A Private Activity Bond (PAB) is a tax-exempt municipal bond where more than 10% of the proceeds benefit private entities and more than 10% of debt service is secured by private property — issued for qualified purposes such as manufacturing, affordable housing, airports, and nonprofit hospitals.
Private Activity Bonds occupy a special category in the federal tax code: they are nominally municipal bonds, but their economic benefit flows primarily to private parties. Under IRC §141 (irs.gov/pub/irs-pdf/p4078.pdf), a bond is a 'private activity bond' if it meets both the private business use test (more than 10% of proceeds used in a private trade or business) and the private security or payment test (more than 10% of debt service is secured by or derived from private business use). Most PABs are not tax-exempt by default — Congress must specifically authorize the category. Qualified PABs whose interest is federally exempt include: qualified mortgage bonds (IRC §143), qualified veterans' mortgage bonds (IRC §143(b)), qualified small-issue bonds (IDBs under §144(a)), qualified student loan bonds (§144(b)), qualified redevelopment bonds (§144(c)), qualified 501(c)(3) bonds (nonprofit hospitals, universities under §145), and exempt facility bonds (airports, docks, water/sewage, solid waste, mass commuting facilities, housing under §142). PABs are subject to state volume caps under IRC §146 (treasury.gov/resource-center/tax-policy/Documents/Report-Tax-Expenditures-2024.pdf). Each state receives an annual allocation of PAB volume cap (the greater of $110 per capita or $326.5 million for 2024, adjusted for inflation under IRC §146(d)(2)). State agencies administer allocation among competing projects. PAB interest is an Alternative Minimum Tax (AMT) preference item for individual investors under IRC §57(a)(5) — except bonds financing §501(c)(3) facilities and certain housing bonds.
Some are. Interest on most PABs (other than qualified 501(c)(3) bonds and certain housing bonds) is an AMT preference item for individual investors under IRC §57(a)(5). Corporate investors eliminated AMT under TCJA 2017, but individual investors may owe AMT on PAB interest. Bonds specifically exempt from AMT include: qualified mortgage bonds, qualified student loan bonds, and qualified 501(c)(3) bonds (irs.gov/pub/irs-pdf/p4078.pdf). Check the bond's official statement for AMT status.
IRC §146 imposes annual state volume caps on most PABs (excluding 501(c)(3) bonds and certain categories). For 2024, the cap is the greater of $110 per capita or $326.5 million per state, adjusted for inflation. State agencies allocate cap among housing, manufacturing, student loan, and other qualifying uses. Demand routinely exceeds cap in high-cost states, making early application critical. Treasury publishes volume cap amounts annually (treasury.gov).
A general obligation (GO) bond is backed by the full faith and credit (taxing power) of a government and finances public purposes. A PAB is backed only by revenues from the private project it finances — the government issuer has no repayment obligation. GOs are always tax-exempt. PABs are tax-exempt only when they fall within one of the congressionally authorized qualified categories under IRC §§141-150. Risk profile differs: PABs carry project/credit risk; GOs carry municipal credit risk.