Final Guidelines for Implementation of the Drinking Water State Revolving Fund Program

SUMMARY: The Environmental Protection Agency (EPA) has published the

Final Guidelines for the Drinking Water State Revolving Fund (DWSRF)

program. The DWSRF program was established by the Safe Drinking Water

Act (SDWA) Amendments of 1996, which were signed by President Clinton

on August 6, 1996. The SDWA authorizes $9.6 billion for the DWSRF

program and related programs under section 1452 from fiscal year 1994

through fiscal year 2003. For fiscal year 1997, EPA's budget includes

$1.275 billion for these programs. On a national level, the Office of

Water is responsible for implementing the SDWA requirements, including

the DWSRF program and related programs under section 1452. The document

is being published today for the benefit and interest of the general

public.

DATES: The Final Guidelines were distributed to all State agencies with

responsibility for the DWSRF program on February 28, 1997.

ADDRESSES: Copies of the Final Guidelines for implementation of the

DWSRF program are available from the Safe Drinking Water Act Hotline,

telephone (800) 426-4791. Copies are also available from the Office of

Water Resource Center (RC4100), U.S. EPA, 401 M Street, SW, Washington,

DC 20460. The DWSRF Guidelines may also be obtained from the EPA Web

Site at the URL address http://www.epa.gov/OGWDW.

FOR FURTHER INFORMATION CONTACT: The Safe Drinking Water Act Hotline,

telephone (800) 426-4791. For technical inquiries, contact James

Bourne, Drinking Water Implementation and Assistance Division, Office

of Ground Water and Drinking Water, U.S. EPA, (4606), 401 M Street SW,

Washington, DC 20460, telephone (202) 260-5557.

SUPPLEMENTARY INFORMATION: The Drinking Water State Revolving Fund

(DWSRF) program was established as a new section 1452 of the Safe

Drinking Water Act (SDWA), 33 U.S.C. 300j-12, by the SDWA Amendments of

1996, Pub. L. 104-182, which were signed by President Clinton on August

6, 1996. The DWSRF is a State loan program, to be capitalized in large

part by Federal contributions. Loans from the DWSRF must be made to

protect public health and to achieve or maintain SDWA compliance.

States have the flexibility to tailor DWSRF programs to address local

needs as long as the programs meet the minimum Federal requirements in

the law. States must describe how their programs will prioritize use of

DWSRF funds and are required to develop a priority list of projects,

subject to public review.

The SDWA amendments establish a strong emphasis on preventing

contamination through source water protection and enhanced water system

management. The amendments also emphasize the needs of small water

systems. States may use portions of their DWSRF capitalization grants

for programs that work toward attaining some of these goals and are

required to reserve portions of their DWSRF loan funds for small water

systems.

Interim guidance for the DWSRF program was released on October 4,

1996, to allow States to develop DWSRF programs so that capitalization

grants could be awarded as soon as possible. A notice of availability

of the interim guidance was published in the Federal Register on

October 27, 1996, and announced a public comment period which ended on

November 28, 1996. EPA subsequently held a series of public meetings

with stakeholders to provide information about the program and to

review the interim guidance. Comments received during the period of

public comment and from attendees of public meetings were critical in

developing the Final Guidelines for the program. After discussions with

the Office of Management and Budget, the Final Guidelines for the

program were released on February 28, 1997 and made widely available,

including to all States, which are the recipients of capitalization

grants under section 1452. The Guidelines were also made available to

the general public at that time by placement on the Office of Ground

Water and Drinking Water internet site. The Agency is publishing these

guidelines for the benefit and interest of the public at large.

Paperwork Reduction Act

The information requirements for these Guidelines were submitted to

the Office of Management and Budget (OMB) on March 14, 1997. OMB

granted an emergency request for collecting information from State

grant recipients on January 29, 1997 to allow for award of grants

following release of the Final Guidelines. OMB approved the final

requirements for collecting information from State grant recipients on

June 30, 1997 and assigned OMB control number 2040-0185. The

Information Collection Request is valid for a three year period. The

estimated annual burden for EPA Headquarters and Regional review of

applications, oversight of State programs and review of audits is 722

hours per State. The estimated annual burden per State for completing

required capitalization grant applications, biennial reports and state

audits is 3285 hours and the estimated annual burden for applicants to

prepare applications for DWSRF assistance is 80 hours per community.

Dated: October 28, 1998.

Cynthia C. Dougherty,

Director, Office of Ground Water and Drinking Water.

DRINKING WATER STATE REVOLVING FUND PROGRAM GUIDELINES

Contents

Introduction

I. Development of a Capitalization Grant Application/Agreement

A. Items Necessary To Establish a Loan Fund That Complies with

Federal Requirements

1. Assurance that the State has the authority to establish a

Fund and to operate the DWSRF program in accordance with the SDWA

2. Assurance that the State will comply with State statutes and

regulations

3. Assurance that the State has the technical capability to

operate the program

4. Assurance that the State will accept capitalization grant

funds in accordance with a payment schedule

5. Assurance that the State will deposit all capitalization

grant funds in the Fund or Set-Aside Account

6. Assurance that the State will provide an amount at least

equal to 20 percent of the capitalization grant (State match) in the

Fund

7. Assurance that the State will deposit net bond proceeds,

interest earnings, and repayments into the Fund

8. Assurance that the State will match capitalization grant

funds the State uses for 1452(g)(2) set-asides

9. Assurance that the State will use Generally Accepted

Accounting Principles

10. Assurance that the State will have the Fund and set-aside

account audited annually in accordance with Generally Accepted

Government Auditing Standards

11. Assurance that the State will adopt policies and procedures

to assure that borrowers have a dedicated source of revenue for

repayments (or in the case of a privately owned system, demonstrate

that there is adequate security)

12. Assurance that the State will commit and expend funds as

efficiently as possible, and in an expeditious and timely manner

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13. Assurance that funds will be used in accordance with the

Intended Use Plan

14. Assurance that the State will provide EPA with a Biennial

Report

15. Assurance that the State will comply with all Federal cross-

cutting authorities

B. Intended Use Plan

1. Priority list of projects, including description and size of

community

2. Description of criteria and method used for distribution of

funds

3. Description of the financial status of the DWSRF Program

4. Description of the short- and long-term goals of the DWSRF

Program

5. Description of amounts transferred between the DWSRF and the

CWSRF

6. Description of the set-aside activities, and percentage of

funds, that will be funded from the DWSRF capitalization grant,

including DWSRF administrative expenses allowance, PWSS program

support, technical assistance, etc.

7. Description of how a State disadvantaged community program

will define a disadvantaged system and the amount of DWSRF funds

that will be used for this type of loan assistance

C. Capitalization Grant Agreement

D. Operating Agreement

II. Allotment/Use of Funds

A. Allotment/Reallotment/Withholding of Funds

1. Allotment formula

2. Period of availability and reallotment

3. Withholding of funds

a. The Administrator will withhold funds

b. Reallotment of withheld funds

c. Loss of primacy

B. Set-asides From The National Appropriation And Ceilings on

State Allotments

1. National set-asides

a. Indian Tribes/Alaska Native Villages

b. Health effects studies

c. Unregulated contaminant monitoring

d. Small system Technical Assistance

e. Operator training reimbursement

2. Allotment for D.C. and other jurisdictions

3. State set-aside activities

a. DWSRF administrative expenses

b. State program management

c. Small systems technical assistance

d. Local assistance and other State programs

e. Movement of funds between the Fund and set-aside account

after award of capitalization grant

f. Transfer of funds

C. Types of Financial Assistance That the Fund May Provide

1. Loans

a. Repayment of loan

b. Dedicated repayment source

c. Financial security of privately-owned systems

d. Financial, technical, and managerial capability analysis

e. Disadvantaged communities

f. Project funding for small systems

2. Buy or refinance existing debt obligations

3. Guarantee or purchase insurance for local debt obligations

4. A source of revenue or security for payment of Fund debt

obligations

5. Earn interest on Fund accounts

III. Eligible Systems and Projects

A. Eligible Systems

B. Eligible Projects

1. Compliance and public health

2. Loan assistance to systems that meet the definition in

section 1401(4)(B)

3. Land acquisition

4. Planning and design of a drinking water project

5. Restructuring of systems that are in noncompliance or that

lack the technical, managerial and financial capability to maintain

the system

C. Projects not eligible for funding

1. Lack of technical, managerial and financial capability

2. Significant noncompliance

3. Growth

D. Compliance without DWSRF funding

IV. State/Project Level Authorities

A. Cross-cutting Federal Authorities

B. Environmental Reviews

1. Equivalency projects

2. Non-equivalency projects

3. EPA approval and review process

V. Funding Process

A. 20 Percent State Match

B. State Match for the 1452(g)(2) Set-aside

C. Federal Funding Process

1. General

2. Schedule of payments

3. Binding commitments

4. Cash draw

a. Projects

b. Set-asides

VI. Reporting/Review Responsibilities

A. State Responsibilities

1. Biennial Report

2. Annual audit

3. Information management system

B. EPA Responsibilities

1. Annual review of DWSRF program

2. Evaluation

3. Compliance assurance

4. Dispute resolution

VII. Appendices

A. Federal Cross-cutters

B. Criteria for Evaluating a State's Proposed NEPA-like Process

C. Definitions

Acknowledgements

We wish to thank the many individuals who contributed to

development of the Drinking Water State Revolving Fund Program

Guidelines. In particular, we thank those members of the DWSRF Guidance

Advisory Group for their dedication and commitment in the development

of the guidelines under a very tight time schedule. We also wish to

thank those members of the public who contributed comments on the

Interim Guidance.

Introduction

The Safe Drinking Water Act (SDWA) Amendments of 1996 (Pub. L. 104-

182) authorize a Drinking Water State Revolving Fund (DWSRF) to assist

public water systems to finance the costs of infrastructure needed to

achieve or maintain compliance with SDWA requirements and to protect

public health objectives of the Act. Section 1452 authorizes the

Administrator of the U.S. Environmental Protection Agency (EPA) to

award capitalization grants to States, which in turn can provide low

cost loans and other types of assistance to eligible systems.

In addition to authorizing the infrastructure fund, the SDWA

Amendments also establish a strong new emphasis on preventing

contamination problems through source water protection and enhanced

water systems management. That emphasis transforms the previous law

from a largely after-the-fact regulatory oriented program into a

statute that can provide for the sustainable use of water. Central to

this emphasis is the development of State prevention programs,

including source water protection, capacity development and operator

certification. States may use a portion of their capitalization grants

to fund these eligible activities. The success of these activities will

act to safeguard the DWSRF funds that are provided for improving system

compliance and public health protection and help determine whether the

new law's potential as a preventive environmental statute is realized.

The DWSRF program will help ensure that the nation's drinking water

supplies remain safe and affordable, that drinking water systems that

receive funding will be properly operated and maintained, and that

permanent institutions will exist in each State to provide financial

support for drinking water needs for many years to come. Congress has

placed particular emphasis on assisting smaller drinking water systems

and those serving less affluent populations by providing greater

funding flexibility for these systems under the DWSRF, to ensure that

these systems have adequate technical, managerial, and financial

resources to come into or maintain compliance and provide safe water.

Under the SDWA, a State may administer its DWSRF in combination

with other State loan funds, including the wastewater SRF, hereafter

known as the Clean Water State Revolving Fund (CWSRF). Beginning one

year after a DWSRF program receives its first capitalization grant

(Fund portion), a State may transfer up to a third of the amount of its

subsequent DWSRF capitalization grant(s) to its CWSRF or an equivalent

amount from its CWSRF capitalization grant to its DWSRF.

These two provisions linking the DWSRF and the CWSRF signal

Congressional intent to implement and manage the two programs in a

similar

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manner. EPA also intends to administer the two programs in a consistent

manner and to apply the principles developed for the existing CWSRF to

the DWSRF program to the fullest extent possible. Like the CWSRF, the

DWSRF is fundamentally a State program. Each State will have

considerable flexibility to determine the design of its program and to

direct funding toward its most pressing compliance and public health

protection needs. Only minimal Federal requirements will be imposed.

This document provides a comprehensive description of the

guidelines that will apply in the operation of the DWSRF program. In

basic terms, the guidelines explain:

What States must do to receive a DWSRF capitalization

grant,

What States may do with Federal capitalization grant

funds,

What States may do with funds the law intends for

activities other than project construction (set-asides) and

The roles of both the States and EPA in managing and

administering the program.

The sources of these guidelines are the Statute itself, existing

regulations and policies that apply in EPA grant programs, particularly

those that apply in EPA general grant regulations (40 CFR part 31) and

the CWSRF program, and the Administrator's authority to issue

guidelines and regulations under SDWA. EPA will incorporate the

guidelines by reference in each capitalization grant award as a grant

condition. Where a specific statutory or regulatory provision is the

basis for a requirement, that provision is cited. EPA will follow-up

these guidelines with regulations.

The capitalization grants authorized under section 1452 for the

DWSRF program are generally divided between two purposes: part of each

capitalization grant is to be deposited into the DWSRF Fund for

providing loans and other types of assistance for drinking water

infrastructure projects; the other part is to be deposited into a set-

aside account(s) for programs, projects and activities that do not

receive assistance from the Fund. Throughout this document, the entire

program authorized by section 1452 will be referred to as the DWSRF

program, the loan account as the Fund and the account or accounts for

other programs, projects and activities as the set-aside account.

I. Development of a Capitalization Grant Application/Agreement

The capitalization grant agreement process begins when the State

submits a capitalization grant application. A capitalization grant

cannot be awarded until after Federal funds have been appropriated for

the DWSRF under section 1452 and then allotted by EPA. With its

application, the State must also submit an Intended Use Plan (IUP),

documentation on the institutional framework of its DWSRF program, and

a proposed schedule for capitalization grant payments by the EPA.

In addition to the Fund, a State may use part of the capitalization

grant to encourage the development of source water protection and State

prevention programs and to enhance water systems management. All DWSRF

funds will be awarded through the capitalization grant process. Before

applying for a capitalization grant, a State must prepare an IUP that

identifies how it intends to distribute the grant among the set-aside

account(s) and the Fund and includes the list of projects expected to

be funded.

A State may, however, prepare this IUP in two parts. The first part

would present the State's overall framework for allocation of the grant

among the set-asides and the Fund, but need not include the project

priority list. The second part would be the IUP for the Fund only. This

two-part process will allow a State to proceed with a partial

capitalization grant application (e.g., a set-aside) before it

completes all of the activities required to obtain a full

capitalization grant.

The State must seek meaningful public review and comment on its

funding decisions in the IUP. If a State applies for the project funds

and set-aside funds separately, the State must seek public review on

each separate component of the IUP.

In addition to identifying the distribution of funds, the

capitalization grant application outlines the State's planned DWSRF

program activities, provides assurances and specific proposals for

meeting requirements of the SDWA and Federal general grant regulations,

and serves as the basis for negotiations between the Regional

Administrator (RA) and the State on the proposed payment schedule. The

IUP and the payment schedule are then incorporated into the

capitalization grant agreement, which also defines the State program

and operating methods. Material in these documents that does not change

from year-to-year may be incorporated by reference in subsequent grant

agreements or in an operating agreement (OA), which remains in effect

unless the RA and the State agree to amend it.

