U.S. Treasury Securities-State and Local Government Series, 37904-37917 [05-12868]

Agencies

• Fiscal Service
• DEPARTMENT OF THE TREASURY

[Federal Register Volume 70, Number 125 (Thursday, June 30, 2005)]
[Rules and Regulations]
[Pages 37904-37917]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 05-12868]



[[Page 37903]]

-----------------------------------------------------------------------

Part II





Department of the Treasury





-----------------------------------------------------------------------



Fiscal Service



-----------------------------------------------------------------------



31 CFR Part 344



U.S. Treasury Securities--State and Local Government Series; Final Rule



Demand Deposit Securities of the State and Local Government Series 
(SLGS); Average Marginal Tax Rate and Treasury Administrative Cost; 
Notice

Federal Register / Vol. 70, No. 125 / Thursday, June 30, 2005 / Rules 
and Regulations

[[Page 37904]]


-----------------------------------------------------------------------

DEPARTMENT OF THE TREASURY

Fiscal Service

31 CFR Part 344

[Department of the Treasury Circular, Public Debt Series No. 3-72]


U.S. Treasury Securities--State and Local Government Series

AGENCY: Bureau of the Public Debt, Fiscal Service, Treasury.

ACTION: Final rule.

-----------------------------------------------------------------------

SUMMARY: The Department of the Treasury (Treasury) is issuing this 
final rule to revise the regulations governing State and Local 
Government Series (SLGS) securities. SLGS securities are non-marketable 
Treasury securities that are only available for purchase by issuers of 
tax-exempt securities. The changes in the final rule prohibit issuers 
of tax-exempt securities from engaging in certain practices that in 
effect use the SLGS program as a cost-free option. The final rule also 
makes other changes that are designed to improve the administration of 
the SLGS program.

DATES: This final rule is effective August 15, 2005.

FOR FURTHER INFORMATION CONTACT: Keith Rake, Deputy Assistant 
Commissioner, Office of the Assistant Commissioner for Public Debt 
Accounting, Bureau of the Public Debt, 200 3rd St., P.O. Box 396, 
Parkersburg, WV 26106-0396, (304) 480-5101 (not a toll-free number), or 
by e-mail at <opda-sib@bpd.treas.gov or Edward Gronseth, 
Deputy Chief Counsel, Elizabeth Spears, Senior Attorney, or Brian Metz, 
Attorney-Adviser, Office of the Chief Counsel, Bureau of the Public 
Debt, Department of the Treasury, P.O. Box 1328, Parkersburg, WV 26106-
1328, (304) 480-8692 (not a toll-free number).

SUPPLEMENTARY INFORMATION: 

I. Overview of Rulemaking

    On September 30, 2004, Treasury published a notice of proposed 
rulemaking (NPRM) with request for comments (69 FR 58756, September 30, 
2004), proposing changes to the regulations governing U.S. Treasury 
securities of the State and Local Government Series (SLGS). Treasury 
intended those changes to address certain practices of investors in 
SLGS securities that Treasury considered to be an inappropriate use of 
the SLGS securities program. The comment period was extended to 
November 16, 2004 (69 FR 62229, October 25, 2004). Treasury received 20 
comments by the end of the comment period. After careful consideration 
of the comments, Treasury is now issuing a final rule that will be 
effective on August 15, 2005.
    In the NPRM, Treasury proposed three main changes to the SLGS 
program: that it would be impermissible to invest an amount received 
from the redemption before maturity of a SLGS Time Deposit security at 
a higher yield, or to use an amount received from the sale of a 
marketable security to purchase a SLGS security at a higher yield; that 
subscriptions for purchase of SLGS securities, once submitted, could 
not be canceled; and that investors in SLGS securities would be 
required to use the SLGSafe service, Treasury's Internet site for SLGS 
securities transactions.
    In the final rule, Treasury is adopting these proposed changes, but 
has made some modifications in response to the concerns raised in the 
comments. In addition, Treasury is changing how the SLGS rates are set. 
Currently, the SLGS rates are 5 basis points below the current Treasury 
borrowing rates, as shown in the daily SLGS rate table. In the final 
rule, SLGS securities rates are defined as 1 basis point below current 
Treasury borrowing rates, as released daily by Treasury in the SLGS 
rate table.
    The following discussion provides background on the rulemaking, 
including a more detailed explanation of the specific proposals, 
addresses most of the comments on those proposals, and describes the 
changes in the final rule.

II. Background

    SLGS securities are a type of non-marketable Treasury security that 
is available for purchase by state and local governments and other 
issuers of tax-exempt bonds. SLGS securities have been issued by 
Treasury since 1972. The purpose of the SLGS program is to assist state 
and local government issuers in complying with yield restriction and 
rebate requirements applicable to tax-exempt bonds under the Internal 
Revenue Code.
    Generally, the arbitrage requirements under the Internal Revenue 
Code provide that with certain exceptions, the proceeds of a tax-exempt 
bond may not be invested at a yield that is materially higher than the 
yield on the bond. In the limited circumstances in which bond proceeds 
may be invested above the bond yield, the bond issuer generally is 
required to rebate to the Federal Government any earnings in excess of 
the bond yield.
    SLGS securities may only be purchased with eligible funds. 
Purchasers of SLGS Time Deposit securities that bear interest may 
generally select any maturity period from 30 days to 40 years, and any 
interest rate that does not exceed the applicable SLGS rate for that 
maturity published in the daily SLGS rate table. Since 1996, the 
maximum SLGS rates have been set at the current Treasury borrowing rate 
less 5 basis points. Purchasers of SLGS securities have the flexibility 
to structure the securities with specified payment dates and yields.
    In 1996, Treasury revised the regulations governing SLGS securities 
to eliminate certain requirements that had been introduced at various 
times since 1972, and to make the program a more flexible and 
competitive investment vehicle for issuers (61 FR 55690, October 28, 
1996). Under the 1996 regulations, Treasury also made a change to 
permit issuers to subscribe for SLGS securities and subsequently cancel 
the subscription, without a penalty, under certain circumstances.
    In 1997, Treasury amended the regulations to prohibit the use of 
the SLGS program to create a cost-free option in certain circumstances 
(62 FR 46444, September 3, 1997). Treasury stated that it was 
inappropriate to use the SLGS securities program as an option and 
provided examples of unacceptable practices. These practices included, 
among others, subscribing for SLGS securities for an advance refunding 
escrow and simultaneously purchasing marketable securities for the same 
escrow, with the plan that the marketable securities would be sold if 
interest rates declined or the SLGS subscription would be canceled if 
interest rates did not decline.
    In the proposed rule published on September 30, 2004 at 69 FR 
58756, we indicated that we had become aware of several other practices 
involving SLGS securities that are also inappropriate uses of the 
securities and contrary to the purpose of the program. A number of 
regulatory changes were proposed to address these practices and other 
miscellaneous items.
    One type of practice the NPRM addressed involves the redemption 
before maturity or sale of securities to reinvest at a higher yield. 
The ``current Treasury borrowing rates'' and corresponding SLGS rates 
are set once a day, whereas market interest rates may change throughout 
the day. In addition, although the SLGS rate table is released at 10:00 
a.m. each day, SLGS rates have been set based on a Treasury yield curve 
determined the previous day. Some market participants have noted that 
the combination of a constant Treasury borrowing rate and fluctuating 
market interest rates creates arbitrage opportunities. SLGS investors 
have

