Certificate of Participation

A Certificate of Participation, often abbreviated as COP, is a type of municipal security where an investor purchases a share of the revenue stream from a specific project or piece of equipment leased by a governmental entity. This financial instrument allows municipalities to acquire assets without directly issuing debt, often circumventing voter approval requirements.

COPs are essentially lease-purchase agreements structured as securities. The governmental entity leases an asset from a third party, and the lease payments are used to pay the principal and interest on the certificates. Investors receive a portion of these lease payments, effectively participating in the revenue generated by the leased asset.

The importance of COPs lies in their flexibility for municipalities. They provide an alternative funding mechanism for essential projects, like schools or infrastructure improvements, when traditional bond financing is not feasible or desirable due to legal or political constraints.

Unlike general obligation bonds, COPs are typically not backed by the full faith and credit of the issuing municipality. This means that if the municipality defaults on the lease payments, investors' recourse is generally limited to the leased asset itself.

The application of COPs is wide-ranging, covering various public sector needs. They are commonly used to finance the acquisition of equipment, construction of facilities, and even the refinancing of existing debt obligations, providing municipalities with a versatile tool for capital management.

From a risk perspective, COPs are generally considered riskier than general obligation bonds. The reliance on specific project revenues for repayment introduces vulnerabilities, as the project's success directly impacts the investor's return.

The history of COPs can be traced back to the need for municipalities to bypass debt limitations imposed by state constitutions. These limitations often required voter approval for bond issuances, making COPs a convenient alternative for funding projects without public referendums.

Investors should carefully evaluate the creditworthiness of the issuing municipality and the viability of the underlying project before investing in COPs. Due diligence is crucial to assess the potential risks and rewards associated with this type of investment.