For DWSRF program grant applications, States must submit EPA's

standard application for non-construction grant assistance (EPA Form

SF-424). States should submit grant applications no later than ninety

days prior to the end of the period of funds availability. By so doing,

EPA has adequate time to properly review the application and, as

necessary, request additional information from the State. States that

submit applications after this date run the risk of losing funds due to

the provisions governing reallotment.

EPA Headquarters will concur on one State capitalization grant

award in each Region and retains the flexibility to review additional

capitalization grant applications. Headquarters may also review

applications of States with more complex funding programs (e.g.

leveraging). EPA Headquarters will work with the Regions to determine

which State(s) will be reviewed.

A. Items Necessary To Establish a Loan Fund That Complies With Federal

Requirements

The State must provide assurances in the capitalization grant

application on how it will comply with the fifteen specifications

discussed below for all DWSRF program funding (some apply only to the

Fund). In some cases, the State must simply agree or certify in the

grant application that it will comply with the specifications. In other

cases, documentation on the procedures by which the State plans to

ensure compliance with the specifications must be furnished. The State

must include this documentation with its capitalization grant

application or the Operating Agreement (OA) (see Table 1).

1. Assurance That the State Has the Authority To Establish a Fund and

To Operate the DWSRF Program In Accordance With the SDWA

The State must establish a Fund and comply with section 1452 before

it can receive a capitalization grant award (section 1452(a)(1)(B)).

With each capitalization grant application, the State's Attorney

General (AG), or someone designated by the AG, must sign or concur in a

certification that the authority establishing the DWSRF program and the

powers it confers are consistent with State law and that the State may

legally bind itself to the terms of the capitalization grant agreement.

The AG must also provide written assurance that the DWSRF program will

be administered by an instrumentality of the State that is authorized

to (1) enter into capitalization grant agreements with the EPA, (2)

accept capitalization grant awards made under section 1452(a)(1)(A) of

the SDWA and (3) otherwise manage the Fund in

[[Page 59847]]

accordance with the requirements and the objectives of the SDWA.

Documentation supporting the AG's certification, such as copies of

statutes, executive orders, or administrative orders, must be furnished

with the application or reference must be made to documentation

submitted with previous DWSRF capitalization grant applications. Where

waiting for this certification would significantly delay awarding the

first capitalization grant, the head or chief legal officer of the

State agency primarily responsible for administering the DWSRF program

may sign or concur in the certification at the time of the grant award.

In this case the capitalization grant agreement will contain the

condition requiring the State to submit the AG's or designee's

concurrence within 120 days of the grant award. If the AG opinion is

not received within the 120-day period, EPA will not process further

payments until the certification is received.

If more than one State Agency is involved in the DWSRF program, the

roles and responsibilities of each agency must be described in the

application, and a copy of any Memoranda of Understanding or

interagency agreement(s) that describes the roles and responsibilities

between agencies, must be included with the application. However, the

agency that is awarded the capitalization grant must remain accountable

for the use of the funds provided in the grant agreement under EPA's

general grant regulations (40 CFR 31.3).

A State may (as a convenience and to avoid unnecessary

administrative costs) combine, in accordance with State law, the

financial administration of the Fund with the financial administration

of any other revolving fund established by the State if otherwise not

prohibited by the law under which the Fund was established and if the

State certifies that:

(A) All monies in the Fund, including capitalization grants, State

match, bond proceeds, loan repayments and interest, must be separately

accounted for and used solely for the purposes specified in section

1452(a); and

(B) The authority to establish assistance priorities and carry out

oversight and related activities (other than financial administration)

with respect to assistance remains with the State agency having primary

responsibility for administration of the State's public water supply

supervision program (primacy agency), after consultation with other

appropriate State agencies (section 1452(g)(1)).

If a State is eligible to receive a capitalization grant but does

not have primacy, the Governor shall determine which State agency will

have the authority to establish priorities for financial assistance

from the State loan fund (section 1452(g)(1)(B)). Evidence of the

Governor's determination must be furnished with the application.

2. Assurance That the State Will Comply With State Statutes and

Regulations

The State must agree to comply with all State statutes and

regulations that are applicable to DWSRF funds, including Federal

capitalization grant funds, State match, interest earnings, bond

proceeds and repayments, and funds used for set-aside account

activities.

3. Assurance That the State Has the Technical Capability To Operate the

Program

The State must provide documentation demonstrating that it has

adequate personnel and resources to establish and manage the DWSRF

program (for example, current and future staffing plan, background/

qualifications statements, schedule for planned training).

4. Assurance That the State Will Accept Capitalization Grant Funds in

Accordance With a Payment Schedule

The State must agree to accept Federal grant payments in accordance

with the negotiated payment schedule and use those payments for the

activities of the DWSRF program under section 1452. As part of its

capitalization grant application, the State must submit a proposed

schedule of grant payments that is consistent with its proposed binding

commitments outlined in its IUP, and its plan for expending set-aside

funds. The payment schedule will become part of the capitalization

grant agreement. The State will receive Federal funds in accordance

with the provisions of the EPA-Automated Clearing House (formerly known

as Letter-of-Credit). (See V.C. below)

5. Assurance That the State Will Deposit All Capitalization Grant Funds

in the Fund or Set-Aside Account

The State must agree to deposit the capitalization grant in the

Fund except for those portions of the grant that the State intends to

use for set-aside purposes authorized under the SDWA (section

1452(a)(1)(B)). The State must maintain an identifiable and separate

account(s) for the portion, or portions, of the capitalization grant to

be used for set-aside activities (see II.B.3. below).

Once funds are deposited into the Fund, such monies may be used

only as authorized under section 1452(f). Under some circumstances,

funds may be moved after the award of the capitalization grant among

authorized activities (see II.B).

6. Assurance That the State Will Provide an Amount at Least Equal to 20

Percent of the Capitalization Grant (State Match) in the Fund

The State must agree to provide an amount into the Fund equaling at

least 20 percent of the amount of each capitalization grant. Except for

Federal payments made from Fiscal Year (FY) 1997 appropriations, the

State match must be deposited into the Fund on or before the date that

each Federal capitalization grant payment is made to the State (section

1452(e)). States have until September 30, 1999 to provide the State

match for grant payments already received from FY 1997 appropriations.

(See V.A. for additional details.)

The State may provide its match in a form that is similar to the

form of the Federal payment. For example, the Federal payment is made

in the form of an increase to the level of funds available to the State

through the Automated Clearing House (ACH). The State may establish a

similar mechanism to provide its match.

7. Assurance That the State Will Deposit Net Bond Proceeds, Interest

Earnings, and Repayments Into the Fund

The State must agree to credit net bond proceeds, interest earnings

and repayments into the Fund. Fund assets may be used as a source of

revenue or security for bonds, as long as the net proceeds of the sale

of bonds will be deposited into the Fund (section 1452(f)(4)).

Loans for land acquisition and source water protection, made

pursuant to section 1452(k)(1)(A) must be repaid. A State may deposit

these repayments, including principal and interest, in the Fund, or the

State may choose to deposit the repayments into a separate account

dedicated to 1452(k)(1) activities. This separate account is subject to

the same management oversight requirements as the Fund.

8. Assurance That the State Will Match Capitalization Grant Funds the

State Uses for 1452(g)(2) Set-Asides

The State may use up to 10% of its capitalization grant for

1452(g)(2) activities. The State must match use of these funds with an

equivalent amount of state expenditures or provide documentation of in-

kind services. A State cannot use any of the 20% match required under

section 1452(e) to also match the 10% set-aside.

[[Page 59848]]

9. Assurance That the State Will Use Generally Accepted Accounting

Principles

The State must agree to establish fiscal controls and accounting

systems, according to Generally Accepted Accounting Principles (GAAP)

as promulgated by the Governmental Accounting Standards Board, that are

sufficient to account for and report DWSRF Program activities. The

accounting system used for the DWSRF Program must allow for proper

measurement of (1) revenues earned by the DWSRF Program and other

receipts, including, but not limited to, loan repayments,

capitalization grants, interest earnings, State match deposits and bond

proceeds; (2) expenses incurred by the DWSRF Program and other

disbursements, including but not limited to, loan disbursements,

repayment of DWSRF bonds, and other expenditures allowed under section

1452; (3) the assets, liabilities and capital contributions in the

DWSRF Program; (4) the maintenance of the corpus of the Federal and

State capital contributions made to the DWSRF Program; and (5) the

DWSRF's performance in relation to its short- and long-term goals as

identified in the previous IUP.

10. Assurance That the State Will Have the Fund and Set-Aside Account

Audited Annually in Accordance With Generally Accepted Government

Auditing Standards

The State must agree to conduct an annual audit (with separate

opinion for project funds) on the Fund and set-aside account activities

funded in the DWSRF program. The contents of the annual audit are

discussed in more detail under Part VI of these guidelines.

The State DWSRF program shall provide an audit on an annual basis.

Such audits shall be conducted in accordance with Generally Accepted

Government Auditing Standards (GAGAS) issued by the Comptroller General

of the United States.

The Administrator is relying on the annual audit of the DWSRF

program to minimize the risk of waste, fraud and abuse and increase the

chance that such occurrences will be detected and reported. As called

for under GAGAS, audits should be designed to provide reasonable

assurance of detecting material misstatements resulting from

noncompliance with applicable laws, regulations, contracts and grant

agreements and which have a direct and material effect on the

determination of financial statement amounts and be developed in

accordance with State audit practices established in State law. If

specific information comes to the auditor's attention that provides

evidence concerning the existence of possible noncompliance, auditors

should apply procedures specifically directed to ascertaining whether

noncompliance has occurred.

11. Assurance That the State Will Adopt Policies and Procedures to

Assure That Borrowers Have a Dedicated Source of Revenue for Repayments

(Or in the Case of a Privately Owned System, Demonstrate That There is

Adequate Security)

The State must adopt policies and procedures to assure that

borrowers have a dedicated source of revenue for the repayment of loans

and must apply these policies and procedures to the portion of the loan

that must be repaid. States must submit and receive EPA approval for

the policies prior to the award of the first project loan. States must

develop criteria to evaluate an applicant's financial ability to repay

the loan, in addition to paying for operation and maintenance costs and

other necessary expenses.

12. Assurance That the State Will Commit and Expend Funds as

Efficiently as Possible, and in an Expeditious and Timely Manner

The State must agree to commit and expend all funds allotted under

Section 1452 ``as efficiently as possible'' (section 1452(g)(3)), and

in a timely and expeditious manner. The State must enter into binding

commitments with recipients of Fund assistance equal to the total

amount of each grant payment and required State match deposited in the

Fund within one year of the grant payment. States need to work with

loan recipients to make sure that projects are funded and completed in

a timely and expeditious manner. ( See V.C.3. for additional details.)

13. Assurance That funds Will Be Used in Accordance With the Intended

Use Plan

The State must agree to expend DWSRF funds in accordance with an

Intended Use Plan (section 1452(b)) that has undergone public review

and comment. (See I.B. for additional details)

14. Assurance That the State Will Provide EPA With a Biennial Report

The State must agree to complete and submit a Biennial Report on

the uses of the DWSRF program. The scope of the report covers both the

Fund and set-aside account activities. The contents of the Biennial

Report are discussed in more detail under Part VI of these guidelines.

States which jointly administer DWSRF and CWSRF programs, in

accordance with section 1452(g)(1), may submit a report which covers

both programs. If the State elects to prepare a joint report, it may

either (1) submit a joint report in alternate years and an annual CWSRF

report in the other years or (2) submit a joint report annually.

Even though the report covers both programs, financial information

must be reported separately for each program. For example, the DWSRF

and CWSRF should be reported in separate columns in audited balance

sheets, income statements, and other financial statements.

15. Assurance That the State Will Comply With All Federal Cross-Cutting

Authorities

The State must agree to ensure that all applicable Federal cross-

cutting authorities will be complied with. (See IV.A for additional

details.)

B. Intended Use Plan

The central component of the capitalization grant application is an

IUP (section 1452(b)), which describes how the State intends to use

available DWSRF program funds for the year to meet the objectives of

the SDWA and further the goal of protecting public health.

The State must prepare the IUP, and provide it to the public for

review and comment prior to submitting it to the RA as part of its

capitalization grant application. EPA expects that the public review

and comment process that a State uses to discuss the IUP will be open

and that it will provide the public with adequate opportunity to

comment on how the State plans to use capitalization grant funds.

States should also respond to substantial comments received. The State

must include in the capitalization grant application a description of

the public review process and how it responded to major comments and

concerns.

For efficient planning and to maintain consistency in calculating

set-asides, scheduling payments and other matters, each IUP must

conform to the fiscal year adopted by the State for the DWSRF program

(e.g., the State's fiscal year or the Federal fiscal year).

In the IUP, the State must describe how it will use all funds

available to the capitalization grant, including funds that will be

allocated to the set-asides. Specifically, the IUP must describe how

all available funds, including capitalization grants, State match, loan

repayments, interest earnings, bond

[[Page 59849]]

proceeds, and other monies deposited into the DWSRF program, are

intended to be expended. States may, as an alternative, develop the IUP

in a two part process, one part that identifies the distribution and

uses of the funds among the various set-asides and the Fund and the

other part dealing only with project funding in the Fund. The two-part

process would allow a State to submit a capitalization grant

application for a portion of the DWSRF program funds before they

complete all of the specific funding decisions. In this situation, a

State would have to conduct two rounds of public review and comment--

one for the overall distribution of funds and specific details on

particular set-aside uses and the other for the priority project

list(s).

For example, assume that a State has decided to allocate 76% of its

funds to the DWSRF Fund, 10% of its funds to the source water

delineation set-aside, 4% for DWSRF administration, and 10% for the

Public Water System Supervision (PWSS) program set-aside, but the State

has not yet developed its project priority list(s). This State could

seek public review and comment on the allocation of funds and submit a

capitalization grant application for the 24% of funds that will be used

for set-aside purposes. As with all grant applications, the State would

have to include a detailed description of what the set-aside funds

would be used for. The State would then, at a later date, develop the

Fund component, including the project priority list, seek public review

and comment on this list, and then submit an amendment to the

capitalization grant application for the additional funds.

Because the Fund can only provide those types of assistance

described in section 1452(f), funds that the State will use for set-

aside activities must be placed in an account that is separate

(outside) from the Fund account.

The State must prepare an IUP as long as the Fund account and/or

set-aside account funds remain in operation, not just in those years in

which the State submits an application for a Federal capitalization

grant.

States must provide information regarding the IUP in a format and a

manner that are consistent with the needs of the RA.

1. Priority List of Projects, Including Description and Size of

Community

In accordance with Section 1452(b), States must develop a list of

projects that will receive funding in the first year after the grant

award and a comprehensive priority list of eligible projects for

funding in future years. In determining the priority of funding, a

States' ``intended use plan shall provide, to the maximum extent

practicable, that priority for the use of funds be given to projects

that:

i. Address the most serious risk to human health;

ii. Are necessary to ensure compliance with the requirements of

this Title [SDWA] (including requirements of filtration); and

iii. Assist systems most in need, on a per household basis,

according to State ``affordability criteria'' (section 1452(b)(3)).

Section 1452(a)(2) of the Act identifies eligible projects as those

projects ``which the Administrator has determined, through guidelines,

will facilitate compliance with national primary drinking water

regulations* * * or otherwise significantly further the health

protection objectives of this title.''