[[Page 37905]]

utilized these arbitrage opportunities by redeeming SLGS securities 
before maturity and investing the redemption proceeds in higher-
yielding SLGS or marketable securities, and by selling marketable 
securities and investing the sale proceeds in higher-yielding SLGS 
securities.
    Another type of practice the NPRM addressed, involves the 
cancellation of subscriptions for the purchase of SLGS securities. A 
purchaser of SLGS securities may submit a subscription for purchase up 
to 60 days before the issue date. The subscriber locks in an interest 
rate based on the daily SLGS rate table on the day the subscription for 
purchase is submitted. If interest rates rise, subscribers often cancel 
their subscriptions in accordance with the current regulations and re-
subscribe at a higher yield.
    The NPRM and this final rule address these and other practices that 
provide to SLGS investors cost-free options or arbitrage opportunities 
that are not available in marketable securities. These practices impose 
substantial costs on the Federal Government. The changes in this final 
rule will make investments in SLGS securities more closely resemble 
investment opportunities available in Treasury marketable securities.

III. Proposals, Comments, and Final Rule

    As noted above, by the close of the comment period, Treasury had 
received 20 comment letters on the NPRM. Commenters included state and 
local issuers, industry associations, financial advisors, and bond 
counsel. In general, most commenters disagreed with Treasury's 
proposals to limit the yield on reinvestments and to prohibit 
cancellation of subscriptions for purchase. A number of commenters made 
suggestions for modification of those requirements. Some commenters 
expressed approval of Treasury's proposal to require the use of the 
SLGSafe[supreg] Service (``SLGSafe''). Most of the comments are 
described in more detail below.

A. Proposals to Address Sale/Redemption Before Maturity and 
Reinvestment and Related Practices

    The current regulations do not prohibit the redemption before 
maturity of SLGS securities for the purpose of reinvestment at a higher 
yield. In the NPRM, Treasury stated that it had concluded that the 
practice of requesting redemption of SLGS securities before maturity to 
take advantage of relatively infrequent SLGS pricing was an 
inappropriate use of SLGS securities. Even if undertaken to eliminate 
negative arbitrage (where bond proceeds have been invested at a yield 
that is less than the yield on the issuer's bond), Treasury considered 
the practice to be a cost-free option and inconsistent with the purpose 
of the program. Treasury stated that there is a direct cost to Treasury 
because Treasury is not being compensated for the value of the option; 
that the practice results in volatility in Treasury's cash balances and 
increases the difficulty of cash balance forecasting and thereby 
increases Treasury's borrowing costs; and that there are administrative 
costs. These same concerns apply to transactions in which an issuer 
sells marketable securities to acquire higher-yielding SLGS securities.
    To eliminate these practices, the NPRM proposed several changes. 
First, the NPRM proposed several changes referred to below as ``yield 
restrictions.'' Second, the NPRM proposed reducing the number of hours 
during which subscriptions and certain other transactions could be 
received in SLGSafe. Third, Treasury indicated that it planned to 
implement a non-regulatory change to make the rates specified in the 
daily SLGS rate table more current. Fourth, the NPRM proposed a new 
provision making it impermissible to purchase a SLGS security with a 
maturity longer than is reasonably necessary to accomplish a 
governmental purpose of the issuer.
1. Yield Restrictions
    The proposed rule stated that for SLGS securities subscribed for on 
or after the date of publication of the final rule, it would be 
impermissible to invest any amount received from the redemption before 
maturity of a SLGS Time Deposit security at a yield that exceeds the 
yield used to determine the amount of redemption proceeds for such Time 
Deposit security. It would also be impermissible to purchase a SLGS 
security with any amount received from the sale or redemption (at the 
option of the holder) before maturity of any marketable security, if 
the yield on such SLGS security being purchased exceeds the yield at 
which such marketable security is sold or redeemed.
    In addition, upon starting a subscription for a SLGS security, a 
subscriber would be required to certify that (A) if the issuer is 
purchasing a SLGS security with the proceeds of the sale or redemption 
(at the option of the holder) before maturity of any marketable 
security, the yield on such SLGS security does not exceed the yield at 
which such marketable security was sold or redeemed; and (B) if the 
issuer is purchasing a SLGS security with proceeds of the redemption 
before maturity of a Time Deposit security, the yield on the SLGS 
security being purchased does not exceed the yield used to determine 
the amount of redemption proceeds for such redeemed security. Upon 
submission of a request for redemption before maturity of a Time 
Deposit security subscribed for on or after the date of publication of 
the final rule, the issuer would be required to certify that no amount 
received from the redemption would be invested at a yield that exceeds 
the yield used to determine the amount of redemption proceeds for such 
Time Deposit security. Treasury also proposed a definition of ``yield'' 
that would apply to the certifications and would require that, in 
comparing the yield of a SLGS security to the yield of a marketable 
debt instrument, the yield of the marketable debt instrument would be 
computed using the same compounding intervals and financial conventions 
used to compute interest on the SLGS security.
    The majority of the commenters addressed this proposal. Thirteen 
commenters suggested that the proposed yield restrictions were 
unnecessary, given the other changes. One comment, for example, stated 
that municipalities should be able to redeem SLGS securities for the 
mitigation of negative arbitrage. The commenters also stated that the 
yield restriction provisions would have the unintended consequence of 
making the SLGS program less attractive for issuers. Several commenters 
expressed concerns that the proposed changes would prevent issuers from 
restructuring escrows.
    One commenter asked for clarification of the prohibition on the 
sale of marketable securities to purchase higher-yielding SLGS 
securities and suggested that it is a common practice for issuers to 
liquidate sinking fund and debt service reserve fund investments for 
refunded bonds for use in a refunding escrow, a practice that is 
recognized in the current Income Tax Regulations. Another commenter 
noted that 26 CFR 1.148-5(d)(6)(iii) provides a safe harbor for the 
purchase of open market securities for a yield-restricted investment 
only if the lowest cost bona fide bid is not greater than the cost of 
the most efficient portfolio comprised exclusively of SLGS securities 
at the time bids are received. This commenter stated that the interplay 
between the SLGS regulations and the safe harbor bidding rules could, 
under certain market conditions, force an issuer to invest in SLGS 
securities with negative arbitrage with no prospect of being able

