Unless you’re enjoying an extended President’s Day vacation this week, there’s a good chance you’ve already read Rick Moriarty’s fantastic piece from last weekend’s Syracuse Post-Standard about the latest hurdle facing the developer (Robert Congel) of the star-crossed Destiny USA mega-mall project in Syracuse, New York. If that project sounds familiar to you, it’s because we’ve written about it at GRELJ previously; as you may recall, in November of 2009, the Appellate Division for the Fourth Department here in New York upheld (in a split 3-2 decision) the Onondaga County Supreme Court’s decision that Destiny was entitled to a preliminary injunction requiring its construction lender, Citigroup, to continue funding Destiny’s construction loan. (Destiny USA Holdings, LLC v. Citigroup Global Markets Realty Corp., 889 N.Y.S.2d 793 (App. Div., 4th Dep’t 2009)).
However, it is the federal “green bonds,” which the Appellate Division specifically identified as so “unique” and “revolutionary” that money damages alone would not be sufficient to compensate Destiny if the injunction were denied, that find themselves as the stars of this chapter of the Destiny saga. The American Jobs Creation Act of 2004 authorized up to $2 billion of green bonds that state or local governments could issue for certain qualified green building projects. (See 26 U.S.C. 142(l)). The Destiny project received $228 million in green bond proceeds, which investors purchased at a lower, tax-free interest rate, effectively giving Destiny a $120 million subsidy over the 30-year term of the bonds. (Interestingly, the USGBC purchased $50,000 in bonds in 2007 “in a gesture of support for the program,” according to Moriarty. The bonds were insured by XL Capital and rated AAA.).
Proposed as a 4.5 million-square-foot, LEED Platinum-certified entertainment destination, Destiny USA was to be constructed as a three-phase expansion of Syracuse’s existing Carousel Center and include 1,300 hotel rooms, an indoor aquarium, a water park, an indoor recreation of the Erie Canal, a stadium and performing arts center, three golf courses, a 100-acre glass-enclosed indoor park, and a 20-acre artificial lake; green features were to include a 45-megawatt biofuel plant and 290,000 square feet of solar panels. At the time, Citi, which underwote the bonds, said that “[t]he financing of the Destiny project using these new Green Bonds is groundbreaking and represents a step forward in addressing climate change in the U.S. because this project incorporates sustainable design, energy conservation and renewable energy sources on a large scale.”
Now, though, after construction stopped before phase one was even completed, Destiny’s tax-exempt financing is in jeopardy. As part of the basic eligibility requirements for the green bonds, Destiny was required to “demonstrate and provide written assurances” in its application to the IRS for the exemption that it would allocate the tax-exempt financing for financing the purchase, construction, integration, or other use of energy efficiency, renewable energy and sustainable design features of the project. As construction has stalled, most of Destiny’s promised green features – including its LEED certification – have failed to materialize. With respect to green building and sustainable design, the IRS explained in Notice 2005-48 that:
[a]t least 75 percent of the square footage of commercial buildings that are part of the project [must be] registered for United States Green Building Council’s LEED certification and [must be] reasonably expected by the applicant (at the time of the designation) to receive such certification, based on all the facts and circumstances, including statements of the United States Green Building Council, opinions of independent experts in green building and sustainable design, and relevant experience of the project developer. The application must include: (1) LEED Letter Templates indicating which LEED credits the applicant plans to pursue and the applicant’s planned approach to pursuing such credits; (2) documentation demonstrating the applicant’s plans to design and construct LEED-certified, sustainably-designed buildings, including, where applicable, architectural plans, drawings and specifications, policy statements, contracts, leases and other applicable documents, and other related applicable information; (3) information on how plans to build LEED-certified, sustainably-designed buildings will be implemented through the management structure, for example, by placing LEED-accredited professional(s) and other experienced green building professionals in positions of authority over the project to ensure that the applicant’s green building plans are realized; (4) information on any plans to attract broader expertise and perspectives to the project that could support the effort to achieve LEED certification through such means as green building design charettes or consultation with additional green building experts; and (5) information on financial incentives and penalties that will be included in the design, construction, engineering and other building contracts and subcontracts to tie a part of the contractors’ and subcontractors’ compensation to their level of success in designing and constructing LEED-certified, sustainably-designed buildings.
Note, however, that there is no requirement that actual, formal certification be achieved; a point that Destiny’s attorneys have made to the IRS in a letter that was sent to the agency last week by the Syracuse Industrial Development Agency (through which the bonds were issued). SIDA wrote the letter because Destiny is facing an end-of-month deadline to provide a compliance report through SIDA (a required submission under the Act, 4 years after issue of the bonds) describing whether it has met – or anticipates meeting – the commitments it made to green building practices in its application for the exemption. Destiny’s letter also argues that the project – when complete – will still satisfy the spirit of the Act, even if its final composition is different than what the developer initially contemplated, and that the developer “remains deeply committed to sustainability and renewable energy goals.”
Regardless of what action – if any – the IRS takes upon receipt of the letter, it is obligated by the Act next year (5 years after issue of the bonds) to determine – after consulting with EPA – whether the project has “substantially complied” with the Act. If not, at that point in time, Destiny would forfeit $2.3 million being held in a Treasury reserve account, and the bonds could lose their tax-exempt status; Destiny would pay a higher interest rate on the bonds to pay the taxes on the interest earned by the investors who purchased the bonds. Note that the IRS has the ability to extend the 5-year period for up to 2 more years before making the “substantial compliance” determination.
The fallout if Destiny loses its tax-exempt status would read very much like a law school hypothetical. Complicating matters further is that there are – at least as far as I can tell – no Treasury Regulations or other IRS rulings interpreting or applying the Act as it relates to the loss of tax-exempt financing for green bonds – not surprising given that the program was created specifically for Destiny and three other large-scale, brownfield remediation demonstration projects across the country. Indeed, Moriarty notes that Senators Clinton and Schumer “helped to insert the [green bonds] program into [the Act] . . . and [it] was specifically written to favor Destiny USA and three projects in other states” (Colorado, Georgia, and Connecticut). Accordingly, whether the Section 142(l) issues confronting Destiny will have any broad-based applicability for other types of similar financing arrangements remains to be seen.
More generally speaking, Destiny’s woes remind me very much of those that have plagued the Xanadu project in the New Jersey Meadowlands. Similarly conceived for, and commenced during, a much different economic climate, the project stalled, changed hands several times, and after some political wrangling appears close to getting back on track. Given the political clout behind the Destiny project, lack of any precedential Treasury Regulations, and the somewhat improving lending climate, it seems premature to assume that Destiny is slated to become a white elephant. That’s not to say what’s happening right now in Syracuse isn’t troubling from a policy perspective, or an indictment of how the language in the Act providing for the green bonds program was crafted, but I do think it remains to be seen what the ultimate legacy of these financing issues will be from a green legal perspective.
Nevertheless, there is no doubt that a messy situation is brewing in Syracuse; we’re looking forward to Mr. Moriarty’s continued excellent coverage on the project and we’ll be following it closely in the weeks and months ahead.