Taken together, these two sections clearly signal Congressional

intent that States must give maximum priority to projects needed for

SDWA compliance, projects that provide the greatest protection to

public health, and those projects which assist systems most in need on

a per household basis. States must develop a priority list that

reflects this intent and fund projects in this order, to the maximum

extent practicable. The priority system must provide sufficient detail

to permit the public and EPA to readily understand how the system has

been established and the basis for ranking individual systems. A State

that does not adhere to the above stated criteria must detail why they

were unable to do so.

This is clearly different from the provisions in the CWSRF under

which States can fund any project on the priority list regardless of

its position on the list. To comply with this Congressional directive,

EPA will annually review a States actions to see how closely the State

adheres to the priority list.

Although ``readiness to proceed'' is not an appropriate factor in

ranking projects based on their compliance and public health needs, EPA

does recognize that States will need to consider this when deciding

which projects to fund. This will be especially critical in the first

two years, because many highly-ranked projects may not be ready to

apply for assistance. Consequently, EPA will approve priority systems

that take readiness to proceed into account only for the first two

fiscal years.

The IUP list of projects to receive funding (project priority list)

must include the name of the public water system, the priority assigned

to the project, and a description of the project (including the type of

project), the expected terms of financial assistance based on the best

information available at the time the IUP is developed, and the

population of the system's service area at the time of the loan

application.

The comprehensive IUP priority list must include the priority

assigned to each project and, to the extent known, the expected funding

schedule for each project (section 1452(b)(3)(B)). A State may combine

these two lists into one list by identifying which projects on the

single list will receive funding in that year.

The State must seek public review and comment on its IUP. The IUP

project list may be amended during the year under provisions

established in the IUP as long as the project has been previously

identified through the public participation process. The IUP may also

allow for the addition of projects on an emergency basis. Such projects

would include those where some type of failure was unanticipated and

requires immediate attention to protect public health.

A State may bypass a project on the priority project list if the

State's bypass procedures have undergone public review and comment.

These bypass procedures should clearly identify the conditions which

would allow a project to be bypassed and the way the State will

identify which projects would receive the bypassed funds. If a State

elects to bypass a project for reasons other than fiscal capacity or

readiness to proceed, the State must provide a justification for this

bypass and, in each specific instance, describe why it was not

practicable to fund projects that were ranked higher on the priority

list than the funded project. In all such cases, the State must

describe its efforts to adhere to the priority list, as required by the

Act, ``to the maximum extent practicable''. States must work with

bypassed projects to ensure that the project will be eligible for

funding in the following fiscal year, to the maximum extent possible.

A State must annually use at least 15% of all funds credited to the

Fund account to provide loan assistance to systems serving fewer than

10,000 persons (section 1452(a)(2)), to the extent that there are a

sufficient number of eligible projects to fund. States must determine

the amount to be used for this provision based on the level of

available funds that the State expects to have for funding DWSRF

projects during the period covered by the IUP. A State that does not

use at least 15% of the available funds for small systems must describe

in the next IUP the steps it is

[[Page 59850]]

taking to ensure that a sufficient number of projects are identified to

meet this requirement in future years. States that exceed the

prescribed percentage of assistance to these systems in one year may

bank the excess toward future years.

2. Description of Criteria and Method Used for Distribution of Funds

The IUP must describe the criteria and method that the State will

use to distribute all funds. This description shall include: (1) The

process and rationale for distribution of funds between the Fund and

the set-aside account, (2) the process for selection of systems to

receive assistance, (3) the priority and allocation of assistance the

State gives to different eligible categories of projects, (4) the

rationale for providing different types of assistance and terms (e.g.,

length of repayment, interest rate), including a description of the

financial planning process undertaken by the Fund, and (5) the impact

of all funding decisions (e.g., set-aside, disadvantaged communities)

on the long term financial health of the Fund.

3. Description of the financial status of the DWSRF Program

The IUP must include a description of the financial status of the

DWSRF Program. This description should detail: The total dollar amount

in the Fund; the total dollar amount used as set-asides, including the

level of funds banked; the types of projects to be funded; and the

amount of the capitalization grants that will be used for disadvantaged

community assistance. The IUP should include factors such as expected

estimated loan demand, whether the State will leverage, and other

factors that determine the short-term and long-term focus and health of

the program.

4. Description of the short- and long-term goals of the DWSRF Program

The IUP must describe the short term goals of the DWSRF program,

including how the capitalization grant funds will be utilized to ensure

compliance and protect public health goals of the Act.

The IUP must also describe the objectives of the DWSRF program over

the long-term, and how these objectives can be realized. These

objectives include public health, compliance with the Act, assisting

systems to ensure affordable water and maintaining the long-term

viability of the Fund. The IUP should include a description of how the

DWSRF program funds will be used to support other components of the

State drinking water and ground water programs, including water system

restructuring, capacity building, operator certification, source water

protection, and wellhead protection.

5. Description of amounts transferred between the DWSRF and the CWSRF

The Governor of a State may transfer up to 33% of the DWSRF

capitalization grant to the CWSRF or an equivalent amount from the

CWSRF to the Fund, starting a year after the State has received its

first DWSRF capitalization grant (project funds), but no later than the

beginning of FY 2002 (section 302 of Pub. L. 104-182). EPA will provide

additional guidelines concerning these fund transfers at a later date.

6. Description of the set-aside activities, and percentage of funds,

that will be funded from the DWSRF capitalization grant, including

DWSRF administrative expenses allowance, PWSS program support,

technical assistance, etc.

The IUP must identify what portion of the capitalization grant a

State is electing to use for set-aside activities (e.g., section

1452(g)(2), section 1452(k)), and place those funds in a set-aside

account. The set-aside account must be dedicated to supporting the

other activities authorized in section 1452. The IUP must describe how

the funds in the separate account(s) will be used and provide a

schedule for their expected use. A State must describe how it intends

to use the funds and the expected accomplishments that will result from

use of the funds for a given purpose. For project set-aside funds, the

State must describe, at a minimum, the process by which projects will

be selected and how the funds will be distributed.

Recipients of 1452(k) land acquisition or source water protection

loans are required to repay the loans in the same manner as loans from

the Fund. The State may place the repayments in the Fund or it may set

up a separate account to continue funding eligible 1452(k) loan

activities. Subsequent loans from this separate account must meet the

same requirements as loans from the Fund.

7. Description of how a State disadvantaged community program will

define a disadvantaged system and the amount of DWSRF funds that will

be used for this type of loan assistance

A State may provide additional loan subsidies, including

forgiveness of principal, to disadvantaged communities receiving Fund

loans (section 1452(d)). If the State establishes a disadvantaged

community program it must describe in the IUP how the program will

operate. Using the best information available at the time of the IUP,

this description must include: (1) A definition of disadvantaged

community, (2) the total amount of the capitalization grant that may be

used for providing additional subsidies, (3) to the maximum extent

practicable, an identification of systems that will receive additional

subsidies and the amount and (4) a description of affordability

criteria that the State will use to determine the level of principal

forgiveness.

The value of loan subsidies a Fund provides during the fiscal year

adopted by the IUP under this provision cannot exceed 30 percent of the

amount of the capitalization grant for that year (1452(d)(2)). Loan

subsidies under this provision cannot be banked for future use.

C. Capitalization Grant Agreement

The Capitalization Grant Agreement (CGA) is the principal

instrument by which the State commits to manage its DWSRF program, and

to ensure that it conforms with the requirements of the SDWA Amendments

of 1996. The CGA contains, or incorporates by reference, the following

parts of the agreement: the application; the IUP; the agreed upon

payment schedule; certifications or other agreement requirements

discussed in the first section; the operating agreement, if used, and

other documentation required by the RA. In addition to these

requirements, the CGA must also define the types of performance

measures, reporting requirements, and oversight responsibilities that

will be required to determine compliance with section 1452. Agreement

is also needed on the contents of the Biennial Report, annual audit,

and the EPA review. Table 1 describes how each of the following

assurances and CGA requirements must be addressed.

The capitalization grant agreement must also describe the process a

State will use to ensure that systems have the technical, financial,

and management capacity to operate the system before receiving a loan.

If a system in non-compliance is going to receive a loan, the State

must describe how the system has changed or will change its operation

over the long-term.

A State may also place into a separate, non-project administration

account, loan application fees or other program fees or assessments

that a DWSRF program collects from loan recipients to help offset the

cost of running the DWSRF program. Because these fees and assessments

would be considered program income under the Agency's general grant

regulations (40 CFR 31.25),

[[Page 59851]]

the grant agreement must specify that they will be used for purposes

directly related to the DWSRF program, that they will not be made

available for other purposes and that they will be properly accounted

for in the annual audit. The IUP must identify the amount of any fees

that are placed in the non-project administration account and describe

how they are used.

D. Operating Agreement

The framework and procedures of the DWSRF program that are not

expected to change annually may be described in an Operating Agreement

(OA) that can be included as part of the Capitalization Grant

Agreement. The grant application and subsequent grant agreement may

incorporate by reference relevant portions of the previous year's

application. If there are proposed changes to the OA, the State will

need to negotiate changes with the Region that may be necessary prior

to submitting the next capitalization grant application.

The decision to prepare an OA does not entail additional program

requirements, demonstrations or documentation. The OA simply describes

the structure of the State's program, explains its goals and

objectives, and includes review, overview, accounting, auditing and

sanction provisions. Upon the successful completion of negotiations,

the OA must be signed by the State signatory to the CGA and the

Regional Administrator. On an annual basis, the OA must be supplemented

with an Intended Use Plan that identifies the projects and activities

that the State plans to support with financial assistance from the

fund. Based on the OA and the Intended Use Plan, the Region will award

a capitalization grant to the State. Regions and States that choose

this alternative method of program implementation may find that it

facilitates their program management capability.

II. Allotment/Use of Funds

Section 1452(m) authorizes a total of $9.6 billion for the DWSRF

program from FY 1994 through FY 2003. This section describes allotment,

reallotment, and withholding of these funds; national and State set-

asides; and types of financial assistance available from the Fund.

A. Allotment/Reallotment/Withholding of Funds

1. Allotment Formula

Funds available to States from FY 1997 appropriations will be

allotted according to the formula used for distributing Public Water

System Supervision (PWSS) grants under section 1443 in FY 1995. Funds

available to States from FY 1998 appropriations and beyond will be

allotted according to a formula that reflects the needs identified in

the most recent Needs Survey conducted pursuant to section 1452(h). In

each case, the minimum proportional share established in the formula

that each State will receive will be one percent of the funds available

for allotment to all the States. The District of Columbia will also

receive a one-percent share of available funds (section 1452(a)(1)(D)).

The Virgin Islands and the Pacific Island territories will together

receive an allotment of 0.33 percent (section 1452(j)).

2. Period of Availability and Reallotment

Funds are available to the States during the fiscal year in which

they are authorized and during the following fiscal year (section

1452(a)(1)(C)). The amount of any allotment not obligated to the State

at the end of this period of availability will be reallotted among

other States according to the original formula used to allot these

funds (FY 1997 funds: PWSS formula; FY 1998 funds and beyond:

appropriate Needs Survey). Any State that has not obligated all of the

funds allotted to it in the period of availability shall not be

eligible to participate in the reallotment of funds for that particular

fiscal year. The Administrator may reserve up to 10 percent of the

funds available for reallotment to provide additional assistance to

Indian tribes (section 1452(a)(1)(E)).

3. Withholding of Funds

a. The Administrator will withhold funds under the following

provisions:

i. Capacity Development Authority--The Administrator will withhold

20% of a State's allotment unless the State has obtained the legal

authority or other means to ensure that all new community water systems

and new nontransient, noncommunity water systems commencing operation

after October 1, 1999, demonstrate technical, managerial, and financial

capacity with respect to each drinking water regulation in effect. This

withholding provision becomes effective in FY 1999, which begins

October 1, 1998. For any capitalization grant applications awarded

after October 1, 1998, but before October 1, 1999 (FY 1999 funds), EPA

will not obligate 20 percent of capitalization grant funds allotted to

a State that does not have adequate authority in place. If a State

documents by September 30, 1999, that the authority is in place to

ensure that new systems demonstrate adequate capacity, then EPA will

award the unobligated FY 1999 funds. If a State does not have the

authority in place by September 30, 1999, it will lose the 20 percent

of FY 1999 funds that were not awarded originally. EPA will withhold

20% of each successive capitalization grant allotted to a State and the

withheld funds will be reallotted. The withholding provision will cease

to apply to federal funds appropriated starting the next fiscal year

after a State obtains the required authority.

ii. Capacity Development Strategy--The Administrator will withhold

funds from any States that are not developing and implementing a

strategy to assist public water systems in acquiring and maintaining

technical, managerial, and financial capacity. The amount of a State's

allotment under section 1452 that will be withheld on October 1 of each

fiscal year is 10 percent of FY 2001 allotments, 15 percent of FY 2002

allotments, and 20 percent of each subsequent year's allotments. The

determination of when the State meets the requirement will occur on

October 1 of each year. States not meeting the requirement for that

fiscal year's federal appropriation will lose funds to reallotment

regardless of when the State submits the capitalization grant

application. Funds will no longer be withheld once a State develops and

implements its capacity development strategy. The withholding provision

will cease to apply to federal funds appropriated starting the next

fiscal year after a State obtains the required authority. EPA plans to

issue separate guidelines for States to use in developing these

strategies.

The total amount of funding that will be withheld if a State fails

to meet the requirements of both of the capacity development provisions

is 20 percent of the capitalization grant (section 1452(a)(1)(G)(i)).

iii. Operator Certification Program--The Administrator will

withhold 20% of a State's funds unless the State has adopted and is

implementing a program for certifying operators of community and

nontransient, noncommunity public water systems. This withholding

provision will begin two years after the Administrator publishes

guidelines for certification of operators. The Administrator is

required to publish guidelines no later than February 6, 1999. The

withholding provision will cease to apply to federal funds appropriated

the next fiscal year after a

[[Page 59852]]

State complies with the requirement (section 1452(a)(1)(G)(ii)).

b. Reallotment of withheld funds.

All funds withheld from a State because the State does not have the

capacity development authority, does not develop and implement a

capacity development strategy, and/or does not develop and implement an

operator certification program, will be reallotted, using the same

formula that was originally used to allot those funds. A State that has

funds withheld for any one of these three activities is not eligible to

receive reallotted funds for that activity. Thus, if a State does not

develop an operator certification program but does have a capacity

development strategy, the State would be eligible to receive a

reallotment from withheld funds from States without capacity

development programs but would not be eligible for reallotted funds

under the operator certification provision. A State would also have to

be eligible to receive reallotted funds in accordance with the

reallotment provisions in section 1452(a)(1)(E) prior to being eligible

to receive reallotted funds under the specified withholding provisions.

This section limits reallotment to those States that have obligated all

of their allotment during the period of availability.

c. Loss of primacy.

A State may not receive capitalization grant funds if the State had

primary enforcement authority (primacy) for drinking water pursuant to

section 1443 (section 1452(a)(1)(F)) on the date of enactment of the

Safe Drinking Water Amendments of 1996 (August 6, 1996) and the State

subsequently loses primacy. A State would not be eligible for future

capitalization grants until primacy is restored. Wyoming and the

District of Columbia did not have primacy prior to August 6, 1996.