[[Page 37906]]

to recoup any of the negative arbitrage (as a result of the yield 
restrictions on redemption of the SLGS securities before maturity).
    In addition to these general concerns, several commenters offered 
suggestions for specific modifications to the yield restriction 
proposals. Four commenters suggested that the yield restrictions on 
reinvestment should expire after the original maturity date of the 
investment that is sold or redeemed before maturity. Some commenters 
proposed excluding zero interest Time Deposit securities from the yield 
restriction provisions. Two commenters also suggested substituting the 
definition of ``yield'' in 26 CFR 1.148-5 for the definition proposed 
in the NPRM. Treasury also received comments that certain provisions, 
including the provisions on yield certifications, should have a delayed 
effective date to allow subscribers time to adjust their practices and 
systems.
    After consideration of these comments, Treasury has decided to 
retain the NPRM provisions on yield restrictions and corresponding 
certifications, with some modifications. In Treasury's view, these 
restrictions are necessary to curb the use of the SLGS program as a 
cost-free option. Other alternatives do not achieve this goal or may be 
unworkable for other reasons.
    The final rule does not provide that the yield restrictions expire 
after the original maturity date of the investment that is sold or 
redeemed. Such an approach could be difficult to administer in the case 
of multiple sales or redemptions and re-investments, and in some cases 
could be overly-restrictive. However, the final rule contains two new 
examples that clarify that if amounts received from the sale or 
redemption of an investment (the first investment) are invested in a 
second investment with a maturity date that precedes the maturity date 
of the first investment, and the investor holds the second investment 
to maturity, then the yield restrictions expire at the maturity of the 
second investment if the other requirements of the final rule are met 
(including the requirement that the SLGS program not be used to create 
a cost-free option). Thus, an issuer that invests tax-exempt bond 
proceeds in SLGS securities that produce negative arbitrage is not 
precluded from subsequently investing those proceeds in higher-yielding 
marketable securities (for example, marketable securities that have a 
lower credit rating than Treasury securities) if the requirements of 
the final rule are met.
    In addition, the final rule does not preclude issuers from 
restructuring escrows, provided that the yield restrictions are met. 
Under the final rule, marketable securities in a sinking fund or debt 
service reserve fund for refunded bonds are subject to the same yield 
restrictions that apply to other marketable securities.
    The final rule also specifically excludes zero interest Time 
Deposit securities from the yield certification provisions in Sec.  
344.2(e)(2)(i)(B) and (e)(2)(ii) and the yield restrictions in the 
impermissible practice provision in Sec.  344.2(f). Thus, under the 
final rule, the yield restriction provisions will not apply to amounts 
received from the redemption of zero interest Time Deposit securities.
    In response to comments about the definition of yield, the final 
regulations incorporate the definition of ``yield'' in 26 CFR 1.148-5.
    As noted above, given the number of changes that the final rule 
encompasses, Treasury has decided to make the final rule effective on 
August 15, 2005. This delayed effective date is intended to provide 
investors with sufficient time to review the final rule and make any 
necessary adjustments to their systems or processes.
2. SLGSafe Hours
    Under the current rule, the SLGSafe service is available for most 
transactions from 8 a.m., Eastern time until 10 p.m., Eastern time. 
(Subscribers currently may submit subscriptions by facsimile at any 
time.) The NPRM proposed that SLGSafe subscriptions, requests for early 
redemption of Time Deposit securities, and requests for redemption of 
Demand Deposit securities would only be received from 10 a.m. to 6 
p.m., Eastern time on business days. This proposal, combined with the 
proposal to make SLGSafe mandatory, shortened the window during which 
transactions could be effected.
    Treasury received 12 comments expressing concern that the reduction 
in hours would not allow enough time for subscribers to complete their 
verification processes. Some commenters also indicated that West coast 
issuers would be at some disadvantage with narrower trading hours.
    In response to these concerns, Treasury has revised Sec.  344.3(g) 
of the final rule to extend the amount of time in which the SLGSafe 
window will be open. All SLGSafe subscriptions, requests for early 
redemption of Time Deposit securities, and requests for redemption of 
Demand Deposit securities must be received on business days no earlier 
than 10 a.m. and no later than 10 p.m., Eastern time.
    3. SLGS Rates More Current
    Under the current rule, the SLGS rate table is released to the 
public by 10 a.m., Eastern time, each business day. Treasury did not 
propose any change to this rule but indicated in the NPRM that it 
intended to make the rates specified in the daily SLGS rate table more 
current.
    Although most commenters did not disagree with the administrative 
proposal to make the SLGS rates more current, several commenters 
suggested that such a change was sufficient to address Treasury's 
concerns in the rulemaking and that other proposed changes were 
therefore unnecessary. These commenters suggested that the 
establishment of more current SLGS rates would minimize opportunities 
to take advantage of differences between SLGS rates and market rates. 
However, the potential to take advantage of these differences will 
still exist even after the administrative change to make SLGS rates 
more current is effected, because SLGS rates will be held constant for 
twelve hours, from 10 a.m. to 10 p.m., Eastern time. Therefore, the 
administrative change will not address these issues entirely.
4. Maturity Longer Than Necessary
    The NPRM proposed a new provision making it impermissible to 
purchase a SLGS security with a maturity longer than is reasonably 
necessary to accomplish a governmental purpose of the issuer. Treasury 
received 2 comments stating that the provision was vague or would be 
difficult to administer.
    The NPRM was intended to address a practice where an issuer, 
apparently acting on the basis of its view on the direction of interest 
rates, would purchase a SLGS security with a maturity much longer than 
necessary for its governmental purpose, and then redeem the security 
before maturity. After further consideration, we have deleted this 
provision from the final rule, particularly in light of the risk to the 
issuer of purchasing a SLGS security with a maturity longer than 
reasonably necessary to accomplish a governmental purpose.
    B. Proposals To Address Cancellations of SLGS Securities 
Subscriptions and Related Practices
    Under the current rule, SLGS investors may subscribe for SLGS 
securities up to 60 days in advance of the issue date and lock in the 
SLGS rate on the subscription date. Subscriptions may be canceled, up 
to 5 or 7 days prior to issuance (depending on the amount involved), 
without penalty.

[[Page 37907]]

