Moody's warns proposed political review of grants a credit negative

The Trump administration's proposal to overhaul and solidify rules governing the federal grant process could prove to be a credit negative for public finance issuers, Moody's Ratings said Monday.

The Office of Management and Budget on May 29 published a proposed rule that would revamp the way all federal agencies award financial assistance. The rule would require agencies to appoint a senior political appointee who would approve grants and would expand agencies' authority to terminate or suspend active grants that have already been awarded.

The proposal would broaden the list of factors agencies use to evaluate applicant risk to include "an applicant's affiliations with organizations engaged in activities that violate federal law, undermine public safety or national security, or advocate for the overthrow of the United States Government."

The proposal also includes new bans on grants that "fund, promote, encourage, subsidize, or facilitate" diversity, equity and inclusion policies.

OMB said the proposed revisions would improve transparency, accountability, and oversight for the grant process while reducing the burden on recipients by streamlining notices of funding opportunities and application criteria.

It would not affect formula funds, block grants or post-disaster funds, Moody's noted in its commentary.

"But there are a lot of competitive grants that public finance issuers get ? the kind of grants that go to colleges and universities, hospitals and transit agencies," Moody's analyst Nicholas Samuels told The Bond Buyer.

If the rule is adopted, "there's going to be another layer of review that is very open-ended about how the federal government might deny grants, which may not be upfront when you're applying but it could be midstream, when you're relying on the money for particular projects," he said. "This is another layer of unpredictability for public finance issuers to deal with related to federal funds."

Terminating grants that issuers may have already built into their budgets would be easier under the rule, law firm Faegre Drinker Biddle & Reath said in a June 2 brief. "Critically, the proposed rule does not require a finding of noncompliance or fraud to justify a discretionary termination. Instead, the agency need only provide 'a brief summary of the reason or reasons for finding that termination is in the interest of the [f]ederal agency,'" the firm said.

By converting standard grant guidelines into federal rules, the change would be "drastically increasing executive-branch oversight over billions of dollars in federal research, healthcare, culture, and infrastructure grants," the American Society of Civil Engineers said in a June 11 blog.

All administrations seek to put their stamp on grant funds but OMB's rulemaking proposal would make the change harder to undo.

"If one president can sign an executive order, another president can sign an executive order that undoes it," Samuels said. "This changes federal regulations, so it becomes stickier," he said. "If there's a desire to make a change in the future, the government will have to go through the same rulemaking process."

The rewritten regulations would be "credit negative for entities with high dependence on competitive federal funding because it would materially weaken the reliability of multi-year discretionary funding commitments," Moody's said.

Entities at risk include research universities that rely on on National Institutes of Health and National Science Foundation grants; nonprofit hospitals funded through discretionary Health Resources and Services Administration programs; transit agencies competing for Federal Transit Administration capital awards; and smaller municipalities that depend on Housing and Urban Development community development or Federal Emergency Management Agency hazard mitigation grants.

Comments on the proposed rule are due by July 13, although several groups, including the ASCE, has asked OMB to extend the public comment window by 90 days "to fully assess the immense structural impact."

If OMB sticks the current 45-day comment window, it will propose a final rule that will be effective Oct. 1, which would make the final rule applicable to all new fiscal 2027 awards, according to Faegre Drinker.