However, the law provides that they are eligible to receive DWSRF

funds. The Administrator may reserve funds from the allotment of a

State that loses primacy for use by EPA to administer primary

enforcement responsibilities in that State. The balance of the funds

not used by EPA to administer primacy will be reallotted to other

States pursuant to section 1452(a)(1)(E).

B. Set-asides From the National Appropriation and Ceilings on State

Allotments

Section 1452 authorizes numerous national set-sides from the

appropriation for that section and allows States to use certain

percentages of their allotment for various purposes other than project

construction. Table 2 provides an overview of the available set-asides.

Table 3 presents a flow chart for calculating these set-asides and

Table 4 gives a numerical example of the set-asides. States need to

determine the level of funds necessary to evaluate short-term program

needs to protect public health and prevent contamination versus the

long-term need to maintain an adequate level of infrastructure to

address system needs over the long-term.

1. National Set-Asides

The National set-asides are reserved from the funds annually

appropriated by Congress to carry out section 1452. These set-asides

are:

a. Indian Tribes/Alaska Native Villages. The Administrator may

reserve (the Administrator will provide these funds) 1.5% from annually

appropriated funds for grants to Indian Tribes and Alaska Native

Villages (section 1452(i)). EPA will provide separate guidelines

regarding the selection of projects, project management, and program

oversight for these grants. Indian Tribes and Alaska Native Villages

that have not otherwise received either grants or DWSRF assistance

under 1452 for a specific project are eligible to receive grants under

this provision.

b. Health effects studies. Section 1452 requires the Administrator

to reserve $10 million from annually appropriated funds to conduct

health effects studies on drinking water contaminants (section

1452(n)).

c. Unregulated contaminant monitoring. Starting in FY 1998, section

1452 requires the Administrator to reserve $2 million from annually

appropriated funds (section 1452(o)) to pay for the costs of monitoring

unregulated contaminants under section 1445(a)(2)(C).

d. Small system technical assistance. The Administrator may reserve

up to 2% of the funds annually appropriated in FYs 1997-2003 to carry

out the technical assistance provisions of section 1442(e) to the

extent that the total amount of funding appropriated under section 1442

is not sufficient. The set-aside from section 1452(q) plus the

appropriation in 1442(e) cannot exceed $15 million per year (section

1452(q)).

e. Operator training reimbursement. The Administrator will

reimburse States for the costs of training and certifying operators of

drinking water systems serving 3,300 persons or fewer to meet the

requirements of guidelines that the Administrator must publish by

February 6, 1999 (section 1419(a) and (d)). The Congress has authorized

to be appropriated $30 million annually from FY 1997 through FY 2003

for these reimbursement costs (section 1419(d)(3)). If the

appropriation is not sufficient to meet these requirements, the

Administrator, prior to allocating funds to the States, shall reserve

such sums from 1452(m) as are necessary to provide grants to States.

Funds under this provision are set-aside prior to the allotment of

funds to the States, and will be provided as a separate grant.

2. Allotment for D.C. and Other Jurisdictions

The Administrator shall reserve one percent of the funds allotted

to the States for the District of Columbia. The administrator shall

also reserve up to 0.33% of the total funds allotted to the States for

grants to the Virgin Islands, the Commonwealth of the Northern Mariana

Islands, American Samoa, and Guam (section 1452(j)). The funds will be

allotted according to the formula for allotting PWSS grants under

section 1443(a)(4), and may be used to fund projects eligible for

assistance under section 1452(a)(2). EPA will provide separate

guidelines regarding the management of these set-asides.

3. State Set-aside Activities

Section 1452 authorizes States to provide funding for certain set-

aside activities, described below, provided that the amount of that

funding does not exceed ceilings specified in the Statute. A State must

describe in the IUP the amount of funds that it will use for these

activities. A set-aside account must be set up to accept these funds.

Before cash can be drawn down from the federal ACH, a State must

provide a workplan to EPA describing how the funds will be expended.

When set-asides are used to fund program (non-project) activities,

the State and EPA must negotiate a workplan indicating how funds will

be spent. No cash draws will be authorized from the federal ACH until

the workplan(s) have been approved by EPA. While EPA reserves the right

to require additional information from the States, the workplan should

at a minimum include:

The funding amount in dollars and as a percentage of the

State DWSRF allocation;

The number of FTEs projected for implementing each set-

aside;

The goals and objectives, outputs, and deliverables for

each set-aside;

A schedule for completing activities under each set-aside;

The responsibilities of the agencies involved in

implementing each set-aside;

A description of the evaluation process to assess the

success of work funded under each set-aside.

[[Page 59853]]

If a State does not expend all of its set-aside funds, a State may

redirect the monies to the Fund, or it may redirect the funds to

another set-aside activity as long as the maximum allowed for that

activity has not been reached for the Fiscal Year from which the funds

were derived. Set-aside funds may not be used to subsidize water system

operation and maintenance expenses or for project activities eligible

for funding from the Fund or those projects specifically not eligible

for assistance from the Fund.

a. DWSRF administrative expenses. A State may use up to four

percent of the funds allotted to it for the reasonable costs of

administering the programs under section 1452 and providing technical

assistance (section 1452(g)(2)). These costs may include such

activities as issuing debt; DWSRF program start-up costs; audit costs;

financial, management and legal consulting fees; development of IUP and

priority ranking system; development of affordability criteria; and

cost of support services provided by other State agencies.

Expenses incurred issuing bonds guaranteed by the Fund may be

absorbed by the proceeds of the bonds and need not be charged against

the four percent administrative costs allowance, if done so prior to

depositing the proceeds into the Fund. The net proceeds of those issues

must be deposited in the Fund.

Funds that a State chooses to use for administrative purposes

cannot be deposited into the Fund. Instead, these funds must be

deposited into a separate account, or with other non-project funds.

The State may charge an application fee to process, manage or

review an application for Fund assistance. Such fees may be collected

in an account outside the Fund and used to supplement administrative

expenses. Monies in this non-project fee account must be dedicated to

the administrative purposes associated with the DWSRF program. If fees

are collected and deposited into the Fund account, they are subject to

the stipulated uses of the Fund, which does not include the use of

funds for administrative purposes.

States may recover reasonable costs associated with the development

of the DWSRF program, if the costs were incurred between August 6,

1996, the date of enactment of the SDWA Amendments of 1996, and the

date on which the first capitalization grant for a State was awarded.

Documented reimbursement costs will be counted as part of the amount,

up to four percent, that a State can set aside for administrative

purposes.

If the State does not obligate the entire four percent for

administrative costs in one year, it can bank the excess balance and

use it for administrative costs in later years.

b. State program management. A State may use up to a total of 10

percent of its allotment to:

Administer the State PWSS program;

Administer or provide technical assistance through source

water protection programs, which includes the Class V portion of the

Underground Injection Control Program;

Develop and implement a capacity development strategy; and

Develop and implement an operator certification program

(section 1452(g)(2)).

The State must provide a dollar for dollar match (100 percent for

up to 10 percent of the capitalization grant) for capitalization grant

funds used for these purposes. This match is separate, and in addition

to, the 20 percent match for the capitalization grant. At least one-

half of the State match funds provided by the State must be in addition

to the amount the State expended for the PWSS program in FY 1993 (see

example on following page). Federal grant regulations preclude a State

from using the same State funds to meet match requirements for two

different programs. Thus, the same State dollar cannot be used to meet

this match requirement and the match requirement in section 1443 of the

SDWA (PWSS program grants), except that the FY 1993 match for the PWSS

can offset up to one-half of the match required under section 1452 (g).

Funds used to administer or provide technical assistance for source

water protection programs shall not be used for enforcement actions.

States may credit toward the one-to-one match State dollars used for

the PWSS program that are in excess of the current fiscal year State

match required in section 1443. States may also credit current year

expenditures on capacity development and operator certification

programs toward the State's required match.

If the State does not obligate the entire 10 percent for these

activities in any one year, it can bank the excess balance and use it

for the same activities in later years.

c. Small systems technical assistance. A State may use up to two

percent of its allotment to provide technical assistance to public

water systems serving 10,000 people or fewer (section 1452(g)(2)). If

the State does not use the entire 2 percent for these activities

against a given allotment, it can bank the excess balance and use it

for the same activities in later years. If a State chooses to use funds

under this set-aside, EPA encourages States to use available funds to

support small system efforts to apply for DWSRF loans. A State may use

these funds to support a technical assistance team or to contract with

outside organizations to provide technical assistance.

d. Local assistance and other State programs. A State may fund

several other categories of activities to assist development and/or

implementation of local drinking water protection initiatives (section

1452(k)). A State may use up to 15% of the capitalization grant amount

for specified uses below, with the stipulation that not more than 10%

of the capitalization grant amount can be used for any one activity. A

State is not allowed to bank any of these funds for use in future

years, with the exception of the funds used for source water

delineation and assessment.

Funds loaned out under this section (i and ii) must be repaid in 20

years after completion of a project. States may place repayments in the

project fund or set up a new, separate dedicated account(s) for

1452(k)(1) activities. Assistance from this separate account(s) may

continue to be used for any eligible 1452(k)(1) activity.

State Program Management Match Example

Assume a State will receive a $10 million capitalization grant, and

it would like to use 10% of the funds for this set-aside, which is $1

million. The State must match it with $1 million in State funds.

According to the Statute, a State may receive credit for certain

expenditures in FY 1993 and the current year being discussed, in lieu

of having to match entirely with new appropriations. One important

reminder is that at least one-half of the funds must be in addition to

the amount expended by the State for the PWSS program in FY 1993.

------------------------------------------------------------------------

FY 1993 FY 1997

------------------------------------------------------------------------

PWSS grant.................................... $900,000 $1,200,000

State match for PWSS match.................... 300,000 400,000

Additional State funds........................ 200,000 300,000

------------------------------------------------------------------------

Determination of State Credit

In lieu of providing funds for part or all of this match provision,

many States may be able to credit current funds that a State is using

for its PWSS program or other eligible funding. The Statute allows a

State to use funds expended for

[[Page 59854]]

the PWSS program that are above and beyond the required PWSS State

match, for both the current year ($300,000 for FY 1997 in this example)

and in FY 1993 ($200,000 here). In addition, a State may credit the

funds that the State is using for the State PWSS match portion in FY

1993 only ($300,000). Thus, in this example, you first look at the

$300,000 from FY 1997, since the Statute requires that at least 50% of

the total match come from the current year (FY 1997 in this example).

The State could then potentially use up to $500,000 ($200,000 +

$300,000) from FY 1993. However, in this example, the State would be

limited to the use of $300,000 credit in FY 1993, due to the limitation

of having only $300,000 of credit available in FY 1997. Thus, the State

could use a total of $600,000 without providing new appropriations or

other in-kind services. If the State wants to use the remaining

$400,000 ($1 million less $600,000 already matched) in eligible set-

aside funds, the State would need to provide an additional $200,000 or

an equivalent amount of in-kind services. This additional $200,000 in

FY 1997 would allow the State to use the additional $200,000 of unused

credit from FY 1993. Thus, the State could take advantage of the full

10% set-aside with only a small amount of new funding or other in-kind

contributions. In-kind services could include funds that the State

currently expends on operator certification or capacity development

programs. The State could also choose to simply use only $600,000 if no

additional funding could be secured.

Second Example

Using the above example, if the State provided no funding for the

PWSS program above the $400,000 State match in FY 1997, the allowable

credit for FY 1997 would be zero. Thus, the State could not receive

credit for FY 1993 allowable credits without providing State

contributions in addition to the PWSS State match in FY 1997. This is

due to the requirement that at least one-half of the funds be in

addition to funding since 1993. For each new dollar the State provides,

up to $500,000, the State could match it with eligible credits from the

FY 1993 expenditures described in the example above. Thus, in order to

use the full $1 million set-aside in this example, a State would have

to provide $500,000 in new funding or in-kind services.

Third Example

Again using the above example, if the State provides $600,000 for

the PWSS program above the State match requirement in FY 1997 (versus

$300,000 as stated above), the State could use the $600,000 from FY

1997 and use $400,000 from FY 1993 as credit for the State match. In

this example, the State would not have to provide any additional match

in cash to take full advantage of this set-aside.

i. Assistance to a public water system to acquire land or a

conservation easement for source water protection purposes:

A State may provide assistance, only in the form of a loan, to a

public water system to acquire land or a conservation easement from a

willing party for the purpose of protecting the system's source

water(s) and ensuring compliance with national drinking water

regulations.

If a State elects to use this set-aside, the State shall develop a

priority setting process, or use an established priority setting

process that meets the same goals, to decide what land or easements can

be purchased. The process must include a requirement that public water

systems demonstrate how the land or easements to be purchased will

directly promote public health protection and/or compliance with

national drinking water regulations. The State must seek public review

and comment on this process. Furthermore, the State must identify

specific parcels of land or easements purchased in the Biennial Report.

ii. Assistance to a community water system to implement voluntary,

incentive-based source water quality protection measures:

A State may make a loan to assist a community water system

implement voluntary, incentive-based source water protection measures

in areas delineated under a source water assessment program described

in section 1453 and for source water petitions. Only community (as

opposed to noncommunity) water systems are eligible for this

assistance. A State may establish a source water petition program and

receive petitions from owners/operators or local governments requesting

State assistance in the development of a voluntary, incentive-based

partnership among systems, local governments, and others likely to be

affected by the management measures. Only pathogenic organisms,

chemicals in source water at levels above a drinking water standard, or

chemicals that are not reliably and consistently below the drinking

water standard can be identified as contaminants in a petition.

If a State elects to use this set-aside, the State must develop a

list of systems that will receive loans, giving priority to projects

that promote compliance and public health protection, and then seek

public review and comment on this list.

iii. Provide funding to delineate and assess source water

protection areas:

A State may use up to 10 percent of its FY 1997 capitalization

grant to delineate and/or assess source water protection areas for

public water systems in accordance with section 1453. Assessments

include the identification of potential sources of contamination within

the delineated areas. These assessment activities, which primacy States

are required to undertake, are limited to the identification of

contaminants regulated under the SDWA, or unregulated contaminants,

selected by the State, at its discretion, when the State determines

that they may pose a threat to public health. Funds set aside for this

purpose shall be obligated by the State within four fiscal years after

the State receives the grant from which the funds are set-aside.

Funds are available from the capitalization grant only for FY 1996

and FY 1997 to delineate and assess source water protection areas in

accordance with section 1453.1 Since there are no FY 1996

funds available for the DWSRF program, FY 1997 is the only year when

funds will be available for this important activity. EPA encourages

States to determine the level of activity necessary to delineate and

assess their source water protection areas, and determine the level of

funding necessary to complete these activities. If needed, States

should take up to 10 percent of fiscal year capitalization grant

allowed by law. EPA will review the State's determination as part of

the capitalization grant application review.