    In the NPRM, Treasury noted that a large volume of cancellations of 
SLGS subscriptions had been submitted for the apparent purpose of re-
subscribing at a higher yield. Treasury also noted that issuers had 
also submitted multiple initial subscriptions for a single issue date 
and had later canceled some of those subscriptions, apparently because 
of reductions in the size of advance refunding transactions due to 
changes in market conditions. Other investors had subscribed for SLGS 
securities, later canceling the subscription or amending the size when 
rates moved favorably or unfavorably. In other cases, subscriptions 
were canceled because agents had subscribed for SLGS securities even 
though the issuer had not authorized the issuance of tax-exempt bonds.
    Currently, nearly half of all SLGS subscriptions are canceled. 
Between October 1, 2003, and September 30, 2004, 48 percent of the 
14,317 subscriptions were canceled; the dollar volume of cancellations 
was $309 billion. This compares to about $160 billion in total SLGS 
securities outstanding. (By way of comparison as to volume, the federal 
deficit in fiscal year 2004 was $413 billion.)
    The NPRM proposed several changes to address cancellations. First, 
cancellations would be prohibited unless the subscriber established, to 
the satisfaction of Treasury, that the cancellation was required for 
reasons unrelated to the use of the SLGS program to create a cost-free 
option. Second, for all subscriptions submitted for SLGS securities on 
or after the date of publication of the final rule, a change in the 
aggregate principal amount originally specified in the subscription 
could not exceed ten percent. Third, the NPRM proposed that once an 
issuer selects an issue date for SLGS securities, it cannot be changed. 
Fourth, the NPRM proposed that a subscriber be required to certify, 
upon starting a SLGS subscription, that the issuer has authorized the 
issuance of the state or local bonds. The subscriber would also be 
required to enter a description of the tax-exempt bond issue in 
SLGSafe.
1. Prohibition on Cancellations
    Treasury received 15 comments addressing the proposed prohibition 
on cancellations. All of these comments disagreed with this change and 
most expressed a desire to retain some form of the current cancellation 
option, even if more limited than under the current provisions.
    Treasury received comments to the effect that an implicit option is 
an incentive for investment in SLGS securities, and that issuers will 
be forced to purchase marketable securities. The commenters pointed out 
that this is a potentially undesirable outcome for Treasury because 
Treasury has an interest in preventing yield-burning and other 
unacceptable practices involving marketable securities. In other words, 
if investors are not encouraged to use the SLGS program, the IRS may be 
required to devote additional resources to compliance and enforcement.
    Treasury also received comments suggesting that the SLGS program 
reduces Treasury's borrowing costs by virtue of the 5 basis point 
differential that exists between SLGS rates and Treasury borrowing 
rates. One commenter estimated that Treasury's cost savings from the 
SLGS program was about $80 million per year, based on current rates and 
SLGS outstanding. The commenter stated that eliminating the 
cancellation option might reduce SLGS program participation and impact 
that cost savings.
    The commenters also suggested a variety of alternatives to the 
prohibition on cancellations, including allowing cancellations up to a 
maximum dollar amount and prohibiting multiple subscriptions for the 
same bond issue; limiting the number of cancellations that can be 
submitted with respect to a given bond issue; allowing the use of the 
highest of the daily SLGS rates within a specified number of days; and 
providing for one or a certain number of allowable cancellations. In 
addition, one comment asked for clarification as to how issuers would 
satisfy the requirement that a cancellation is not related to the use 
of the program to create a cost-free option.
    After consideration of these comments, Treasury remains concerned 
that the current option to cancel a subscription imposes substantial 
costs on Treasury and U.S. taxpayers. These costs include not only the 
costs of the option and administrative costs, but also the costs to 
Treasury as an issuer of marketable securities.
    In Fiscal Year 2004, Treasury held 215 auctions of marketable 
Treasury securities and issued $4.6 trillion in securities. Because of 
the size of its issuance, Treasury accomplishes its goal of financing 
government borrowing needs at the lowest cost over time by issuing debt 
in a regular and predictable pattern. Treasury seeks to minimize 
uncertainty about the supply of a security being issued. Uncertainty in 
supply causes bidders in Treasury auctions to demand a risk premium, 
which Treasury pays in the form of higher interest rates on the 
securities it issues. Given the size of Treasury's issuance of 
marketable Treasury securities, even small risk premiums can create 
large additional interest costs. For this reason, volatility in cash 
balances is undesirable. Cancellations of SLGS subscriptions increase 
cash balance volatility, which has an adverse impact on the certainty 
of the supply of marketable securities, and which in turn results in 
increased borrowing costs for marketable securities.
    We note that the submission of subscriptions on or shortly before 
the subscription deadline (5 or 7 days before the issue date) results 
in Treasury having the same notice of subscriptions as it currently 
does for cancellations. However, the impact of an unexpected increase 
in cash balances from SLGS subscriptions that settle within five to 
seven days is significantly less than the impact of unexpected 
cancellations, particularly since the cancellations are rate sensitive 
and tend to come in clusters when rates move dramatically over a short 
period of time. In the case of unexpected cancellations, additional 
unexpected marketable securities have to be issued to make up for the 
decline in expected SLGS securities. This additional issuance generally 
increases Treasury's borrowing costs.
    With respect to the 5 basis point differential between SLGS rates 
and Treasury borrowing rates, that is only one portion of the entire 
cost structure that must be considered in evaluating the potential 
impact of the cancellation option on the SLGS program. Other costs 
include the option costs, the impact on marketable borrowing, and 
administrative costs.
    The 5 basis point differential does not represent an option price. 
As Treasury stated in the 1997 revision to the regulations, the prices 
established by Treasury for the SLGS securities do not include the cost 
of an option (62 FR 46444, September 3, 1997). Prior to 1996, the 
differential was 12.5 basis points. As the costs of administering the 
program have decreased, Treasury has decreased the amount of the 
differential. In 1996, it was reduced to 5 basis points. As noted 
above, in the final rule, Treasury is reducing the basis point 
differential to 1 basis point below current Treasury borrowing rates. 
This change reflects increased efficiencies in the program, primarily 
through the use of SLGSafe, and will make SLGS investments more closely 
resemble marketable securities. Treasury is making a comparable change 
reducing the amount of Treasury's administrative costs for 
administering demand deposit SLGS securities in a Federal Register

[[Page 37908]]

