the political aisle to show this story isn’t about a party, it’s about the common sense differences of understanding what is right and what is truly wrong.

H/T James R., Andrea, and the many others for your continued help in investigating the many threads to this story.

Related Articles:

http://www.teapartytribune.com/2012/06/22/wealthiest-egyptian-company-using-millions-of-taxpayer-money-to-build-fertilizer-plant-in-iowa-mississippi-river-flood-zone/