TORONTO – The Government Finance Officers Association is the latest group to cry foul over the Internal Revenue Service and Treasury Department's proposed political subdivision rules, and called on the IRS to withdraw the proposal.
Speaking before GFOA's governmental debt management committee at the organization's annual conference in Toronto Saturday, Emily Brock, director of the GFOA's federal liaison center, called the proposed rules a "federal overreach" and urged members to submit written comments to both agencies opposing any such changes.
Brock, who recently replaced Dustin McDonald, gave the committee updates on legislative and regulatory issues related to municipal bonds.
GFOA submitted a letter to the IRS Friday that claimed the new regulations would impose extensive federal requirements on state-established entities whose primary purpose is meant to be in the best interest of that state.
"The proposed regulations impact not only the ability to issue future tax-exempt bonds that would consequently weaken our country's aging infrastructure, but also impact outstanding bonds issued by political subdivisions," according to a summary of the letter published on the GFOA website. "The proposed regulations would hinder the ability of the political subdivisions to effectively, efficiently and economically serve communities."
Under the current definition, an entity is a political subdivision that can issue tax-exempt bonds if it has a right to exercise a substantial amount of at least one of three recognized sovereign powers of a state or local governmental unit: eminent domain, taxation or police.
The new regulations, proposed in February by Treasury and IRS, add two new requirements – that political subdivisions serve a governmental purpose "with no more than an incidental private benefit" and be governmentally controlled.
To be governmentally controlled, a political subdivision would have to be controlled by a state or local governmental unit or an electorate. Under the rules, the determination of whether an entity serves a governmental purpose would be based on whether it carries out public purposes set forth its enabling legislation and whether it operates in a manner that provides a significant benefit "with no more than an incidental private benefit."
Brock said ensuring there is a majority of publically appointed officials on a subdivision's governing board is challenging because state legislatures typically determine and appoint those members. A lack of clarity also makes determining incidental private benefit difficult, she added.
"Incidental private benefit hasn't been defined in this rule," Brock said.
National Association of Bond Lawyers president Ken Artin said the IRS' office of chief counsel issued a technical advice memorandum in May 2013 that said the Village Center Community Development District in Florida was not a political subdivision and could not have issued tax-exempt bonds because its board was and always will be developer-controlled. The TAM drew an "incredible outcry" in the bond community, he said. Lawyers charged the IRS was trying to change the rules through enforcement actions, rather than rulemaking that requires public input. Eventually the IRS agreed to make the TAM prospectively effective and to proposed rules on political subdivisions.
"It's now all forward thinking," Artin said on Saturday.
Treasury associate tax legislative counsel John Cross has said that IRS audits found the current rules had resulted in political subdivisions being controlled by private entities, a vulnerability that had "raised concerns at the highest levels of government." Defending the new proposed rules to NABL member in March, Cross said that the federal government can regulate how states issue tax-exempt bonds because they involve a federal tax subsidy.
Several port authorities have also expressed concerns that the proposed rules could hurt their standing as political subdivisions as well as their ability to issue tax-exempt bonds. Comments on the proposed rules were due Monday, and a public hearing will be held on June 6.
Patrick McCoy, the director of finance for the Metropolitan Transportation Authority in New York, told the debt committee Saturday that the proposed rule changes would be "completely inappropriate," and warned their adoption could have significant consequences.
"If this were to really happen it would be quite devastating," he said.
McCoy is scheduled to testify before the IRS on June 6, and urged committee members to provide their own written concerns to him that he could present to federal officials. Brock also urged committee members to submit written comments to the IRS and Treasury before Monday's deadline.