notice that will be published before the effective date of this final 
rule.
    Concerning the various suggestions in the comments for alternatives 
to the prohibition on cancellations, Treasury has considered these 
alternatives, but has concluded that even a limited use of the option 
can have significant adverse effects on cash balances and cash balance 
forecasts. This is because, as explained above, large numbers of SLGS 
investors often tend to use the option at the same time, in reaction to 
interest rate movements. Treasury has also examined the possibility of 
pricing the option and has determined that establishing a pricing 
structure would not be feasible.
    For all of the above reasons, Treasury is adopting the proposed 
rule prohibiting cancellations. The final rule provides that a 
subscriber cannot cancel unless it is established, to the satisfaction 
of Treasury, that the cancellation is required for reasons unrelated to 
the use of the SLGS program to create a cost-free option.
2. Changing Principal Amounts
    Under the current rule, a subscriber may change the aggregate 
principal amount specified in the initial subscription up to $10 
million or ten percent, whichever is greater. The NPRM proposed that 
subscribers could only change the principal amount by 10 percent above 
or below the amount originally specified.
    Treasury received 10 comments disagreeing with the proposed change. 
Many commenters indicated they did not understand the reason Treasury 
was considering this change. Many commenters also expressed concern 
that on the subscription date, issuers can estimate, but may not be 
able to precisely identify, the exact dollar amount of the SLGS 
securities needed to fund a transaction. Some commenters also suggested 
that the proposed rule would disproportionately and adversely impact 
the activities of smaller issuers, who typically issue small amounts.
    After careful consideration of these comments, Treasury has decided 
to adopt the size amendment provision set forth in the proposed rule. 
The proposal was intended to preclude a practice by some investors who 
used the dollar amount limits on amendment of subscriptions to 
structure option transactions designed to capitalize on interest rate 
movements during the subscription period. In addition, by limiting the 
amount of possible change of subscriptions to 10 percent of the 
principal, Treasury is able to ensure that its cash balance forecasting 
will not be adversely impacted by more than a certain, predetermined 
percentage. Furthermore, a set dollar amount limit, as opposed to a 
percentage limit, would leave open the possibility for subscribers to 
break up their subscriptions into multiple smaller subscriptions in 
order to avoid the cap on changes to the aggregate principal amount.
3. Issue Date Changes
    Under the current rule, investors are allowed to amend a Time 
Deposit subscription by extending the issue date up to seven days after 
the issue date originally specified. Investors are asked to notify 
Treasury by 3:00 p.m., Eastern time, one business day before the 
original issue date of any changes. The proposed rule would no longer 
permit a change to the issue date.
    Treasury received 15 comments disagreeing with this change. 
Commenters were concerned about having a 6-month penalty imposed upon 
them for not taking delivery on the issue date and pointed out that the 
issue date must sometimes be delayed due to circumstances beyond their 
control.
    The final rule permits a change to the issue date up to seven days 
after the original issue date if it is established to the satisfaction 
of Treasury that the change is required as a result of circumstances 
that were unforeseen at the time of the subscription and are beyond the 
issuer's control (for example, a natural disaster).
4. Mandatory Certification That Municipal Bonds Have Been Authorized
    The NPRM proposed a new requirement that a subscriber certify, upon 
starting a SLGS subscription, that the issuer had authorized the 
issuance of the state or local bonds. Treasury received 2 comments in 
favor of this proposal and 2 comments disagreeing with this proposal. 
Some commenters suggested that the term ``authorization'' has different 
meanings in various jurisdictions and that applying the term uniformly 
across the jurisdictions was problematic.
    Because Treasury has retained in the final rule the provision 
prohibiting cancellations of subscriptions, we have determined that 
this certification is unnecessary. We are therefore eliminating it from 
the final rule. Treasury is adopting the requirement proposed in the 
NPRM that issuers briefly describe the underlying bond transaction when 
beginning a subscription in SLGSafe.

C. Administrative Changes

    In the NPRM, Treasury also noted that it had reviewed other aspects 
of the SLGS program and proposed several changes to better administer 
the program.
1. Pricing Longer-Dated SLGS Securities
    Under the current rule, SLGS rates are determined based upon the 
current Treasury borrowing rate. Because the current Treasury borrowing 
rate is based on the prevailing market rate for a Treasury security 
with the specified period to maturity and SLGS securities are offered 
for terms in excess of the currently issued Treasury securities, 
Treasury examined whether it needed to alter the manner in which it 
sets the SLGS rate for these longer-dated securities.
    In the proposed rule, Treasury proposed broadening the definition 
of ``current Treasury borrowing rate'' to allow Treasury to use 
suitable proxies and/or a different rate-setting methodology where SLGS 
rates are needed for maturities which are not currently being issued by 
Treasury. Two comments were received on this change, both of which 
supported Treasury's proposal. In the final rule, Treasury is adopting 
the provision for pricing longer-dated SLGS securities as it was set 
forth in the NPRM. We contemplate no changes in methodology at this 
time.
2. Notices of Redemption
    In the current rule, a notice of redemption must be received by 
Treasury no less than 10 days and no more than 60 days before the 
requested redemption date. In the proposed rule, Treasury proposed 
changing the 10-day advance notice requirement for early redemption of 
Time Deposit securities to a 14-day advance notice requirement. 
Treasury received one comment, which agreed that a 14-day notice period 
is beneficial for Treasury. In the final rule, Treasury adopts the 
provision as it was set forth in the NPRM.
    The existing rule prohibits cancellation of redemption notices. The 
proposed rule made no change to that provision. Treasury received one 
comment suggesting that cancellation of redemption notices should be 
allowed, provided sufficient notice is given to Treasury. This 
suggestion, if adopted, would create a cost-free option. Accordingly, 
we have made no changes to the final rule in this regard.
    Furthermore, Treasury is also clarifying Sec.  344.6(c) to 
explicitly provide that Treasury will not accept a request for early 
redemption for a security that has not yet been issued.
3. Mandating SLGSafe Transactions
    Under the current rule, subscribers are able to submit their 
subscriptions to

[[Page 37909]]

