The Certificate of Participation is a financial document that is often employed when a municipal government or other government entity creates a bond issue. Rather than paying interest on the bonds or guaranteeing a face value at the end of the project, the investor receives a return based on the lease revenues associated with the offering. Making use of this process can work very well for the municipality, since it will free the issuer from restrictions on the amount of debt that can be incurred during the course of the project.
For many cities and towns, the Certificate of Participation approach to a bond issue will follow a simple formula. A bond issue is created in order to fund the construction of some sort of capital facility that is within the city limits. Rather than owning the facility outright during the period of construction, the city essentially leases the facility during the construction period and makes installment payments toward the lease. When the payment schedule is completed, the municipality assumes ownership of the completed facility.
For the investor, the Certificate of Participation represents proof of involvement in the bond issue. Purchasing a share of the lease revenues can be an attractive alternative to the more traditional bond for a couple of reasons. Payments are made to the investor for the duration of the project, based on the percentage of share that the investor has in the lease agreement. This means that the investor does not necessarily have to wait for a bond to mature before he or she begins to receive a return on the investment. Of course, payments specified by the terms of the Certificate of Participation can be deferred until later in the project, if the investor prefers to receive larger payments at less frequent intervals.
In the unlikely event that the municipality defaults on the arrangement, the terms of a Certificate of Participation provide investors with the ability to assume control of the facility. Once the default is complete and the transfer of title is in the hands of the investors, they are free to do with the asset as they see fit. This includes the ability to either complete the facility and sell it to a private investor, or choose to band together and use the completed structure for purposes of their own.
