WASHINGTON — The Internal Revenue Service’s tax-exempt bond office this fiscal year plans to close 1,200 examinations — more than double its all time high of 581, its director says.
Clifford Gannett, head of the TEB office, told bond lawyers gathered here Friday that his group also plans to scrutinize responses from over 1,400 compliance check questionnaires, including forms issuers file each time they request a direct payment under the Build America Bond program. The federal fiscal year ends Sept. 30.
Also during the spring meeting of the tax-exempt financing committee of the American Bar Association’s Section on Taxation, a Treasury official said concerns about whether issuers’ BAB payments might be reduced to offset money they owe the federal government are “overblown,” and the Municipal Securities Rulemaking Board’s deputy general counsel said issuers cannot determine issue price based on a review of the pricing data on the Electronic Municipal Market Access site.
In addition, a Joint Tax Committee official detailed why BABs may only be extended on a temporary basis, and an IRS attorney said the service has no interest in halting bonds’ tax credits or subsidy payments over violations of the Davis-Bacon labor law.
Gannett said a primary reason for the dramatic increase in the tax-exempt bond office’s enforcement workload is due to so-called “focused examinations.”
Working alongside a new compliance unit formed in the government entities branch of the IRS, the bond office will be sending out 400 to 500 brief correspondence examinations that will cover small issuances of less than $100,000 and whether transaction participants are aware of their responsibilities in the tax arena, small issue variable-rate bonds, and lease-purchase agreements.
The IRS will follow up with broader exams if problems are identified in the initial sweep. The approach is aimed at reducing the burden of general examinations while also better utilizing IRS resources by identifying “real cases” early on and focusing efforts there, according to Gannett.
“It’s a quick hit looking for issues and then broadening out those exams where there are issues,” he said. “We’ve used an enormous amount of resources sometimes on a small number of cases and still come up with nothing.”
The IRS also has expanded its voluntary closing agreement program, which has grown in recent years from just one attorney to 13. The gain has led to a significant increase in the speed of completing VCAP requests, which have dropped to an average of 81 days this fiscal year from 215 days in the previous one, Gannett said.
The IRS is waiting for a report from its Advisory Committee on Tax Exempt and Government Entities offering suggestions for how to extend voluntary compliance to BABs, he said.
On a separate panel, Margaret “Peg” Henry, the MSRB’s deputy general counsel, told bond lawyers that EMMA cannot be used to determine the issue price of bonds, even though a controversial IRS questionnaire being sent to BAB issuers asks if someone is tracking the pricing of their BABs on EMMA.
“The system really wasn’t developed to do what the questionnaire is asking you to do,” Henry said. “It is very difficult in my view to establish the issue price just from looking at this data.”
Traditionally, the issue price for bonds is the price at which 10% of the bonds are sold to the public. But EMMA does not begin reporting trade data until the bonds are formally awarded. The prices reported are from the conditional trading agreements that underwriters line up with other dealers or institutional investors before the award as well as the first trades afterward, making it impossible to determine which trades are part of the first 10%, she said.
Gannett said the questionnaire does not ask whether EMMA was used to set the issue price, but rather targets whether or not the system shows if the bonds were trading at a price greater than the issue price before the issue date, and to highlight EMMA for issuers as an informational resource.
“Its primary goal is to kind of raise awareness, particularly with issuers,” he said. “Being the soft contact that it is, it has been kind of blown out of context just a little bit.”
Meanwhile, John Cross 3d, the Treasury Department’s associate tax legislative counsel, said BAB issuers will likely just have to “learn to live with” the “very limited and minor risk” that their subsidy payments could be offset to pay off outstanding debts owed the federal government.
“The rules are what they are and we can’t change them,” he said. “If you wanted a statutory change, I think it’s a politically heavy lift.”
Cross said the major potential offsets for issuers are payroll taxes, an issuer default on a federal grant that must be repaid, or if a state or local government provided group health insurance with Medicare as the secondary provider and Medicare paid when the primary provider should have and the payment must be reimbursed.
All told, only about 1% of all BAB payments were affected by offsets in 2009, and they only occurred on “past due, legally enforceable debts,” according to Cross.
Cross also pointed out that the offset system works to collect delinquent states taxes for the states.
Marla Bleavins, the debt and treasury manager for Los Angeles World Airports, said yesterday that the airport’s BAB payment in April for $307 million of BABs it sold last fall was reduced by $28 to offset “some sort of employment tax.”
After the accounting staff discovered the subsidy payment was smaller than expected, she contacted an IRS agent, who told her about the offset and that she was supposed to have received a letter beforehand about it.
However, she said she has not yet been able to determine if the LAWA actually received the letter. Bleavins’ dilemma highlights another problem: that finance officials may be the last to know about an offset.
James Polfer, chief of the IRS’ tax-exempt bond branch in the associate chief counsel’s office, said the IRS has no interest in enforcing the Davis-Bacon fair wage labor laws that Congress required for bond programs in the American Recovery and Reinvestment Act.
His comments came in response to a memorandum issued by the Department of Labor last week that said the direct payments or tax credits granted as part of recovery zone economic development bonds and several tax-credit bond programs fall under the IRS’ jurisdiction, including any enforcement efforts for violations of Davis-Bacon.
“They have essentially said that those issues ... [are] something that is in our jurisdiction,” Polfer said. “No one in the IRS is interested in getting into the Davis-Bacon business .... Those issuers are DOL’s and they always have been DOL’s.”
Diedre James, senior legislation counsel for the JTC, said there are a number of reasons why BABs should not be made permanent, despite a concerted push from market participants. Currently, the only pending legislative proposal to extend BABs would do so only until April 1, 2013.
James said the reasons include that: BABs were intended to be a temporary relief measure for the ailing muni market; lower credit issuers end up receiving greater subsidy payments for BABs; underwriting fees for these taxable bonds are higher than tax-exempt deals; and it would be more difficult to adjust the subsidy level for a permanent program.
Cross concurred that trying to determine the best subsidy rate for a longer BAB program is difficult, in part because it is hard to tell how much BAB issuance is simply displacing tax-exempt bonds as opposed to encouraging new offerings.