What it means
Governments pay for services such as schools, roads and salaries throughout the year, but many tax payments arrive in one or two large instalments. This mismatch can leave a local government short of cash for several weeks or months.
A tax anticipation note bridges the gap by borrowing against the tax receipts that are due, so bills can be paid on time. The note is sold to investors, normally with a term of less than a year.
Investors receive interest and are repaid from the tax collections, which are set aside for the purpose. Because repayment depends on a known source of income, the notes are considered relatively low risk.
The loan is for cash flow management and not for long-term projects. A government that borrows with a TAN is not funding a new building; it is paying ordinary bills earlier than it can collect the money.
That is why TANs are short and why they are repaid within the same financial year. Related notes exist for other expected income, such as revenue anticipation notes for non-tax income and bond anticipation notes for long-term bonds yet to be issued.
The idea is the same in each case: borrow now against a specific, expected receipt. The label shows which receipt backs the loan.
Investors and finance teams watch TANs for signs of stress. A government that needs to borrow larger amounts every year, or that struggles to repay on time, may have a deeper budget problem.
Properly used, though, a TAN is a routine tool. For a non-specialist, the best way to think of a TAN is as an overdraft secured on a date in the future.
The government knows when the money will arrive, so it borrows for exactly that long. The investor, in turn, accepts a modest interest rate in return for a short, well-defined wait.
In practice
Real-world examples.
Example
A county collects most of its property tax in April but has to pay staff every month. In January it issues a TAN for $8,000,000, using the April receipts as the source of repayment. The note is repaid in May and the county ends the year with no outstanding balance.
Example
A school district waits for a tax distribution from the state that arrives late in the year. It borrows $2,000,000 through a TAN to keep paying teachers and suppliers. The interest cost is small compared with the cost of missing payroll.
Example
An investor buys a one-year TAN issued by a town because the interest is predictable and the repayment comes from a dedicated tax stream. The investor reads the offering documents to confirm that the taxes are legally set aside and that the note ranks ahead of other uses of the money. The note is repaid on schedule.
Formula
Calculation
Interest cost = principal x annual interest rate x (months outstanding / 12)
Coverage = expected tax receipts / (principal + interest)
A city issues a $5,000,000 TAN at 3% for six months while it waits for property tax payments of $5,500,000. Interest = 5,000,000 x 0.03 x (6 / 12) = 5,000,000 x 0.03 x 0.5 = $75,000. The total repayment is 5,000,000 + 75,000 = $5,075,000. Coverage = 5,500,000 / 5,075,000 = 1.08, which means expected taxes cover the repayment with about 8% to spare.Case study
Seen in the real world.
Marlborough Valley is an illustrative, fictional town with a yearly budget of $30,000,000. Most of its tax income arrives in two instalments, in March and September, while its costs are spread evenly across the year.
In the months before the September payment, the town expected to run short by about $4,000,000. The finance officer issued a four-month TAN at 2.5%, costing 4,000,000 x 0.025 x (4 / 12) = $33,333 in interest.
The illustrative result was that the town paid its staff and suppliers on time, then repaid the note in full when the tax instalment arrived. The finance officer also reported that coverage was 1.3 times, which made investors comfortable and kept the interest rate low.
Watch out
Common mistakes.
- Treating a TAN as a way to fund long-term projects, when it is meant only to cover timing gaps in cash flow.
- Assuming the notes carry no risk, when a shortfall in tax collection could delay repayment.
- Confusing TANs with revenue anticipation notes or bond anticipation notes, when each label identifies the specific income that backs the loan.
Questions
People also ask.
Who issues tax anticipation notes?
They are usually issued by local governments, such as cities, counties, towns and school districts.
How long does a TAN last?
It usually lasts less than a year and is repaid when the anticipated taxes are collected.
How does a TAN differ from a bond?
A TAN is short term and repaid from specific incoming taxes, while a bond funds longer-term projects and is repaid over many years.
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