Treasury either via SLGSafe or through the use of paper forms that are 
either faxed or mailed in. The proposed rule stated that the use of the 
SLGSafe service would be mandatory as of the effective date of the 
final rule.
    Treasury received 5 favorable comments agreeing that use of the 
SLGSafe service should be mandatory and that it will improve efficiency 
in the SLGS program. One comment characterized this change as 
constructive and workable; another said that it would streamline 
operations and would not impair local governments' access to the 
program. Another current SLGSafe user commented that it is convenient 
and easy to use. Treasury also received 5 comments inquiring about 
SLGSafe implementation, which are described below.
    Two comments stated that owners of SLGS securities issued before 
the effective date of the final rule should be allowed to administer 
these securities via fax or mail. By introducing SLGSafe, Treasury 
fulfilled the requirement under the Government Paperwork Elimination 
Act, Sec. 1701-1710, Pub. L. 105-277, 112 Stat. 2681-749 to 2681-751 
(44 U.S.C. 3504 note) that executive agencies provide for the option of 
electronic submissions instead of paper. We note that SLGS securities 
may be issued for periods of up to 40 years. To allow all current 
owners of outstanding SLGS securities to continue to use fax and mail 
instead of SLGSafe for those securities could prevent full 
implementation of the SLGSafe program for up to 40 years.
    One comment expressed a concern that certain technical issues must 
be addressed before making SLGSafe mandatory. Although the exact nature 
of the access issues was not identified, we note that BPD has 
successfully enrolled 1,100 current users of SLGSafe. Any specific 
access issues should be addressed directly to BPD.
    Another comment stated that there should be a ``good cause'' 
exception that allows users to perform transactions via fax or mail 
when a valid reason for the exception exists. One comment stated that 
individual users and one-time agents should not be required to use the 
SLGSafe service. The NPRM and the final rule contemplate in Sec.  
344.3(f)(3) that Treasury will permit SLGS program users to submit fax 
and mail transactions if you establish that good cause exists for not 
using SLGSafe. However, given the ease of becoming a SLGSafe user, we 
do not anticipate granting waivers based on a user's status as a small 
firm or infrequent subscriber.
    One comment stated that SLGSafe should not become mandatory for at 
least 180 days so that users can learn how the SLGSafe service 
operates. Because the SLGSafe service was introduced in 2000, we do not 
believe that a delayed implementation date of 180 days is necessary (65 
FR 55399, September 13, 2000). Moreover, in the NPRM, we encouraged 
subscribers to seek SLGSafe access as soon as possible (69 FR 58756, 
September 30, 2004). Treasury therefore adopts the provision of the 
proposed rule that makes SLGSafe mandatory. However, in order to 
mitigate any access concerns, SLGSafe will not become mandatory until 
August 15, 2005. We encourage potential users to contact BPD about any 
access or training difficulties as soon as possible so that they can be 
addressed before the effective date.
4. Miscellaneous Changes
    Eligible source of funds for purchasing SLGS securities. Under the 
current rule, SLGS securities are offered for sale to provide issuers 
of tax-exempt securities with investments from any amounts that (1) 
constitute gross proceeds of an issue (within the meaning of 26 CFR 
1.148-1) or (2) assist in complying with applicable provisions of the 
Internal Revenue Code relating to the tax exemption. In the NPRM, 
Treasury proposed deleting the language relating to amounts that assist 
in complying with applicable provisions of the Internal Revenue Code 
relating to the tax exemption because this language proved to be 
difficult to administer. Treasury received 13 comments stating that the 
permissible sources of funds allowable to purchase SLGS securities 
should not be altered or should be amended to accommodate certain 
transactions. The comments noted, for example, that certain amounts 
that are not ``gross proceeds'' at the time of subscription may be 
characterized as gross proceeds at a later time, and that certain funds 
may not be gross proceeds at all times as a result of the ``universal 
cap'' on the maximum amount treated as gross proceeds under 26 CFR 
1.148-6(b)(2). In response to these comments, the final regulations 
provide that issuers may purchase SLGS securities using any of the 
following ``eligible sources of funds'': (1) Any amounts that 
constitute gross proceeds of a tax-exempt bond issue or are reasonably 
expected to become gross proceeds of a tax-exempt bond issue; (2) any 
amounts that formerly were gross proceeds of a tax-exempt bond issue, 
but no longer are treated as gross proceeds of such issue as a result 
of the operation of the universal cap on the maximum amount treated as 
gross proceeds under 26 CFR 1.148-6(b)(2); (3) amounts held or to be 
held together with gross proceeds of one or more tax-exempt bond issues 
in a refunding escrow, defeasance escrow, parity debt service reserve 
fund, or commingled fund (as defined in 26 CFR 1.148-1(b)); (4) 
proceeds of a taxable bond issue that refunds a tax-exempt bond issue 
or is refunded by a tax-exempt bond issue; or (5) any other amounts 
that are subject to yield limitations under the rules applicable to 
tax-exempt bonds under the Internal Revenue Code.
    Definition of Issuer. Only issuers of tax-exempt securities are 
eligible to purchase SLGS securities. Under the current rule, an issuer 
is defined as the Governmental body that issues state or local 
government bonds described in section 103 of the Internal Revenue Code. 
The NPRM did not propose any alteration to this definition. However, 
one commenter raised a concern that a nonprofit entity that issues 
bonds on behalf of a state or local government in compliance with 
Revenue Ruling 63-20, 1963-1 C.B. 24, and Revenue Procedure 82-26, 
1982-1 C.B. 476, might not qualify as an ``issuer.'' In response to 
this comment, Treasury is amending the definition of ``issuer'' in the 
final rule to mean the Government body or other entity that issues 
state or local government bonds described in section 103 of the 
Internal Revenue Code. Thus, under the final rule, an ``issuer'' 
includes not only a state or local government that issues tax-exempt 
bonds, but also an entity that issues tax-exempt bonds on behalf of a 
state or local government.
    Debt Limit. Although the NPRM did not address debt limit issues, 
several commenters suggested that Treasury should provide advance 
notice before suspending the issuance of SLGS securities during a 
period when Treasury determines that the issuance of obligations 
sufficient to conduct the orderly financing operations of the United 
States cannot be made without exceeding the statutory debt limit. While 
Treasury notes these concerns, and appreciates the difficulties issuers 
may face in these circumstances, Treasury must retain the flexibility 
that the current rules provide to deal with the various issues that 
arise during periods when sales are suspended because of debt limit 
constraints. Accordingly, we have made no change to the final rule in 
this regard. If feasible under the circumstances, however, we will 
attempt to provide SLGS purchasers with advance notice of a suspension 
in sales.
    Subscriptions for Zero-Interest SLGS Securities. The current 
regulations provide that an issue date cannot be

[[Page 37910]]

more than 60 days after the date that the subscription is received. Two 
commenters suggested that subscribers be permitted to submit 
subscriptions for zero-interest SLGS securities more than 60 days 
before the issue date. These commenters indicated that such a change 
would assist in tax compliance because issuers' agents would be able to 
avoid an inadvertent failure to invest, at some future date, the 
proceeds of maturing securities in an escrow in zero-interest SLGS 
securities. This suggestion is beyond the scope of this rulemaking, but 
Treasury is studying this matter.
    Sanctions for Erroneous Certifications. The existing rule requires 
an agent of the issuer to certify that it is acting under the issuer's 
specific authorization when subscribing for SLGS securities. The 
proposed rule made no change to this provision, but required other 
certifications discussed above.
    One commenter raised a concern that the proposed rule was not clear 
on whether an agent would be subject to sanctions for improper 
certifications. The concern is that subscribers for SLGS securities, 
who frequently are escrow agents operating under the authority of 
issuers, may be required to make the certifications.
    The final rule clarifies that under Sec.  344.2(m)(4), Treasury 
reserves the right to declare either a subscriber or issuer ineligible 
to subscribe for securities under the offering if deemed to be in the 
public interest and a security is issued on the basis of an improper 
certification or other misrepresentation (other than as the result of 
an inadvertent error).
    The final rule also clarifies the language of the certification in 
Sec.  344.2(e)(1) to cover an agent's performance related to other 
transactions in addition to the submission of subscriptions on the 
issuer's behalf.
    Significance of Rule. In the preamble to the proposed rule, 
Treasury stated that the rulemaking is not a significant regulatory 
action under Executive Order 12866, dated September 30, 1993, and is 
not a major rule under 5 U.S.C. 804. Treasury received several comments 
disagreeing with these conclusions. The rulemaking is not a significant 
regulatory action or major rule because the SLGS program is a voluntary 
program to assist state and local government issuers in complying with 
yield restriction and rebate requirements applicable to tax-exempt 
securities under the Internal Revenue Code. The SLGS rule sets the 
terms and conditions for the SLGS program.
    Treasury received no comments on the other proposed changes 
affecting Sec. Sec.  344.0(b), 344.2(d), 344.2(h)(2), 344.2(i), 
344.2(m), 344.3(d), 344.3(f), 344.3(g), 344.4(a), 344.5, 344.6(a), 
344.6(c), 344.6(f), 344.7(a), 344.9(a), 344.9(c), and 344.11. Treasury 
is implementing all of these administrative revisions as they appeared 
in the NPRM.

IV. Procedural Requirements

A. Executive Order 12866

    This final rule is not a significant regulatory action for purposes 
of Executive Order 12866, dated September 30, 1993.

B. Regulatory Flexibility Act

    This final rule relates to matters of public contract and 
procedures for United States securities. Therefore, under 5 U.S.C. 
553(a)(2), the notice and public procedure requirements of the 
Administrative Procedure Act are inapplicable. Because a notice of 
proposed rulemaking is not required, the provisions of the Regulatory 
Flexibility Act, 5 U.S.C. 601 et seq., do not apply.