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\1\ States may use funds from this set-aside for the development

of Total Maximum Daily Loads (TMDL's) in limited circumstances. The

State must establish a policy of allowing use of set-aside funds to

develop TMDL's only if a clear cause and effect relationship can

demonstrate that development of the TMDL is essential to public

health protection and continuing compliance with national primary

drinking water regulations. Funding TMDL's through source water set-

asides is only eligible if it will prevent or reduce source water

contamination or enhance the efficiency of the drinking water

treatment process. In this context, TMDL activity should be weighed

against other source water assessment and delineation priority

activities. State source water assessment programs submitted to EPA

that propose to include TMDL activity shall ensure that the

development of TMDL's does not delay the completion of the source

water assessments.

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iv. To support the establishment and implementation of wellhead

protection programs:

The State may make expenditures from the set-aside account to

establish and implement wellhead protection

[[Page 59855]]

programs (WHP) under section 1428. Funds can be used to establish a WHP

program, which a State must then submit to the EPA Region for approval.

The WHP activities to be funded must be identified in the IUP.

v. To provide funding to a Public Water System to implement a

technical or financial assistance under the capacity development

strategy:

A State may provide assistance to a public water system as part of

a capacity development strategy under section 1420(c).

e. Movement of funds between the Fund and set-aside account after

award of capitalization grant. If provided for in the IUP, a State may

move funds among set-aside activities or from the set-aside account(s)

to the Fund after receiving an approved amendment to the capitalization

grant. Once payments have been made (according to the schedule outlined

in the capitalization grant award), the project funds will be

considered part of the Fund and may only be used for the authorized

purposes.

f. Transfer of funds. Section 302 of the SDWA Amendments of 1996

allows a State to transfer up to 33% of the capitalization grant made

to a State under section 1452(m) to the CWSRF or an equivalent amount

from the CWSRF to the DWSRF. This transfer is at the Governor's

discretion and cannot occur until at least a year after the State has

received its first DWSRF capitalization grant. EPA plans to issue

guidelines at a later date concerning this transfer provision.

C. Types of Financial Assistance That the Fund May Provide

A Fund may make loans for project construction, purchase or

refinance local debt obligations, guarantee or purchase insurance for

local debt issues, provide revenue for or secure State bonds if the

proceeds of the bonds are deposited in the Fund, and earn interest on

Fund accounts (section 1452(f)).

1. Loans

A Fund may make loans with interest rates that are less than or

equal to the market interest rate, including zero percent loans. The

State is responsible for identifying in the IUP the method it will use

to determine the ``prevailing'' market interest rate at the time a

particular loan is executed with an assistance recipient. As part of

its capitalization grant application, the State should outline its

policy with respect to interest rate terms for various potential

categories of assistance recipients.

A State may issue separate loans for planning, design, and

construction costs. If the State had made prior loans to a recipient,

the Fund may ``roll over'' the separate loans into a subsequent loan

for construction. A State may also provide ``incremental'' assistance

to finance a multi-year construction activity (e.g., for particularly

large, expensive projects).

a. Repayment of loan. Assistance recipients (borrowers) must begin

repayment of the loan(s), as provided in the loan agreement, not later

than one year after completion of the project. A project is considered

complete when the operations are initiated or are capable of being

initiated. Recipients must complete loan repayment not later than 20

years after the completion of the project. However, States which

establish a disadvantaged community loan program pursuant to section

1452(d) may provide loans to qualified recipients for up to 30 years,

as long as the period of the loan does not exceed the expected design

life of the project.

b. Dedicated repayment source. Each loan recipient (except for

disadvantaged subsidy portion) must establish a dedicated source of

revenue (or in the case of a privately owned system, demonstrate that

there is adequate security) for repayment of the principal and interest

due on the loan which is consistent with local ordinances and State

laws. In most cases, this will be a pledge of revenues from user

charges, while for privately owned systems, it could include the pledge

of accounts receivable and proceeds therefrom.

c. Financial security of privately-owned systems. Eligible water

systems that are privately owned must demonstrate that there is

adequate security to assure repayment of the loan. In some cases a

State may determine that it is appropriate to require such systems to

provide credit enhancements, to pledge a variety of collateral, and/or

to provide other types of security, such as corporate or personal

guarantees.

d. Financial, technical, and managerial capability analysis. The

State shall review the overall financial capability of the recipient to

repay the loan as well as technical and managerial capability of the

assistance recipient to maintain compliance with the SDWA (section

1452(a)(3)(A)(i)). Findings of the financial capability analysis may be

used to determine the terms of assistance for applicants. The State may

not provide assistance to any system that does not have the technical,

managerial or financial capability to ensure compliance with the SDWA

or is in significant non-compliance with any drinking water standard or

variance. However, if assistance will ensure compliance or if the

system's owner or operator agrees to take appropriate measures to

ensure that the system has the necessary capability, the State may

provide assistance.

e. Disadvantaged communities. A Fund may provide additional loan

subsidies (e.g., principal forgiveness, negative interest rate loans)

to benefit communities meeting the definition of ``disadvantaged'' or

which the State expects to become disadvantaged as a result of the

project. A ``disadvantaged community'' is one in which the entire

service area of a public water system meets affordability criteria

established by the State after public review and comment (section

1452(d)). The Administrator shall publish information, within 18 months

after enactment of the SDWA amendments, to assist States in developing

affordability criteria. EPA will undertake this effort in consultation

with States and the Rural Utilities Service.

The State should take its affordability criteria into account when

deciding the level of subsidy a disadvantaged community will receive,

in order to make the loan affordable. Where capability of the system is

an issue, the State must ensure that, prior to necessary funding and

any other actions, the system has adequate financial, technical and

managerial capability to maintain compliance.

The value of subsidies that a Fund provides during a particular

fiscal year's capitalization grant cannot exceed 30 percent of the

amount of the capitalization grant for that year (1452(d)(2)).

Subsidies under this provision cannot be banked for future use.

f. Project funding for small systems. The Statute requires that a

State use a minimum of 15 percent of all dollars credited to the Fund

to provide loan assistance to small systems that serve fewer than

10,000 persons. The 15 percent minimum is based on the level of DWSRF

funds that the State expects to have available for funding in the

fiscal year addressed by the IUP.

2. Buy or Refinance Existing Debt Obligations

A Fund may buy or refinance debt obligations of municipal,

intermunicipal or interstate agencies, where the initial debt was

incurred and construction started after July 1, 1993 (section

1452(f)(2)). Private systems are not eligible for refinancing under

section 1452(f)(2). Refinancing may entail purchasing existing

municipal debt such that the proceeds of the transaction

[[Page 59856]]

may be used to call the bonds. This provision is intended to encourage

projects to proceed using their own means of financing in advance of

the availability of Fund assistance, by offering the prospect of

project refinancing at better financial terms at a later date.

Projects incurring debt and initiating construction between July 1,

1993 and the effective date of a State capitalization grant must meet

the eligibility requirements of section 1452 to be eligible for

refinancing. Where the original debt for a project was in the form of a

multi-purpose bond incurred for purposes in addition to eligible

purposes under section 1452, a Fund may provide refinancing only for

eligible purposes, not for the entire debt.

If a State has credited repayments of loans made under a pre-

existing State loan program as part of its State match (see V.A.), the

State cannot also refinance the projects under the DWSRF. If the State

has already counted certain projects toward its State match which it

now wants to refinance, the State must provide replacement funds for

the amounts previously credited as match.

The State should seek the advice of bond counsel or tax attorneys

to ensure that these refinances do not conflict with Federal law.

3. Guarantee or Purchase Insurance for Local Debt Obligations

A Fund may provide assistance to improve the marketability of local

debt obligations or to reduce interest rates to attract potential

buyers of the bonds and loans (section 1452(f)(3)). These credit

enhancements may take the form of guarantees or purchases of insurance,

which are available from a number of insurance companies. Assistance of

this type is limited to local debt obligations that are undertaken to

finance projects eligible for assistance under section 1452.

4. A Source of Revenue or Security for Payment of Fund Debt Obligations

The State may use assets deposited in the Fund to ``leverage''

(i.e., increase) the total amount of funds available within the Fund

(section 1452(f)(4)). Leveraging is accomplished by using Fund assets

as a source of revenue or security for the payment of the principal and

interest on revenue or general obligation bonds issued by the State.

The net proceeds of the sale of the bonds secured by the Fund must be

deposited into the Fund.

The security may be provided by any of the assets of the Fund,

including an existing Fund balance and future revenues from loan

repayments. The State may also choose to borrow against the repayment

stream from outstanding loans made from an initial set of

capitalization grants (or part of the capitalization grant or State

match), thus increasing the financial resources of the Fund much sooner

than would otherwise be possible. Bonds may be issued by an

instrumentality of the State, including the State agency responsible

for administering the Fund.

Note that the use of a capitalization grant to leverage does not,

in and of itself, satisfy any requirements on the use of DWSRF funds.

The proceeds of the bond issue must ultimately be used for providing

loans and other assistance to satisfy the requirements of section 1452.

For the purposes of this section, ``net proceeds'' is defined as

the funds raised from the sale of the bonds minus issuance costs (e.g.,

the underwriting discount, underwriter's legal counsel fees, bond

counsel fees, financial advisor fees, rating agency fees, printing of

disclosure documents/bond certificates, trustee banks' fees, various

forms of credit enhancement and enhancement and other costs that may be

incurred by a State agency incidental to the bond issuance).

Funds in a CWSRF cannot secure bonds issued for DWSRF assisted

projects, and vice-versa, where there is the potential that assets in

one Fund could be used for a purpose not authorized by the law

establishing that Fund. Funds in a CWSRF cannot be used to cure a

default on a project receiving DWSRF assistance because it is not an

authorized type of assistance, nor is the project eligible, under title

VI of the Clean Water Act. However, States may propose other leveraging

methods relying on one or both Fund's assets where the potential for

using those assets for an unauthorized purpose does not exist. For

example, a State may use the authority to reserve one program's

capitalization grant funds under section 302 of the SDWA Amendments to

further secure a bond issued for one or both SRF programs. Such

leveraging methods must be reviewed by the Regional Office and by EPA

Headquarters before they can be implemented by the State.

5. Earn Interest on Fund Accounts

Sections 1452(c) and 1452(f)(5) authorize the State to earn

interest on Fund accounts prior to disbursement of assistance (e.g., on

reserve accounts used as security or guarantees). Dollars deposited

must not remain in the Fund primarily to earn interest. States and

municipalities should obtain the legal opinion of a bond counsel or tax

attorney with respect to using the Fund to earn interest on the

proceeds of a tax-exempt issue.

There are limits to the type of investments that a State can make

with Fund accounts. Funds not required for current obligation or

expenditure must be invested in interest bearing obligations (section

1452(c)). The authority to earn interest does not include investment

methods that earn dividends or yields other than interest. Most States

have laws that restrict the eligible investments of these fund

accounts. Furthermore, if a State engages in a leveraged program, there

may be restrictions on eligible investments in the trust indenture

securing the bonds. In certain cases, the Federal tax code may limit

the investments a leveraged program can make with fund accounts.

III. Eligible Systems and Projects

A. Eligible Systems

Drinking water systems that are eligible for Fund assistance are

community water systems, both privately and publicly owned, and

nonprofit noncommunity water systems. Federally-owned systems are not

eligible to receive Fund assistance (section 1452(a)(2)).

Fund managers should seek tax advice if they plan to issue bonds,

to ensure that the requirements of the Private Activity Use Rule are

met, particularly with regard to funding eligible private systems.

Drinking water systems that have components of their systems in

more than one State are eligible to receive funding after consultation

with the regulatory agencies involved.

B. Eligible Projects

1. Compliance and Public Health

A DWSRF may provide assistance only for expenditures (not including

monitoring, operation, and maintenance expenditures) of a type or

category which will facilitate compliance with national primary

drinking water regulations applicable to the system under section 1412

or otherwise significantly further the health protection objectives of

the Act (section 1452(a)(2)).

Projects to address SDWA health standards that have been exceeded

or to prevent future violations of the rules are eligible for funding.

These include projects to maintain compliance with existing regulations

for contaminants with acute health effects (i.e., the Surface Water

Treatment Rule, the Total Coliform Rule, and nitrate standard) and

[[Page 59857]]

regulations for contaminants with chronic health effects (i.e., Lead

and Copper Rule, Phases I, II, and V rules, and safety standards for

total trihalomethanes, arsenic, barium, cadmium, chromium, fluoride,

mercury, selenium, combined radium-226, -228, and gross alpha particle

activity).

Projects to replace aging infrastructure are also eligible if they

are needed to maintain compliance or further the public health

protection goals of the Act. Examples of these include projects to:

Rehabilitate or develop sources (excluding reservoirs,

dams, dam rehabilitation and water rights) to replace contaminated

sources;

Install or upgrade treatment facilities if, in the State's

opinion, the project would improve the quality of drinking water to

comply with primary or secondary standards;

Install or upgrade storage facilities, including finished

water reservoirs, to prevent microbiological contaminants from entering

the water system; and

Install or replace transmission and distribution pipes to

prevent contamination caused by leaks or breaks in the pipe, or improve

water pressure to safe levels.

Projects to consolidate water supplies--for example, when

individual homes or other public water supplies have a water supply

that is contaminated, or the system is unable to maintain compliance

for financial or managerial reasons--are eligible for DWSRF assistance.

The purchase of a portion of another system's capacity is eligible

for a loan, if it is the most cost-effective solution.

2. Loan Assistance to Systems That Meet the Definition in Section

1401(b)

Certain entities that deliver water through constructed

conveyances, other than piped water systems, are not currently

considered public water supplies. The SDWA Amendments would classify

such systems as public water systems unless they comply with provisions

of 1401(b).

These systems are eligible for section 1452 funds for the purposes

specified in 1401(b).

3. Land Acquisition

Land is eligible only if it is integral to a project that is needed

to meet or maintain compliance and further public health protection. In

this instance, land that is integral to a project is only the land

needed to locate eligible treatment or distribution projects. In

addition, the acquisition has to be from a willing seller. Land that is

necessary for source water protection may be eligible to receive a loan

under section 1452(k).

The cost of complying with the Uniform Relocation Assistance and

Real Property Acquisition Policies Act of 1970 (the Uniform Act) is an

eligible cost to be included in a DWSRF program loan. (See section on

cross-cutters for a more detailed discussion of the Uniform Act.)

4. Planning and Design of a Drinking Water Project

A Fund may provide assistance for the costs of project planning,

design and other related costs. The provision of assistance for design

and planning costs does not guarantee a system that the DWSRF program

will provide funding for the construction of the project. The State may

choose to combine the loan for planning and design with a construction

loan.

Costs to municipalities for preparing environmental assessment

reports may be included as part of the costs of planning a project.

Costs incurred by the State in reviewing the environmental assessments

are considered DWSRF administrative costs.

5. Restructuring of Systems That Are in Noncompliance or That Lack the

Technical, Managerial and Financial Capability to Maintain the System

A Fund may provide assistance to an eligible public water system to

consolidate with other public water system(s) only if the assistance

will ensure that the system returns to and maintains compliance with

SDWA requirements (section 1452(a)(3)(B)).

If the system does not have the technical, managerial, and/or

financial capability to ensure compliance, or is in significant

noncompliance, the system may receive assistance only if (1) the

assistance will ensure compliance, or (2) the owner or operator of the

system agrees to undertake appropriate changes in operations. These

changes include consolidation or management changes that will ensure

that the system has the technical, managerial, and financial capability

to ensure and maintain compliance with SDWA requirements. Costs

associated with consolidation, such as legal fees and water buy-in

fees, are eligible for funding.

