FINANCING PROPERTY ACQUISITIONS
WITH THE 10-YEAR
INSTALLMENT CONTRACT
By ANDREW T. FREUND, Zukowski, Rogers, Flood & McArdle, Attorneys at Law
50 Virginia Street, Crystal Lake, Illinois 60014, 815/459-2050
Section 11-61-3 of the Illinois Municipal Code
("Code"), 111. Revised Statutes, Chapter 24, §11-61-3
(1989), authorizes the corporate authorities of municipalities of less than 1,000,000 inhabitants to purchase or
lease either real or personal property through the use of
installment contracts not exceeding 10 years in length.
1
This Section provides a simple and straight forward
method of financing the acquisition of property for
municipal purposes without the complicated and time-
consuming procedural requirements associated with
bond financing and is versatile enough to be applied in
a wide range of financing transactions.
The primary benefit of the 10-year installment contract is the simplicity of its implementation. Once the
decision to purchase the property has been made, the
corporate authorities of the municipality need only
adopt an ordinance or resolution approving the installment contract. The ordinance or resolution is effective
upon passage, and the agreement to acquire the property can be implemented immediately thereafter. Unlike other forms of municipal financing, 10-year installment contracts, are not subject to approval by a majority of the electors voting on the question,2 do not require
the publishing of notice 3 and are not subject to "backdoor" referendum procedures. 4
The structure of the installment contract depends on
who is actually financing the transaction. In the majority of cases involving the acquisition of property for a
purchase price in excess of $100,000, financing is provided by a third-party lending institution and not the
seller of the property. To utilize the 10-year installment
contract in financing situations involving third-party
lending institutions, there must be a three-party transaction.
Ordinarily, in a three-party transaction, a municipality will negotiate financing with a lending institution in
a form similar to an installment note, with the amount financed to be amortized over a period not to exceed 10
years. Once financing has been determined, an installment contract is prepared which contains the terms of
the financing between the seller of the property and the
municipality. This is required because Section 11-61-3
of the Code mandates that the consideration to be paid
by the purchasing municipality to the seller be structured as installment payments over time. 5 Technically,
the consideration cannot be paid as one lump sum directly to the seller.
Simultaneous with the execution of the installment
contract between the municipality and the seller, the
seller assigns its interest in the installment contract to
the pre-chosen lending institution for the face amount
of the contract. The lending institution then pays the
seller and accedes to the rights of the installment contract, the substance of which having been previously
negotiated with the municipality. As a result, the Seller
is paid in full at the time of closing on the transaction,
and the municipality has in place installment financing
with the lending institution.
The 10-year installment contract may be used to
finance the purchase of property ranging from photocopying machines and telephone equipment to water
and sewer treatment facilities. In addition to purchasing existing property, the 10-year installment contract
may also be used to finance the construction of new
municipal facilities. When the 10-year installment contract is used to finance the construction of new municipal facilities, the entire proceeds of the financing are
not ordinarily paid out at the commencement of construction. The proceeds of the financing may be placed
in an interest-bearing account to be paid out as the
project progresses. Various forms of construction escrow arrangements may be implemented to control the
disbursement of funds from the interest-bearing account, the most common of which involves title companies. Further, as long as all of the funds are disbursed
from the interest-bearing account within three years from the
Page 22 / Illinois Municipal Review I March 1991
inception of the loan, neither the municipality
nor its lender will be affected by the arbitrage rules of
the Internal Revenue Code of 1986. 6
Ten-year installment contracts are considered
general obligations of the municipality issuing them.
The obligation evidenced by the installment contract is
payable from any funds of the municipality legally
available and annually appropriated for such purpose.
Properly structured, interest paid under an installment
contract is not includable in the gross income of the
owners of the contract for Federal income tax purposes
and will not be treated as an item of tax preference in
computing the alternative minimum tax for individuals
or corporations. In most transactions involving third-
party lending institutions, the lender will require an
opinion of independent bond counsel regarding the
tax-exempt nature of the installment obligation. However, with respect to smaller issues, some lending institutions will accept the opinion of the municipality's
counsel for Federal income tax purposes.
The most significant limitation upon the use of the
10-year installment contract is that the debt incurred
under the contract is subject to the debt limits set forth
in Section 8-5-1 of the Code. 7 Therefore, when a municipality is seeking to finance a large acquisition or a
significant construction project, consideration must be
given to other forms of financing which would not be
included in the municipality's debt limit. As with other
forms of municipal debt, interest payable under the
installment contract is limited by the Public Corporation Interest Act, Ill.Rev.Stat., ch. 17, par. 6601, et seq.
(1989), and the borrowing must be for public purposes.
An installment contract may not be entered into unless
there was a prior appropriation for the expenditure by
the municipality. Further, a municipality must appropriate funds each year to pay the installments falling
due within the fiscal year. Finally, the limitations contained in Section 11-61-3 of the Code do not apply to
municipalities which are home-rule units. 8
A non-home rule municipality may not use a mortgage or trust deed to secure the payment of the installment obligation. 9 However, a real property acquisition
structured in the form of articles of agreement for deed,
with title passing only upon full payment of the purchase price, arguably is enforceable. While this issue
has not been decided by our Courts, the theory underlying this later form of acquisition is based on the fact that
the security interest associated with articles of agreement for deed is an interest in personal property and,
therefore, within the municipality's power to grant. To
the extent a security interest in the real estate is not
available, lenders must rely on the full faith and credit
of the municipality for repayment under the installment
contract.
Section 11-61-3 of the Code is a valuable financing
tool which fulfills an important need municipalities
have with respect to the acquisition of property for
public purposes. In the appropriate circumstances,
installment-contract financing under Section 11-61-3 of
the Code can provide an alternative to other more
complicated and time-consuming methods of property
financing. •
FOOTNOTES
1. Ill.Rev.Stat., ch. 24, par. 11-61-3 (1989).
2. e.g. Ill.Rev.Stat., ch. 24. par. 8-4-1 (1989).
3. e.g. Ill.Rev.Stat., ch. 24. par. 11-76.1-1 (1989).
4. e.g. Ill.Rev.Stat., ch. 24, par. 11-8-4.1-1, et seq. (1989).
5. Ill.Rev.Stat., ch. 24, par. 11-61-3 (1989).
6. I.R.C., §148(c)(2)(U); §148(f)(4)(B)(iv). The majority of the proceeds
must be paid out of the fund within two years of the date of the installment
contract. A five percent retainage for construction may be kept in the lund for
up to three years.
7. Ill.Rev.Stat., ch. 24, par. 8-5-1 (1989).
8. Ill.Rev.Stat., ch. 24, par. 11-61-3 (1989).
9. Stripe v. City of Waukegan, 254 Ill.App. 74 (1929).
March 1991 / Illinois Municipal Review / Page 23