C. Paperwork Reduction Act

    Collections of Information on SLGSafe and Cancellations. The 
collections of information in the proposed regulation were submitted to 
the Office of Management and Budget for review in accordance with the 
Paperwork Reduction Act (44 U.S.C. 3501 et seq.). In the preamble to 
the proposed regulation, we explained that the collections of 
information, which are in Sec. Sec.  344.3(f)(3), 355.5(c), and 344.8, 
are required (1) to determine whether there is good cause for an 
investor to submit subscriptions by fax or mail rather than 
electronically in SLGSafe and (2) to establish that a cancellation of a 
subscription is required for reasons unrelated to the use of the SLGS 
program to create a cost-free option. The estimated annual burden per 
respondent/recordkeeper is .25 hours, depending on individual 
circumstances, with an estimated total annual burden of 250 hours. No 
comments were received concerning the collections of information.
    The final rule contains the same information collection 
requirements that Treasury proposed in the NPRM. They have been 
approved by OMB under OMB control numbers 1535-0091 (the collection of 
information to establish a valid reason for a waiver of the 
requirements of the SLGS regulations) and 1535-0092 (the collection of 
information taken from subscribers on the forms associated with the 
SLGS program). Comments on the accuracy of our burden estimate, and 
suggestions on how this burden may be reduced, may be sent to BPD, 
attention Keith Rake, Deputy Assistant Commissioner, Office of the 
Assistant Commissioner, Bureau of the Public Debt, 200 3rd St., P.O. 
Box 396, Parkersburg, WV 26106-0396.
    An agency may not conduct or sponsor, and a person is not required 
to respond to, a collection of information unless the collection of 
information displays a valid control number.
    Collection of Information on a Change of Issue Date. The final rule 
also contains a new collection of information that was not in the 
proposed rule. This new collection has been reviewed and, pending the 
receipt of public comments, approved by OMB under control number 1535-
0091.
    The current rule permits issuers to select the issue date of SLGS 
securities. The issuer may change the issue date up to seven days after 
the original issue date initially requested, provided that BPD is 
notified one business day before the original issue date. The proposed 
rule stated that issue dates could not be changed. The final rule 
retains some flexibility for an issuer to change the issue date up to 
seven days after the original issue date if it is established to the 
satisfaction of Treasury that the change is required as a result of 
circumstances that were unforeseen at the time of the subscription and 
which are beyond the issuer's control (for example, a natural 
disaster).
    The new collections of information in the final rule are in 
Sec. Sec.  344.5(d) and 344.8(a). By collecting information about these 
circumstances, BPD will be able to evaluate if the regulatory standard 
of unforeseen circumstances has been met. The likely respondents are 
state or local governments.
    Because of the limited number of instances when a change in issue 
date may be sought, Treasury estimates that 500 investors will each 
make one request annually for a total of 500 requests.
    The information required by Treasury in connection with a change in 
issue date is similar to the type of information contemplated in the 
proposed rule in Sec. Sec.  344.3(f)(3), 344.5(c), and 344.8(c). 
Because of the familiarity of SLGS investors with the current 
procedures and the infrequency of the instances in which a change in 
issue date will be sought, the burden associated with compiling and 
submitting such information to Treasury is relatively modest.
    Estimated total annual reporting and/or recordkeeping burden: 125 
hours.

[[Page 37911]]

    Estimated average annual burden hours per respondent and/or 
recordkeeper: .250 hours.
    Estimated number of respondents and/or recordkeepers: 500.
    Organizations and individuals desiring to submit comments 
concerning the collection of information in the final rule should 
direct them to the Desk Officer for the Department of the Treasury, 
Office of Information and Regulatory Affairs, Office of Management and 
Budget, Washington, DC 20503 (preferably by FAX to 202-395-6974, or by 
e-mail to Alexander--T.--Hunt@omb.eop.gov). A copy of the comments 
should also be sent to the Bureau of the Public Debt at the addresses 
previously specified. Comments on the collection of information should 
be received by August 1, 2005.
    Treasury specifically invites comments on: (a) Whether the new 
collection of information is necessary for the proper performance of 
the mission of Treasury, and whether the information will have 
practical utility; (b) the accuracy of the estimate of the burden of 
the collections of information; (c) ways to enhance the quality, 
utility, and clarity of the information collection; (d) ways to 
minimize the burden of the information collection, including through 
the use of automated collection techniques or other forms of 
information technology; and (e) estimates of capital or start-up costs 
and costs of operation, maintenance, and purchase of services to 
maintain the information.

List of Subjects in 31 CFR Part 344

    Bonds, Government Securities, Securities.


0
For the reasons set forth in the preamble, we amend 31 CFR part 344 by 
revising subparts A through D to read as follows (Appendices A and B to 
part 344 remain unchanged):

PART 344--U.S. TREASURY SECURITIES--STATE AND LOCAL GOVERNMENT 
SERIES

Subpart A--General Information
Sec.
344.0 What does this part cover?
344.1 What special terms do I need to know to understand this part?
344.2 What general provisions apply to SLGS securities?

LGSafe[reg] Service

344.3 What provisions apply to the SLGSafe Service?
Subpart B--Time Deposit Securities
344.4 What are Time Deposit securities?
344.5 What other provisions apply to subscriptions for Time Deposit 
securities?
344.6 How do I redeem a Time Deposit security before maturity?
Subpart C--Demand Deposit Securities
344.7 What are Demand Deposit securities?
344.8 What other provisions apply to subscriptions for Demand 
Deposit securities?
344.9 How do I redeem a Demand Deposit security?
Subpart D--Special Zero Interest Securities
344.10 What are Special Zero Interest securities?
344.11 How do I redeem a Special Zero Interest security before 
maturity?

Appendix A to Part 344--Early Redemption Market Charge Formulas and 
Examples for Subscriptions from December 28, 1976, through October 27, 
1996

Appendix B to Part 344--Formula for Determining Redemption Value for 
Securities Subscribed for and Early-Redeemed on or after October 28, 
1996

    Authority: 26 U.S.C. 141 note; 31 U.S.C. 3102, 3103, 3104, and 
3121.

Subpart A--General Information


Sec.  344.0  What does this part cover?

    (a) What is the purpose of the SLGS securities offering? The 
Secretary of the Treasury (the Secretary) offers for sale non-
marketable State and Local Government Series (SLGS) securities to 
provide issuers of tax-exempt securities with investments from any 
eligible source of funds (as defined in Sec.  344.1).
    (b) What types of SLGS securities are governed by this part? This 
part governs the following SLGS securities:
    (1) Time Deposit securities--may be issued as:
    (i) Certificates of indebtedness;
    (ii) Notes; or
    (iii) Bonds.
    (2) Demand Deposit securities--may be issued as certificates of 
indebtedness.
    (3) Special Zero Interest securities. Special Zero Interest 
securities, which were discontinued on October 28, 1996, were issued 
as:
    (i) Certificates of indebtedness; or
    (ii) Notes.
    (c) In what denominations are SLGS securities issued? SLGS 
securities are issued in the following denominations:
    (1) Time Deposit securities--a minimum amount of $1,000, or in any 
larger whole dollar amount; and
    (2) Demand Deposit securities--a minimum amount of $1,000, or in 
any larger amount, in any increment.
    (d) How long is the offering in effect? The offering continues 
until terminated by the Secretary.