A State should establish criteria or guidelines to help assess what

types of operational or management changes may be appropriate for a

water system. Further, a State should define when a system would be a

good candidate for physical consolidation to solve a compliance or

long-term financial issue, or when a system could consolidate by other

means, such as through management consolidation.

C. Projects Not Eligible for Funding

The Fund cannot provide funding assistance for the following

projects and activities:

Dams, or rehabilitation of dams;

Water rights, except if the water rights are owned by a

system that is being purchased through consolidation as part of a

capacity development strategy;

Reservoirs, except for finished water reservoirs and those

reservoirs that are part of the treatment process and are located on

the property where the treatment facility is located;

Laboratory fees for monitoring;

Operation and maintenance expenses;

Projects needed mainly for fire protection;

Projects for systems that lack adequate technical,

managerial and financial capability, unless assistance will ensure

compliance;

Projects for systems in significant noncompliance, unless

funding will ensure compliance;

Projects primarily intended to serve future growth.

1. Lack of Technical, Managerial and Financial Capability

A Fund may not provide any type of assistance to a system that

lacks the technical, managerial or financial capability to maintain

SDWA compliance, unless the owner or operator of the system agrees to

undertake feasible and appropriate changes in operation or if the use

of the financial assistance from the DWSRF will ensure compliance over

the long-term (section 1452(a)(3)(B)(i)). The State shall develop a

capacity program to evaluate each system to be funded to ensure it has

adequate capacity to receive funding.

2. Significant Noncompliance

A Fund may not provide assistance to any system that is in

significant noncompliance with any national drinking water regulation

or variance unless the State conducts a review and determines that the

project will enable the system to return to compliance and the system

will maintain an adequate level of technical, managerial and financial

capability to maintain compliance (section 1452(a)(3)(B)(ii)).

3. Growth

A Fund cannot provide assistance to finance the expansion of any

drinking water system solely in anticipation of future population

growth (section

[[Page 59858]]

1452(g)(3)(C)). However, assistance may be provided to address

population growth expected to occur over the useful life of the

facility to be funded. In determining whether or not a project is

eligible for assistance, the State must determine the primary purpose

of the project. If the primary purpose is to supply or attract growth,

the project is not eligible to receive DWSRF funds. If the primary

purpose is to solve a compliance or public health problem, the entire

project, including the portion necessary to accommodate a reasonable

amount of growth over its useful life, is eligible. In reviewing the

proposed project, the State should review the basis for, and

reasonableness of, the population projections.

A State must also consider the extent of current risk to public

health in establishing funding priorities. Consequently, if a project

includes substantial growth, it must be placed at the lower end of the

priority list. It would be contrary to the intent of Congress, as

reflected in the ``anticipation of growth'' provision, to fund a

project with the prospect of a substantial amount of growth ahead of a

project where a significant portion is attributable to rectifying a

current health threat.

D. Compliance Without DWSRF Funding

The inability or failure of any public water system to receive

assistance from a Fund or any other funding agency, shall not alter the

obligation of a drinking water system to comply in a timely manner with

all applicable drinking water standards and requirements of section

1452 (section 1452(l)).

IV. State/Project Level Authorities

A. Cross-Cutting Federal Authorities

There are a number of Federal laws, executive orders and

government-wide policies that apply by their own terms to projects and

activities receiving Federal financial assistance, regardless of

whether the statute authorizing the assistance makes them applicable.

These ``cross-cutting Federal authorities'' (cross-cutters) include

environmental laws such as the National Historic Preservation Act and

the Wild and Scenic Rivers Act, and social and economic policy

authorities such as Executive Orders on Equal Employment Opportunity

and government-wide debarment and suspension rules.

A few cross-cutters apply by their own terms only to the State as

the grant recipient (e.g., Drug-Free Workplace Act, Pub. L. 100-692

section 5152 et seq.), because the authorities explicitly limit their

application to grant recipients. In general, however, the cross-cutters

will apply to projects and activities receiving assistance from the

Fund.

The Fund may consist of funds from several sources: Federal grant

dollars, State match amounts, loan repayments, and, perhaps, bond

proceeds. It is therefore difficult to identify which projects are

receiving Federal financial assistance and are thus, subject to the

cross-cutters. Consequently, the cross-cutters will apply to an amount

of funds equaling the amount of the Federal grant. Requirements imposed

by the cross-cutters must be met by projects whose cumulative DWSRF

funding is equivalent to the amount of the capitalization grant

(``equivalency projects'').

The concept of equivalency was developed for the CWSRF program,

although in that program it had an additional feature. In the CWSRF

program, equivalency projects were subject to a number of specific

requirements listed in the Clean Water Act (section 602(b)(6)), as well

as the cross-cutters. In the DWSRF program, the concept of equivalency

is only used to describe which projects must comply with cross-cutters

and which must undergo a tier one environmental review (see IV.B.)

Projects funded with DWSRF monies in amounts greater than the

capitalization grant are not subject to these requirements, but States

that apply cross-cutters to projects whose cumulative funding is

greater than the amount of the Federal capitalization grant may bank

this excess to meet future requirements.

All programs, projects and activities undertaken by the DWSRF

program, including those undertaken as non-equivalency projects, are

subject to Federal anti-discrimination laws, including the Civil Rights

Act of 1964, section 504 of the Rehabilitation Act of 1973 and the Age

Discrimination Act of 1975.

Because of the similarities between the DWSRF and CWSRF programs,

and because the State plays a more substantial role in these two

programs than in other Federal assistance programs (particularly in its

relationship with assistance recipients), the method for applying

cross-cutters in the DWSRF program will be the same as that used in the

CWSRF program. The Agency will remain ultimately responsible for

ensuring that assistance recipients comply with the cross-cutters, but

will carry out this responsibility mainly through its annual oversight

and approval roles. Day-to-day responsibility for overseeing funding

recipients' implementation of the cross-cutters will fall upon the

State. For example, where a cross-cutter requires consultation with

another Federal agency, such as the U.S. Fish and Wildlife Service, the

State will take this action initially. If a compliance issue cannot be

resolved for a particular project through that consultation, then the

State must seek the Regional Office's assistance in settling the

matter. The most recent list of cross-cutters that apply is attached in

Appendix A.

B. Environmental Reviews

The environmental review principles developed for the CWSRF program

will provide the basis for the development of a State environmental

review process (SERP) in the DWSRF program. The SERP that applies to

Fund equivalency projects must be the same as the process for CWSRF

equivalency projects. Non-equivalency projects must also undergo an

environmental review, but the State may elect to apply an alternative

SERP to these projects.

1. Equivalency Projects

Equivalency projects are reviewed under a SERP that is functionally

equivalent to the review followed by the Agency under the National

Environmental Policy Act (NEPA). The State may elect to apply the

procedures at 40 CFR part 6, subpart E and related subparts, or apply

its own ``NEPA-like'' SERP for conducting environmental reviews

developed for the CWSRF program. For equivalency projects, a SERP must

contain the elements described below.

Legal foundation: The State must have the legal authority to

conduct environmental reviews of construction projects receiving Fund

assistance. The legal authority and supporting documentation must

specify:

The mechanisms to implement mitigation measures to ensure

that a project is environmentally sound;

The legal remedies available to the public to challenge

environmental review determinations and enforcement actions;

The State agency that is primarily responsible for

conducting environmental reviews; and

The extent to which environmental review responsibilities

will be delegated to local recipients and will be subject to oversight

by the primary State agency.

Interdisciplinary approach: The State must employ an

interdisciplinary approach for identifying and mitigating adverse

environmental effects

[[Page 59859]]

including, but not limited to, those associated with cross-cutting

Federal environmental authorities.

Decision documentation: The State must fully document the

information, processes and premises that influence its decisions to:

Proceed with a project contained in a finding of no

significant impact (FNSI) following documentation in an environmental

assessment (EA);

Proceed or not proceed with a project contained in a

record of decision (ROD) following preparation of a full environmental

impact statement (EIS);

Reaffirm or modify a decision contained in a previously

issued categorical exclusion (CE), EA/FNSI or EIS/ROD following a

mandatory 5 year environmental reevaluation of a proposed project; and

If a State elects to implement processes for either

partitioning an environmental review or CE from environmental review,

the State must similarly document these processes in its proposed SERP.

Public Notice and Participation: The State must provide public

notice when a CE is issued or rescinded, a FNSI is issued but before it

becomes effective, a decision issued 5 years earlier is reaffirmed or

revised, and prior to initiating an EIS. Except with respect to a

public notice of a categorical exclusion or reaffirmation of a previous

decision, a formal public comment period must be provided during which

no action on a project will be allowed.

A public hearing or meeting must be held for all projects except

for those having little or no environmental effect.

Alternatives Consideration: The State must have evaluation criteria

and processes which allow for:

Comparative evaluation among alternatives, including the

beneficial and adverse consequences on the existing environment, the

future environment and individual sensitive environmental issues that

are identified by project management or through public participation;

and

Devising appropriate near-term and long-range measures to

avoid, minimize or mitigate adverse impacts.

2. Non-equivalency projects.

The State may elect to apply an alternative SERP to non-equivalency

construction projects assisted by the Fund, provided that the process:

Is supported by a legal foundation which establishes the

State's authority to review construction projects;

Responds to other environmental objectives of the State;

Provides for comparative evaluations among alternatives

and accounts for beneficial and adverse consequences to the existing

and future environment;

Adequately documents the information, processes and

premises that influence an environmental determination; and

Provides for notice to the public of proposed projects and

for the opportunity to comment on alternatives and to examine

environmental review documents. For projects determined by the State to

be controversial, a public hearing must be held.

3. EPA approval and Review Process

The RA must review and approve any State ``NEPA-like'' and

alternative procedures to ensure that the requirements for both

equivalency and non-equivalency projects have been met. The RA will

conduct these reviews on the basis of the criteria for evaluating NEPA-

like reviews contained in appendix B to these guidelines. Because these

criteria are also used in the CWSRF program (appendix A to the CWSRF

regulations), a State may simply adopt those for the DWSRF program.

Significant changes to State environmental review procedures must be

approved by the RA. The approved SERP may be incorporated in the

State's operating agreement, if it elects to prepare one. (See I.D.

above)

States should establish administrative procedures for monitoring,

collecting and summarizing environmental review information and provide

documentation of these activities in the Biennial Report. EPA's annual

review will include a review of a sample of DWSRF projects to verify

the application and the adequacy of the SERP.

V. Funding Process

A. 20 Percent State Match

Except for FY 1997 funds, States must deposit the 20% State match

into the Fund on the date of or before receiving payments under the

capitalization grant. In general, State match deposits must be in cash.

When a State opts to use a ``letter of credit'' mechanism for its State

match, payments to this letter of credit account must be made

proportionally on the same schedule as the payments of Federal funds

(as outlined elsewhere in these guidelines) in the capitalization

grant. Monies from this State match letter of credit must be drawn into

the Fund as monies are drawn on the Federal letter of credit (known as

the automated clearinghouse account (ACH)).

When cash is drawn from the Federal ACH for the set-aside account

only, the State may deposit its proportional share into the Fund in the

form of a note receivable rather than actual cash. The note(s) must be

converted to cash prior to the time when cash is drawn from the federal

ACH to the project fund, in order to meet the State match requirement.

For grant payments made to the State from funds appropriated in FY

1997, the State may defer deposit of its matching amount to no later

than September 30, 1999. This flexibility is provided to States which

may need additional time to secure State funding for the required

matching amount. Note that even if the State defers deposit of its

matching amounts, it must identify the source of its matching funds in

the capitalization grant application and agree to provide the State

match for grant payments already received from the FY 1997

appropriations by September 30, 1999. Thus, States will have to match

the funds that have been received as payments or are drawn down in

cash, in order to reach the proportional match requirement of 20%,

before additional funds can be expended from the federal ACH.

States may acquire the matching amount from a variety of sources,

including legislative appropriations, proceeds from State issued bonds,

revenues from State taxes or assessments, and funds maintained in other

State accounts. Bonds issued by the State to derive the match may be

retired from the interest payments made to the Fund on loans awarded by

the Fund if the net proceeds from the State issued bonds are deposited

in the fund. Loan repayments including principal and interest of a loan

must be repaid to the Fund; with only the interest portion of

repayments and interest earnings of the Fund as a source of funds to

retire State bond issues that provide the State match. This flexibility

to retire State debt should not be used to the extent that it endangers

the long term financial goals and objectives, and financial condition

of the DWSRF program, as described in the IUP. If the State provides a

match in excess of the required amount, the excess balance may be

banked toward match requirements associated with subsequent

capitalization grants.

The State may already manage a dedicated revolving fund which

provides assistance for activities consistent with section 1452(a)(2)

of the SDWA. The State may credit toward its match requirement State

monies deposited into this dedicated fund between July 1, 1993 and

prior to the receipt of a capitalization grant under section 1452(a) of

the SDWA if:

(1) The monies were deposited in an SRF that subsequently received

a capitalization grant and, if the deposit

[[Page 59860]]

was expended, it was expended in accordance with section 1452 of the

SDWA;

(2) The monies were deposited in a separate fund that has not

received a capitalization grant, they were expended in accordance with

section 1452 of the SDWA and an amount equal to all repayments of

principal and payments of interest from these loans will be deposited

in the Federally capitalized fund; or

(3) The monies were deposited in a separate fund and used as a

reserve consistent with section 1452 and an amount equal to the reserve

is transferred to the Federally capitalized fund as its function is

satisfied.

B. State Match for the 1452(g)(2) Set-Aside

The State must agree to deposit into the set-aside account where

the 1452(g)(2) funds will be deposited, a dollar for dollar match, up

to 10 percent of the capitalization grant. States may acquire the

matching amounts from a variety of sources, in particular, PWSS funding

credits discussed in II.B.3.b. If additional funds are required, a

State may use legislative appropriation or other State funds.

C. Federal Funding Process

1. General

A State will receive each capitalization grant payment in the form

of an increase to the ceiling of funds available through a separate

Fund account set up in the EPA-Automated Clearing House (EPA-ACH). Cash

will be transferred to the State from the U.S. Treasury on a

reimbursement basis, after the assistance recipient has billed the

DWSRF program for work completed and the DWSRF program requests

reimbursement from EPA. The State then reimburses project assistance

recipients for costs incurred--a process known as the disbursement from

the DWSRF.

2. Schedule of Payments

A State must include a payment schedule in its capitalization grant

agreement that is based on its projection of binding commitments (see

below) and use of set-asides in the State's Intended Use Plan.

Increases in the ceiling of funds available in the EPA-ACH will be made

in accordance with the schedule of payments. All payments will be made

by the earlier of 8 quarters from the date of a capitalization grant

award or 12 quarters from the date of allotment. The schedule of

payments applies to all funds in the capitalization grant, including

those funds that are used for set-aside activities.

3. Binding Commitments

In order to demonstrate continuing progress in project (both Fund

and set-aside projects) initiation, and to further the intent of

Congress to ``commit(s) and expend(s) funds * * * as efficiently as

possible* * *'' (section 1452(g)(3)(A)), the State must agree to enter

into binding commitments to provide financial assistance under the

DWSRF program with assistance recipients. A binding commitment is a

legal obligation by the State to a recipient of assistance that defines

the terms for DWSRF assistance. The binding commitment should include a

description of the project to receive financial assistance, the

expected terms of the assistance, and expected date of project

initiation and project completion.

