"Self-Funded" IPAs Coming in 2008
"Leveraged" IPAs Coming Later

An installment purchase agreement (IPA) is a contract between MARBIDCO and the Maryland Ag Land Preservation Foundation (MALPF) and the easement seller to pay the principal unpaid at settlement as a balloon payment at the end of the term of the agreement and to pay the seller tax-exempt interest on the unpaid principal during the period of the agreement. These contracts are long term, from a minimum of 10 or 15 years, but more typically are 25 to 30 years from time of settlement until the balloon payment at the end of the agreement.

The two elements of an agreement are the interest installment payments and the payment of the principal. Typically, the payment of the principal at the end of the agreement is funded by investment in long-term stripped-coupon or zero-coupon U.S. Treasury obligations (zeros) where the amount of the principal is secured at a discount contingent on the length of the obligation. The longer the term of the zero, the deeper the discount. Taken out to 25 or 30 years, the principal payment can be funded with an investment in zeros of 20 to 30 cents on the dollar. Taking the term out only 15 years would require an investment in zeros of approximately 60 cents on the dollar. The obligation to pay interest on the principal during the period of the agreement is typically met by pledging a percentage of future revenues to pay the installments.

On the side of the seller, an IPA can be attractive because of the tax-advantaged nature of the transaction.

1. The seller is able to defer capital gains taxes until the payment of the principal, and;

2. The seller receives a tax-exempt income stream during the term of the agreement. It can also be attractive because the seller may realize more from such a sale than from an easement sale paid in a lump sum at closing or from the current installment payments option, which provides less of a tax advantage.

On the side of the purchaser, a well-conceived IPA has three potential advantages:

1. Purchasing easements using IPA creates the potential for the purchaser to buy more easements upfront for the same amount of funds (or the same for less money) and service the IPAs by pledging future revenues. In effect, it allows the purchaser the possibility of leveraging funds to buy easements upfront in return for the commitment of future revenues (or taking on debt). The longer the agreement, the greater the leveraging potential based on the greater discount in purchasing zeros.

2. Purchasing easements with IPAs may allow MALPF to purchase easements on property at current prices when those properties are still undeveloped rather than purchase them later at higher prices or lose them to development forever. (A fundamental problem in strategic land preservation is how to keep from losing critical land to development over the time period necessary to secure the funds to purchase easements on that land.)

3. Because offering an IPA option could increase participation by landowners otherwise not interested in selling easements (particularly those landowners most affected by capital gains issues), more competition for offers could lead to greater discounting on the part of sellers seeking an offer. As a result, the purchaser would be able to buy more easement acreage with the same funds.

While IPA installments are typically funded by pledging future revenues and the payment of the principal at the end of the agreement is typically funded by investing in zeros, IPA installments and balloon payments can be funded in other ways, sometimes with an impact on the potential benefits. For example, installment payments could be funded by investing in an interest paying bond. Or the balloon payment could be funded from future revenues. It is possible with a long-enough time frame to an IPA to fund it from the amount of the original easement offer by a combination of zeros and interest-bearing investments (bonds), but such IPAs obviate the benefit of leveraging for the purchaser and can lead to somewhat less attractive interest rates to sellers. Such a self-funded IPA option is the basis for the IPA program in Carroll County. The ability to develop a successful self-funded IPA program depends upon the time frame of the IPA – the longer the time frame, the more likely a self-funded IPA program will succeed.

(A “self-funded” IPA means that the IPA is funded strictly by the offer amount. In other words, no funds are pledged from future revenues or indebtedness, but from the amount of the original offer. The offer amount would normally be invested in a combination of interest-bearing bonds and zero-coupon bonds (or even just interest-bearing bonds) to cover both the installment payments and the payment of the principal at the end of the agreement. Such an IPA program obviates leveraging because the purchaser is not committing future revenues to today’s purchases.)