What Is a Certificate of Participation in Financing?

By Indeed Editorial Team

Published 11 July 2022

The Indeed Editorial Team comprises a diverse and talented team of writers, researchers and subject matter experts equipped with Indeed's data and insights to deliver useful tips to help guide your career journey.

Government agencies use many avenues to fund their projects, including certificates of participation, stocks and bonds. Using a certificate of participation, or COP, is a common financing method in transportation and similar areas. Learning about this financial process can help you decide if the company for which you work might benefit from this method of financing. In this article, we discuss what certificates of participation are and share essential details about their benefits and the process of obtaining them.

What is a certificate of participation?

A certificate of participation is a type of financing that investors can purchase using the revenue that leasing certain equipment or facilities might generate. Rather than using bonds or loans, investors earn money by gaining revenue through the lease of these facilities. Government facilities often issue these to gain additional revenue on the use of leased property.

To understand what a certificate of participation is, it's important to learn about lease financing. With this type of financing, a government agency signs a lease-financing agreement where it makes payments for the use of property or equipment. With the certificate of participation, investors can pay to help with improvements or replacements of the leased property and receive payment in return for revenue earned. There are three key terms to note with lease financing:

  • Lessor: The lessor is the third-party entity that leases out the equipment or property. They often receive the payments for this property when the agency makes payments, along with the percentage that goes to the investor.

  • Asset: The asset is the piece of property or equipment necessary for a project. This can be an entire facility, such as a transit station, or the machinery or supplies needed to build new components.

  • Security: A security is a tradeable asset that investors use to represent a financial amount. The two most common securities that help fund projects are equity and debt.

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Qualified projects for certificates of participation

Only certain projects qualify for certificates of participation. For example, common uses include rail or roadway projects. Government agencies can use the funding received from investors to improve railways through leased equipment, such as new tracks or steel. On roadways, this type of funding might include automated toll collection sites.

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Benefits of certificates of participation

Before pursuing financing options, it can be helpful to look at stocks, bonds and other financing options to see which ones might benefit your business the most. There are several key benefits of using COPs to help fund projects for both investors and agencies:

  • Limited long-term debt: Unlike loans or bonds, COPs aren't long-term debt commitments. Though agencies can receive financing, they may make payments through revenue rather than back payments directly from agencies.

  • Quick financing: Agencies often receive financing much more quickly through COPs. While there are often statutory requirements and voter rules for bonds and other financing options, you can frequently get COPs directly through investors and trustees.

  • Tax exemption: One major reason why people might pursue COPs is because of their tax exemption status. Rather than paying taxes on bonds or other financing options, this may lessen the tax amount an agency or investor pays.

  • Less liquidity: COPs can help agencies raise funds from other financial institutions to minimise the amount of liquidity in the investment. This might involve the sharing of credit assets or other finances with financial institutions.

How do certificates of participation affect taxation?

Certificates of participation are non-taxable, meaning trustees issue these certificates where investors can receive payments. These payments are a percentage of the interest that investors receive from the revenue generated. For example, if the project is for new automated toll booths, investors can receive a portion of the proceeds from that revenue. In this instance, the lessor passes lease payments to a trustee, who then distributes these to anyone with this type of certificate.

Certificate of participation process

Depending on the type of project and the assets and parties involved, the steps to obtaining a COP might vary for each agency. In general, these are the common steps in the process of issuing COPs to complete certain projects:

1. An agency decides on a new project

An agency first decides to begin a new project before receiving financing from it. This requires the agency to gather cost estimates and project the amount of revenue it might earn. As this is a common financing method in transportation, a railway organisation might use it if it's going to build new train stations along a route.

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2. The agency receives leased assets

Once the requirements are clear, the agency receives the assets. This might be property or equipment needed to complete the project. A transit company often contracts these leased assets at a rate that can cover any costs required to pay investors or bondholders. If the agency receives government grants, it can reallocate these funds to expedite the completion of a programme.

3. The agency makes payments to the investors

Once the project is underway or complete, a trustee often oversees the payments to investors. These can include revenue from the project or money from grants or other income the company receives. As these organisations pay interest on the leased equipment or property, this is often the primary source of income the investors receive.

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FAQs about certificates of participation

Many components of certificates of participation vary, depending on official guidelines. Still, there are common areas to learn about with this financing option. Here are the answers to some frequently asked questions about certificates of participation:

Do these certificates require voter approval?

Generally, they don't. Bonds or other financing methods commonly do require voter approval. Hence, COPs can be quicker to obtain as this isn't a requirement. Other long-term debt projects also have similar requirements like constitutional limitations.

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Is underwriting required for COPs?

Yes, these certificates require underwriting. Typically, agencies hire underwriters to ensure both parties agree to the proper payments and terms. This often requires a financial institution or professional to design contracts or agreements before a project begins.

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What are the other financing options?

There are several other ways agencies may finance their projects:

  • Stocks: Investors can become partial owners of various projects by buying stocks. These might appeal to investors who think the value of a project or investment might increase over time.

  • Bonds: Bonds are fixed amounts of money that agencies can use to borrow money from investors. With this method, the agency regularly repays the investor a certain amount until they receive the amount in full.

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When might you consider a government bond?

A government bond is a security that agencies receive to fund new projects. These are often government-sponsored projects, like new expressways or facilities that government agencies oversee. Government bonds are tax-exempt and may be good options for people hoping to fund projects quickly and securely.

What is COP debt?

COP debt is the debt incurred by issuing these certificates. This means that agencies record this debt as part of the revenue they plan to distribute to investors. With this, the agencies can increase the amount they raise to finance different projects depending on the amounts.

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How frequently do investors receive payments?

The frequency of payments can vary depending on the agreement. These typically align with the lease payments, as investors receive a percentage of this. Often, these might be monthly payments as agencies pay the lessors for the property or equipment.

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