Binding commitments must be made in an amount equal to the amount

of each grant payment that is deposited into the Fund and State match

within one year after the receipt of each grant payment.

The State must continue to make progress in providing Fund

assistance by entering into binding commitments equaling the amount of

the grant payment and State match within one year after it receives a

grant payment. To facilitate compliance with this requirement, the

State may wish to plan for binding commitments equal to the federal

capitalization grant less the non-project set-asides plus the State

match (Federal funds only for the FY 1997 funds). Then, if some

projects are unable to proceed for unforeseen reasons, the State will

still be able to comply with the requirement. The State may make

binding commitments for more than the required amount, and bank the

``excess'' balance towards the binding commitment requirements of

subsequent grant payments.

If a State is concerned about its ability to comply with the

binding commitment requirement, it should notify the RA before it fails

to fulfill its responsibility, and propose a revised payment schedule.

4. Cash Draw

The ACH process is structured so that neither the DWSRF program nor

the assistance recipients will be required to provide interim financing

on financial transactions of the DWSRF program. Transfer procedures

have been established to ensure that cash will be in the DWSRF program

account within two days after the Agency receives a valid request for

cash draw from the State. To effect this two day transfer, the Agency

will only subject requests to account verification. The Agency will not

review DWSRF program documents (e.g., construction status of projects,

adequacy of voucher documentation) as part of the cash draw process.

Cash draws from the DWSRF-ACH are limited by the ceiling available

in the DWSRF-ACH. However, in the event of an imminent default (e.g.,

debt service payments to bondholders and resulting need for a cash draw

from a DWSRF-ACH for use as a security or guarantee), the Agency can

amend the grant agreement and payment schedule to allow the State to

draw cash immediately, up to the total amount of the DWSRF-ACH

committed to the guarantee or security. The DWSRF or the assistance

recipient must first incur a cost in order for cash to be drawn against

the DWSRF-ACH. The State may draw cash from the DWSRF-ACH for the

proportionate Federal share of eligible costs at the time those costs

have been incurred.

The following subsections describe the cash draw rules that apply

to the different types of assistance a Fund can provide.

a. Projects

i. Loans

The State may draw cash from the DWSRF-ACH when the Fund receives a

request from a loan recipient, based on incurred costs, including pre-

building and building costs.

ii. Refinance or Purchase of Municipal Debt

For completed construction, cash draws will be made at a rate no

greater than equal amounts over the maximum number of quarters that

capitalization grant payments are made, and up to the portion of the

DWSRF-ACH committed to the refinancing or purchase of the local debt.

Cash draws for incurred building costs will generally be treated as

refinanced costs. With the approval of the RA, the State may draw cash

immediately when it is prepared to refinance for up to five percent of

each fiscal year's capitalization grant or two million dollars,

whichever is greater, to refinance or purchase local debt.

For projects or portions of projects that have not been

constructed, the State may draw cash based on incurred construction

costs according to the rule for loans.

For the purchase of incremental disbursement bonds from local

governments, cash draws will be based on a schedule that coincides with

the rate at which construction related costs are expected to be

incurred for the project.

[[Page 59861]]

iii. Purchase of Insurance

The State may draw cash to purchase insurance as premiums are due.

iv. Guarantees and Security for Bonds

In the event of an imminent default in debt service payments on a

guaranteed or secured debt, the State can draw cash immediately up to

the total amount of the DWSRF-ACH that is dedicated to the guarantee or

security. If a balance remains after the default is covered, the State

must negotiate a revised schedule for the remaining amount dedicated to

the guarantee or security.

In the absence of default, the State can draw cash up to the amount

of the DWSRF-ACH dedicated for the guarantee or security based on

actual construction cost. The amount of the cash draw would be the

actual construction costs multiplied by the Federal share of the

reserve multiplied by the ratio of the reserve to either the amount

guaranteed or the proceeds of the bond issue.

In addition, in the case of a security, the State can identify a

group of projects whose value equals approximately the total of that

portion of the DWSRF-ACH and the State match dedicated as a security.

The State can then draw cash based on the incurred construction costs

of the selected projects only, multiplied by the ratio of the Federal

portion of the security to the entire security.

Where the cash draw rules discussed immediately above would

significantly frustrate a State's program, the Agency may permit an

exception to these cash draw rules and provide for a more accelerated

cash draw, where the State can demonstrate that:

There are eligible projects ready to proceed in the

immediate future with enough costs to justify the amount of the secured

bond issue;

The absence of cash on an accelerated basis will

substantially delay these projects;

If accelerated cash draws are allowed, the Fund will

provide substantially more assistance; and

The long term viability of the State program to meet water

quality needs will be protected.

When the ACH is used for securing State issued bonds, cash draws

cannot be made at a rate greater than equal amounts over the maximum

number of quarters that payments can be made. Exceptions to this

limitation are in cases of default and where cash draws are based on

construction costs for all projects.

b. Set-Asides

States may draw down federal funds for set-aside use without the

need to provide a State match in the form of cash (see V.A.). The one

exception is the required one-for-one match, where a State elects to

use up to 10 percent of the funds to be used for 1452(g)(2)(A-D). A

State must provide the match prior to or at the time the State requests

the federal funds, which is the same as the requirement for the 20

percent State match.

VI. Reporting/Review Responsibilities

Each State must submit a Biennial Report to the Administrator on

the State's activities which receive funding under section 1452.

The Administrator has determined that the Agency shall conduct

reviews of the DWSRF program on an annual basis. The Annual Review is

necessary to carry out the Agency's Federal fiduciary responsibilities

and to assure that States are implementing the program as efficiently

as possible (section 1452(g)(3)(A)). Specific elements of the Agency's

Annual Review are outlined below.

Several other programs may receive funding from the State's

allotment, including operator certification, small systems technical

assistance, source water protection, and wellhead protection. Agency

review of these other programs shall generally be conducted separately

in accordance with procedures described in program specific guidelines.

The Agency may develop additional guidelines to reflect new components

for the other eligible programs receiving funds pursuant to section

1452.

A. State Responsibilities

1. Biennial Report

The State should submit its Biennial Report to the RA according to

the schedule established in the grant agreement.

The Biennial Report should contain detailed information on how the

State has met the goals and objectives of the previous two fiscal years

as stated in the IUP and grant agreement. The Report should provide

information on loan recipients, loan amounts, loan terms, project

categories of eligible cost, and similar details on other forms of

assistance. This information should be provided in a format and a

manner that is consistent with the needs of the Regional Office. The

Report should also describe the extent to which the existing DWSRF

program financial operating policies, alone or in combination with

other State financial assistance programs, will provide for the long

term fiscal health of the Fund, attain and maintain compliance with the

Safe Drinking Water Act, and carry out other provisions specified in

the legislation.

The State must submit a detailed financial report as part of the

Biennial Report. At a minimum, the financial report shall include the

financial statements and footnotes required under GAAP to present

fairly the financial condition and results of operations.

In addition, the State must establish in its DWSRF program Biennial

Report that it has:

Reviewed all DWSRF funded projects in accordance with the

approved State Environmental Review Procedures;

Deposited its match (cash or State ACH) on or before the

date on which each grant payment was made;

Made binding commitments to provide assistance equal to

the Federal capitalization grant less set-asides funds plus the State

match funds within one year after receiving the grant payment, except

for FY 1997 (100%);

Managed the DWSRF program in a fiscally prudent manner and

adopted policies and processes which promote the long-term financial

health of the Fund(s);

Complied with Agency grant regulations (40 CFR part 31)

and specific conditions of the grant;

Complied with Federal cross-cutting authorities that apply

to the State as a Federal grantee and those which flow through to

assistance recipients;

Provided assistance only to eligible water systems and for

eligible purposes under these guidelines; and

Funded only the highest priority projects listed on the

IUP, according to their priority and readiness to proceed, and have

documented any procedures for by-passing priority projects on the IUP.

The State must provide, in the Biennial Report, all information

necessary to demonstrate that the State remains eligible to receive its

full allotment of funds provided under section 1452(m). Information on

the other eligible programs provided in the State's biennial DWSRF

program report shall not replace reporting requirements of other Agency

program-specific guidelines. At its option, the State may wish to

incorporate by reference or attach copies of the most recent copies of

other reports to the Agency describing progress under the other

eligible programs.

2. Annual Audit

The State must conduct an annual audit of the Fund, to be prepared

by the State or an independent auditor in accordance with the standards

of the

[[Page 59862]]

General Accounting Office (otherwise known as Generally Accepted

Government Auditing Standards). Set-aside monies used for projects, in

particular monies loaned out under section 1452(k)(1)(A), must also be

covered by a separate audit. Programmatic set-asides may be covered by

the Single Audit Act.

The audits must provide an auditor's opinion on the DWSRF financial

statements, a report on internal controls and a report on compliance

with laws and regulations. The audits may be conducted in conjunction

with audits conducted under the Single Audit Act. However, a State's

Single Audit report alone will not meet the DWSRF audit requirement.

Those set-asides that are not directly related to the revolving

fund should be audited under the guidelines of the Single Audit Act,

including OMB Circular A-133 and OMB's Compliance Supplement for Single

Audits of State and Local Governments.

3. Information Management System

In conjunction with the States, the Agency shall develop and

implement an information management system which includes regularly

updated data on funds available and assistance provided by the DWSRF

program. To the extent practical, this system will be coordinated with

the implementation of a similar effort in the CWSRF program. Once

developed, States will be required to provide information for the

information system. The Agency will use this information to assess the

program on a national basis and to monitor State progress in years in

which Biennial Reports are not required. In particular, the Regional

Offices will use the information to assist in conduct of the annual

reviews.

B. EPA Responsibilities

1. Annual Review of DWSRF Program

EPA will conduct annual reviews of each DWSRF program to assess the

success of each program in meeting the objectives of section 1452. The

purposes of the Annual Review are to (1) assess the success of the

State's performance of activities identified in the IUP, the State's

Biennial Report, the Operating Agreement (if used), and the DWSRF

program information management system, (2) determine how the DWSRF is

achieving the intent of section 1452 and the overall goals and

objectives of the SDWA as amended, (3) determine compliance with the

capitalization grant agreement, and (4) assess the financial status of

the Fund. The time period for conduct of Agency Annual Reviews is not

connected to the period of award of Federal capitalization grants

(i.e., Annual Reviews will continue even after Federal appropriations

are no longer available).

EPA will complete an Annual Review of the IUP and the Biennial

Report covering the same fiscal year according to the schedule

established in the grant agreement (generally within 60 days of receipt

of the Biennial Report in the year it is due, and approximately the

same date on the year the Biennial Report is not due). After reasonable

notice by EPA, the State or loan recipient shall make available to the

EPA such records as the EPA reasonably requires to review and determine

State compliance with the requirements of section 1452 of the SDWA as

amended in 1996. EPA may conduct on-site visits as needed to provide

adequate programmatic review. During years in which a State Biennial

Report is not required, the Region will, to the extent practicable,

obtain information necessary to conduct its Annual Review from the

DWSRF Information System. If necessary, the Region will request the

State to clarify information in the system or provide additional

information. Requests for such supplemental information shall be kept

to a minimum necessary for conduct of the Annual Review.

Upon completion of its Annual Review, the Region will prepare a

Program Evaluation Report (PER). The Region shall submit the draft PER

to the State for review and comment prior to preparing the final PER.

Identification and resolution of issues need not be limited to the

Annual Review process. As the Region becomes aware of issues in DWSRF

program operations, the Region shall consult with the State as

appropriate. EPA will review the adequacy of State program management

procedures and compliance with procedures as described in the State's

capitalization grant application and Operating Agreement (if used).

The following is a list of review topics which may be included as

part of the Annual Review:

Compliance/General Program Management

Compliance with capitalization grant conditions and EPA

grant regulations;

Compliance with the State assurances incorporated in the

capitalization grant agreement(s);

Consistency of DWSRF program operations with the State's

short and long term goals and objectives as reflected in the DWSRF

capitalization grant application(s) and grant agreements;

Coordination between the DWSRF program and other State

drinking water program management activities (e.g., source water

protection, wellhead protection, capacity development, assistance to

small systems);

Compliance with requirements of section 1452 (e.g.,

eligibility of recipients, types of projects, and types of financial

assistance provided);

Program administration costs; adequacy of staffing; and

Adequacy of State in filing timely ``UCC Financing

Statements'' to ensure security on loans to private systems.

Pace of Program

Status of binding commitments and progress in initiating

and completing projects;

Compliance with projections of Federal outlays and

adequacy of efforts to manage outlays, both for the current year as

well as the period covered by the Annual Review; and

Size of uncommitted fund balance.

Project Level Management

Compliance with cross-cutting Federal authorities;

Adequacy of State environmental review procedures

(including consideration of mitigation, consultation with appropriate

State and Federal environmental officials, and adequacy of project

documentation);

Adequacy of State procedures for reviewing assistance applicants'

financial (financial capability and credit analysis), managerial and

technical capabilities;

Adequacy of State procedures to review proposed dedicated

repayment sources and financial security demonstrations;

Adequacy of loan agreements (e.g., inclusion of assistance

terms; accounting, audit, and record keeping procedures; default

management provisions; and compliance with applicable State and Federal

requirements);

Adequacy of on-going State oversight of the financial,

managerial and technical capability of assistance recipients and

appropriateness of State actions to resolve areas of concern.

Consistency of assistance recipients with IUP (e.g., names

of recipients, assistance amounts, terms of assistance); and

Adequacy of construction management oversight (e.g.,

change orders, compliance with applicable labor laws, adherence to

schedule, record keeping).

[[Page 59863]]

Financial Management

Adequacy of State financial management system (including

documentation relating to Federal cash draws, deposit of State matching

funds, posting of repayments and interest earnings);

Timeliness of flow of funds to assistance recipients;

Adequacy of financial statement of the DWSRF program;

Adequacy of fund balance to meet financial

responsibilities (e.g., current operating expenses, debt service

payments, funding of reserves, long-term financial assistance needs);

Comparison of actual expenditures to budget;

Adequacy of State internal controls to prevent waste,

fraud and abuse (e.g., processing of payments, financial accounting);

Adequacy of loan portfolio management (including billing

and collections, aging of accounts, actions to prevent payment

default);

Repayment record, including defaults and potential for

defaults;

Mix and relative risk of financial assistance types (e.g.,

various interest rates, guarantees, refinancings, disadvantaged

community assistance);

Adequacy and reasonableness of State fund investment

practices;

Appropriateness of State policies and strategies with

respect to impacts on the long-term financial viability of the DWSRF

program;

Reasonableness of the disadvantaged community program and

consistency of its implementation with the approved program; and

Adequacy of the State's cash flow analysis, review of

financial trends, and long term forecasting of project assistance

needs.

2. Evaluation

The Administrator shall prepare an evaluation of the effectiveness

of the DWSRF programs' operations through FY 2003 (section 1452(r)).