Sec.  344.1  What special terms do I need to know to understand this 
part?

    As appropriate, the definitions of terms used in this part are 
those found in the relevant portions of the Internal Revenue Code and 
the Income Tax Regulations.
    BPD's Web site refers to https://www.slgs.gov.
    Business day(s) means Federal business day(s).
    Current Treasury borrowing rate means the prevailing market rate, 
as determined by Treasury, for a Treasury security with the specified 
period to maturity. In the case where SLGS rates are needed for 
maturities currently not issued by Treasury, at our discretion, 
suitable proxies for Treasury securities and/or a rate setting 
methodology, as determined by the Secretary, may be used to derive a 
current Treasury borrowing rate. At any time that the Secretary 
establishes such proxies or a rate-setting method or determines that 
the methodology should be revised, we will make an announcement.
    Day(s) means calendar day(s).
    Eligible source of funds means:
    (1) Any amounts that constitute gross proceeds of a tax-exempt bond 
issue or are reasonably expected to become gross proceeds of a tax-
exempt bond issue;
    (2) Any amounts that formerly were gross proceeds of a tax-exempt 
bond issue, but no longer are treated as gross proceeds of such issue 
as a result of the operation of the universal cap on the maximum amount 
treated as gross proceeds under 26 CFR 1.148-6(b)(2);
    (3) Amounts held or to be held together with gross proceeds of one 
or more tax-exempt bond issues in a refunding escrow, defeasance 
escrow, parity debt service reserve fund, or commingled fund (as 
defined in 26 CFR 1.148-1(b));
    (4) Proceeds of a taxable bond issue that refunds a tax-exempt bond 
issue or is refunded by a tax-exempt bond issue; or
    (5) Any other amounts that are subject to yield limitations under 
the rules applicable to tax-exempt bonds under the Internal Revenue 
Code.
    Issuer refers to the Government body or other entity that issues 
state or local government bonds described in section 103 of the 
Internal Revenue Code.
    SLGS rate means the current Treasury borrowing rate, less one basis 
point, as released daily by Treasury in a SLGS rate table.
    SLGS rate table means a compilation of SLGS rates available for a 
given day.
    ``We,'' ``us,'' or ``the Secretary'' refers to the Secretary and 
the Secretary's delegates at the Department of the Treasury (Treasury), 
Bureau of the

[[Page 37912]]

Public Debt (BPD). The term also extends to any fiscal or financial 
agent acting on behalf of the United States when designated to act by 
the Secretary or the Secretary's delegates.
    Yield on an investment means ``yield'' as computed under 26 CFR 
1.148-5.
    You or your refers to a SLGS program user or a potential SLGS 
program user.


Sec.  344.2  What general provisions apply to SLGS securities?

    (a) What other regulations apply to SLGS securities? SLGS 
securities are subject to:
    (1) The electronic transactions and funds transfers provisions for 
United States securities, part 370 of this subchapter, ``Electronic 
Transactions and Funds Transfers Related to U.S. Securities'; and
    (2) The appendix to subpart E to part 306 of this subchapter, for 
rules regarding computation of interest.
    (b) Where are SLGS securities held? SLGS securities are issued in 
book-entry form on the books of BPD.
    (c) Besides BPD, do any other entities administer SLGS securities? 
The Secretary may designate selected Federal Reserve Banks and 
Branches, as fiscal agents of the United States, to perform services 
relating to SLGS securities.
    (d) Can SLGS securities be transferred? No. SLGS securities issued 
as any one type, i.e., Time Deposit, Demand Deposit, or Special Zero 
Interest, cannot be transferred for other securities of that type or 
any other type. Transfer of securities by sale, exchange, assignment, 
pledge, or otherwise is not permitted.
    (e) What certifications must the issuer or its agent provide?
    (1) Agent Certification. When a commercial bank or other agent 
submits a subscription, or performs any other transaction, on behalf of 
the issuer, it must certify that it is acting under the issuer's 
specific authorization. Ordinarily, evidence of such authority is not 
required.
    (2) Yield Certifications. (i) Purchase of SLGS Securities. Upon 
submitting a subscription for a SLGS security, a subscriber must 
certify that:
    (A) Marketable Securities to SLGS Securities. If the issuer is 
purchasing a SLGS security with any amount received from the sale or 
redemption (at the option of the holder) before maturity of any 
marketable security, the yield on such SLGS security does not exceed 
the yield at which such marketable security was sold or redeemed; and
    (B) Time Deposit Securities to SLGS Securities. If the issuer is 
purchasing a SLGS security with any amount received from the redemption 
before maturity of a Time Deposit security (other than a zero interest 
Time Deposit security), the yield on the SLGS security being purchased 
does not exceed the yield that was used to determine the amount of 
redemption proceeds for such redeemed Time Deposit security.
    (ii) Early Redemption of SLGS Securities. Upon submission of a 
request for redemption before maturity of a Time Deposit security 
(other than a zero interest Time Deposit security) subscribed for on or 
after August 15, 2005, the subscriber must certify that no amount 
received from the redemption will be invested at a yield that exceeds 
the yield that is used to determine the amount of redemption proceeds 
for such redeemed Time Deposit security.
    (f) What are some practices involving SLGS securities that are not 
permitted? (1) In General. For SLGS securities subscribed for on or 
after August 15, 2005, it is impermissible:
    (i) To use the SLGS program to create a cost-free option;
    (ii) To purchase a SLGS security with any amount received from the 
sale or redemption (at the option of the holder) before maturity of any 
marketable security, if the yield on such SLGS security exceeds the 
yield at which such marketable security is sold or redeemed; or
    (iii) To invest any amount received from the redemption before 
maturity of a Time Deposit security (other than a Zero Percent Time 
Deposit security) at a yield that exceeds the yield that is used to 
determine the amount of redemption proceeds for such Time Deposit 
security.
    (2) Examples. (i) Simultaneous Purchase of Marketable and SLGS 
Securities. In order to fund an escrow for an advance refunding, the 
issuer simultaneously enters into a purchase contract for marketable 
securities and subscribes for SLGS securities, such that either 
purchase is sufficient to pay the cash flows on the outstanding bonds 
to be refunded, but together, the purchases are greatly in excess of 
the amount necessary to pay the cash flows. The issuer plans that, if 
interest rates decline during the period between the date of starting a 
SLGS subscription and the requested date of issuance of SLGS 
securities, the issuer will enter into an offsetting agreement to sell 
the marketable securities and use the bond proceeds to purchase SLGS 
securities to fund the escrow. If, however, interest rates do not 
decline in that period, the issuer plans to use the bond proceeds to 
purchase the marketable securities to fund the escrow and cancel the 
SLGS securities subscription. This practice violates the prohibition on 
cancellation under