2.4.4 Debt Service Reserve Fund
A debt service reserve fund is an economic tool used by issuers when structuring their bonds. Depending on considerations related to general creditworthiness, the type of issuer and/or the type of debt, a debt service reserve fund may be advantageous or in some circumstances, required. Issuers may establish a debt service reserve fund to achieve a particular rating or rating category by a rating agency or to target specific investors.68 With a debt service reserve fund, the bond trustee may draw upon the debt service reserve fund if other funds are not available to pay debt service. The amount required to be deposited in the debt service reserve fund (reserve fund requirement) is set with reference to credit needs and federal tax law limitations. See Section 4.8, Arbitrage Yield Restriction. The reserve fund requirement may generally be recalculated if debt service requirements are reduced, for example if a refunding of some of the secured debt occurs. If the amount on deposit in the debt service reserve fund is less than the reserve fund requirement, because the debt service reserve fund was drawn upon or because of a change in the market value of debt service reserve fund investments, the issuer is generally obligated to “replenish” the debt service reserve fund from amounts available after the payment of debt service.
When bond documents provide for the issuance of multiple series of bonds over time, a debt service reserve fund may secure all of the bonds (a “common reserve fund”) or a separate debt service reserve fund may secure each series. If there is a common reserve fund, the reserve fund requirement is calculated with reference to all outstanding bonds. In connection with each new issuance, the amount held in the reserve fund must be increased if necessary to meet the new reserve fund requirement. A common reserve fund generally results in a smaller overall reserve fund because, with multiple series of bonds, maximum annual debt service on all of the bonds is generally less than the sum of maximum annual debt on each series. Separate reserve funds, however, provide the issuer the flexibility to have different reserve fund sizes for different series. An alternative is to allow the issuer to elect, upon the issuance of each new series, whether that series will be secured by the common reserve fund or a separate reserve fund. Bond documents may also allow a reserve fund requirement to be satisfied through the delivery of a debt service reserve fund surety bond. See Section 2.3.2.2, Debt Service Reserve Fund Surety Bonds.