3. Compliance Assurance

The Administrator will develop guidelines necessary to assure

effective program management and to prevent waste, fraud, and abuse

(section 1452(g)(3)). The Agency will assist the State in achieving and

maintaining compliance with program objectives and requirements. There

may be cases, however, when technical support may be insufficient or

where a State may be reluctant or unable to correct identified

problems. This section of the guidelines outlines procedures and

potential actions which may be necessary in cases of non-compliance.

If the annual review or audit reveals that the State has not

complied with its capitalization grant agreement or other requirements

under section 1452, or if the State does not manage the DWSRF program

in a financially sound manner (e.g., allows consistent and substantial

failures of loan repayments), the Agency may take action under the

enforcement provisions of the general grant regulations at 40 CFR

31.43.

Before taking such action the Agency will issue a notice of non-

compliance with the capitalization grant agreement and prescribe

appropriate corrective action. The State's corrective action must

remedy the specific instance of non-compliance and adjust program

management to avoid non-compliance in the future.

If within 60 days of receipt of the non-compliance notice, a State

fails to take the necessary actions to obtain the results required by

the EPA, or provide an acceptable plan to achieve the results required,

the Agency may suspend payments to the DWSRF until the State has taken

acceptable actions (40 CFR 31.43(a)(3)). Once the State has taken the

corrective action deemed necessary and adequate by the Agency, the

withheld payments shall be released and scheduled payments shall

recommence.

If the State fails to take the necessary corrective action deemed

adequate by the Agency within twelve months of receipt of the original

notice, any suspended payments may be deobligated and reallotted to

other States. All future payments may be withheld from a State (40 CFR

31.43 (a)(4)), and reallotted, until such time that adequate corrective

action is taken and the Administrator certifies that the State is back

in compliance.

4. Dispute Resolution

Any State applicant or recipient that has been adversely affected

by an Agency action or omission may request a review of such action or

omission. The procedures are codified in the Agency's general grant

regulations at 40 CFR part 31, subpart F.

VII. Appendices

A. Federal Cross-Cutters

Environmental Authorities

Archeological and Historic Preservation Act of 1974, Pub.

L. 86-523, as amended.

Clean Air Act, Pub. L. 84-159, as amended.

Coastal Barrier Resources Act, Pub. L. 97-348.

Coastal Zone Management Act, Pub. L. 92-583, as amended.

Endangered Species Act, Pub. L. 93-205, as amended.

Environmental Justice, Executive Order 12898.

Floodplain Management, Executive Order 11988 as amended by

Executive Order 12148.

Protection of Wetlands, Executive Order 11990.

Farmland Protection Policy Act, Pub. L. 97-98.

Fish and Wildlife Coordination Act, Pub. L. 85-624, as

amended.

National Historic Preservation Act of 1966, Pub. L. 89-

665, as amended.

Safe Drinking Water Act, Pub. L. 93-523, as amended.

Wild and Scenic Rivers Act, Pub. L. 90-542, as amended.

Economic and Miscellaneous Authorities

Demonstration Cities and Metropolitan Development Act of

1966, Pub. L. 89-754, as amended, Executive Order 12372.

Procurement Prohibitions under Section 306 of the Clean

Air Act and Section 508 of the Clean Water Act, including Executive

Order 11738, Administration of the Clean Air Act and the Federal Water

Pollution Control Act with Respect to Federal Contracts, Grants, or

Loans.

Uniform Relocation and Real Property Acquisition Policies

Act, Pub. L. 91-646, as amended.

Debarment and Suspension, Executive Order 12549.

Social Policy Authorities

Age Discrimination Act of 1975, Pub. L. 94-135.

Title VI of the Civil Rights Act of 1964, Pub. L. 88-352.

2

---------------------------------------------------------------------------

\2\ The Civil Rights Act and related anti-discrimination statues

apply to all the operations of the SRF program.

---------------------------------------------------------------------------

Section 13 of the Federal Water Pollution Control Act

Amendments of 1972, Pub. L. 92-500 (the Clean Water Act).

Section 504 of the Rehabilitation Act of 1973, Pub. L. 93-

112 (including Executive Orders 11914 and 11250).

The Drug-Free Workplace Act of 1988, Pub. L. 100-690

(applies only to the capitalization grant recipient).

Equal Employment Opportunity, Executive Order 11246.

Women's and Minority Business Enterprise, Executive Orders

11625, 12138 and 12432.

Section 129 of the Small Business Administration

Reauthorization and Amendment Act of 1988, Pub. L. 100-590.

Anti-Lobbying Provisions (40 CFR Part 30) (applies only to

capitalization grant recipients).

[[Page 59864]]

B. Criteria for Evaluating a State's Proposed NEPA-Like Process

The following criteria will be used by the RA to evaluate a

proposed SERP:

(A) Legal foundation. Adequate documentation of the legal

authority, including legislation, regulations or executive orders and/

or Attorney General certification that authority exists.

(B) Interdisciplinary approach. The availability of expertise,

either in-house or otherwise, accessible to the State Agency.

(C) Decision documentation. A description of a documentation

process adequate to explain the basis for decisions to the public.

(D) Public notice and participation.

(1) A description of the process, including routes of publication

(e.g., local newspapers and project mailing list), and use of

established State legal notification systems for notices of intent, and

criteria for determining whether a public hearing is required.

(2) The adequacy of a rationale where the comment period differs

from that under NEPA and is inconsistent with other State review

periods.

(E) Consider alternatives. The extent to which the SERP will

adequately consider:

(1) Designation of a study area comparable to the final system;

(2) A range of feasible alternatives, including the no action

alternative;

(3) Direct and indirect impacts;

(4) Present and future conditions;

(5) Land use and other social parameters including recreation and

open-space considerations;

(6) Consistency with population projections used to develop State

implementation plans under the Clean Air Act;

(7) Cumulative impacts including anticipated community growth

(residential, commercial, institutional and industrial) within the

project study area; and

(8) Other anticipated public works projects including coordination

with such projects.

C. Definitions

Administrative Expenses--Costs incurred in managing and operating

the SRF program. A State may use up to 4% of its allotment for program

administration expenses.

Annual Review--EPA's assessment of the success of a State DWSRF

program.

Appropriations--Statutory authority that, after apportionment by

OMB, allows Federal agencies to obligate funds and make payments from

the Treasury for specified purposes.

Assurances--Certifications or pledges by the State that it will

meet the requirements of the SDWA and other requirements of the

program.

Automated Clearing House--A Federal payment mechanism that

transfers cash to States and other recipients of Federal assistance

using electronic transfers from the Treasury through the Federal

Reserve System.

Biennial Report--The State's SRF Report to EPA which contains

information on how the State has met the goals and objectives of the

previous two fiscal years as stated in the Intended Use Plan and grant

agreement.

Bank/Banking--Crediting amounts (contributed by the State to SRF

eligible projects or activities) to the SRF in excess of amounts

required towards meeting certain requirements of future capitalization

grants.

Binding Commitment--A legal obligation by the State to a local

recipient that defines the terms and the timing for assistance under

the SRF.

Capitalization Grant--The assistance agreement by which EPA

obligates to award funds allotted to a State for purposes of

capitalizing that State's revolving fund and funds for other purposes

authorized in section 1452.

Capitalization Grant Application--An application for Federal

assistance submitted by a State, which in addition to the application

form includes an Intended Use Plan, proposed payment schedule, and

operating agreement or other documents describing how the State intends

to operate its SRF.

Certification/Certify--Documentation signed by the responsible

party that specific requirements or standards have been or will be met.

Community Water System--A public water system that: (a) Serves at

least 15 service connections used by year-round residents of the area

served by the system; or (b) regularly serves at least 25 year-round

residents.

Cross-Cutting Authorities--Federal laws and authorities that apply

by their own terms to projects or activities receiving Federal

assistance.

Debt Obligation--A legal obligation or liability to pay something

to someone else.

Default--Failure to meet a financial obligation such as a loan

payment.

Disadvantaged Community--The service area of a public water system

that meets affordability criteria established after public review and

comment by the State in which the public water system is located.

Disbursement--The transfer of cash from the SRF to the assistance

recipient.

Disbursement Schedule--A quarterly schedule of estimated

disbursements from the SRF.

Eligible System--Community water systems, both privately or

publicly owned, and nonprofit noncommunity water systems.

Environmental Review--An environmental review process conducted by

States that complies with 40 CFR Part 6, Subpart E or an alternative

``NEPA-like'' State environmental review.

Equivalency Projects--Projects that must total the amount equal to

the Federal capitalization grants and must comply with environmental

review requirements and Federal cross-cutting authorities.

Financial Health/Integrity--The ability of the DWSRF to address

SDWA needs and to be continually available to meet future needs.

Guarantee--A promise to provide municipal bondholders with full and

timely payment of principal and interest on the municipal debt

obligation to the limit of the guarantee, in the event of default by

the municipality.

Intended Use Plan--A document prepared each year by the State,

which identifies the intended uses of the funds in the SRF and

describes how those uses support the goals of the SRF.

Leveraging--The use of the capitalization grant as the security for

the sale of State bonds. Leveraging does not include State financing

arrangements in which repayment streams, rather than capitalization

grant or ACH are used as the primary security for the bond issue.

Loan--An agreement between the DWSRF and the local recipient

through which the SRF provides funds for eligible assistance and the

recipient promises to repay the principle sum back to the SRF over a

period not to exceed 20 years, except for disadvantaged communities

that may receive a loan for up to 30 years (that does not exceed the

life of the project), at an interest rate established at or below

market interest rates (may be interest free).

Net Bond Proceeds--The funds raised from the sale of the bonds

minus issuance costs (e.g., the underwriting discount, underwriter's

legal counsel fees, bond counsel fee, financial advisor fee, rating

agency fees, printing of disclosure documents/bond certificates,

trustee banks' fees, various forms of credit enhancement and other

costs that may be incurred by a State agency incidental to the bond

issuance).

Noncommunity Water System--A public water system that is not a

community system.

[[Page 59865]]

Noncompliance--Failure to satisfy the terms of the capitalization

grant agreement, including unmet assurances, invalid certifications, or

failure to manage the DWSRF in a financially sound manner.

Nonprimacy States--States that do not exercise primary enforcement

responsibility for public water systems.

Operating Agreement--An optional document in which the State may

establish the basic framework and procedures of the DWSRF that are not

expected to change annually.

Payment/Payment Schedule--A payment is an action by EPA to increase

the amount of funds available for cash draw in the Automated Clearing

House. A payment is not a transfer of cash to the State, but only an

authorization making funds available for transfer to the State when a

cash draw request is submitted. A payment schedule, indicating the

timing and size of the payments to be made, will be agreed upon by EPA

and the State based on the State's projection of binding commitments.

Refinancing--Purchase of a previously executed debt obligation

where initial debt was incurred and construction initiated after July

1, 1993.

Set-Aside--Use of allotted State funds for a range of specific SDWA

related activities identified in section 1452, to encourage source

water protection and other State drinking water program activities.

State Match--Funds equaling at least 20% of the amount of the

capitalization grants which the State must deposit into the Fund. The

State must also provide a 10% match if the State uses the 1452(g)(2)

set-aside.

Table 1.--State Requirements for the Capitalization Grant Agreement

----------------------------------------------------------------------------------------------------------------

Requirement How addressed

----------------------------------------------------------------------------------------------------------------

CG Application:

Part 31 Assurances (Grant Conditions).................. Agree to.

Established SRF & Instrumentality...................... Document (AG certif.).

Comply with State Statutes/Regulations................. Agree to.

Technical Capability To Manage Program................. Document.

Review Technical, Financial & Managerial Capability of Agree to.

Assistance Recipients.

Intended Use Plan (IUP):

(1) List of Projects............................... Propose.

(2) By-pass Procedures............................. Describe, if applicable.

(3) DWSRF Goals.................................... Describe.

(4) Activities To Be Supported..................... Describe.

(5) Disadvantaged Communities...................... Describe, if applicable.

(6) Assurances and Proposals:

--Environmental Review......................... Document/certify.

--Federal Cross-Cutters........................ Agree to.

--120% Binding Commitments..................... Agree to.

--Timely Expenditure........................... Agree to.

(7) Criteria & Method for Distributing Funds....... Describe.

Payment Schedule/Schedule of Estimated DWSRF Agree to and Propose.

Disbursements.

Other Activities To Be Supported by Set-Asides......... Intended Use Plan.

Transfer of Funds To/From CWSRF........................ Describe.

Grant Agreement:

Accept Grant payments.................................. Certify.

Deposit Funds in DWSRF Fund............................ Certify.

Deposit State Match:

--Source of the Match.............................. Identify.

--Deposit of Match................................. Certify.*

120% Binding Commitments............................... Agree to.

Information Management System.......................... Agree to.

Use State Laws & Procedures............................ Agree to.

Use GAAP (Generally Accepted Accounting Principles).... Agree to.

Use GAGAS (Generally Accepted Government Auditing Agree to.

Standards).

Recipient Accounting................................... Agree to.

Biennial Report........................................ Agree to.

Annual Audit........................................... Agree to.

Environmental Review **................................ Agree to.

Program Oversight...................................... Agree to.

All changes to the agreement or OA require a formal

grant amendment .

----------------------------------------------------------------------------------------------------------------

* For payments from FY 1997 appropriations, the State must agree to provide the certification no later than

September 30, 1999, of the availability of its match and provide the State match for grant payments already

received from the FY 1997 appropriations. A State that fails to certify by that date may not receive further

grant payments until the match is deposited.

** States required to certify environmental review process.

Table 2.--Set-asides and Funding Ceilings in the Drinking Water SRF

Program

------------------------------------------------------------------------

Before Allotment to States

------------------------------------------------------------------------

Programmatic

$10 Million.................. Health effects research.

$2 Million................... Unregulated contaminant monitoring

(starting in FY 1998).

Up to 2%..................... Technical assistance to small systems

(optional) Capped at $15 Million when

combined with funds appropriated under

Section 1442.

Undecided.................... Reimbursement of operator training

expenses projects.

[[Page 59866]]

Projects

1.5%......................... Indian Tribes/Alaska Native Villages.

------------------------------------------------------------------------

Based on Allotment to States

------------------------------------------------------------------------

Projects

1.0%......................... District of Columbia.

0.33%........................ Virgin Islands, Territories.

------------------------------------------------------------------------

After Allotment to States

------------------------------------------------------------------------

Programmatic

Up to 4%..................... Administration of DWSRF program and

technical assistance.

Up to 2%..................... Technical assistance to small systems.

Up to 10%.................... Assistance to State programs (PWSS, SWP,

capacity development, operator

certification.)

Up to 15%.................... Combination of the following: **

Loans for public water systems

to acquire land or conservation

easements.

Loans for community water

systems to implement SWP measures or to

implement recommendations in SW

petitions.

Technical and financial

assistance to public water systems for

capacity development.

Expenditures to delineate or

assess SWP areas.

Expenditures to establish and

implement wellhead protection programs.

**Each activity separately can receive

no more than 10% of the capitalization

grant amount.

Projects

Up to 30%.................... Loan subsidies for disadvantaged

communities.

------------------------------------------------------------------------

Based on Fund Amount

------------------------------------------------------------------------

Projects

Minimum 15%.................. Loans toward small systems (population

<10,000) under Section 1452.

------------------------------------------------------------------------

BILLING CODE 6560-50-P

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[FR Doc. 98-29450 Filed

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