Texas Issuer Executes Closing Agreement Over Jail Bonds

WASHINGTON — The IAH Public Facility Corp. executed a closing agreement to resolve a tax dispute with the Internal Revenue Service over roughly $49 million of bonds it issued in 2004 and 2006 to finance a jail in Polk County, Texas.

The pending resolution was disclosed in an event notice posted on the Municipal Securities Rulemaking Board's EMMA system on Friday afternoon.

The corporation's bonds, which have experienced a default event, are one of a number bond issues for detention-center projects that have been audited by the IRS. The agency has claimed jail bonds are taxable PABs because the facilities housed a significant portion of federal inmates, which are considered private rather than governmental individuals, and because the owner of the facilities may have signed a management contract with a private party. The private use and payments would make the bonds PABs, and jail facilities are not permitted to the financed with tax-exempt PABs under federal tax law.

Despite the IRS' concerns and a series of defaults on bonds issued to finance private detention centers, debt for jail projects continues to come to the market.

Under the agreement between corporation and the IRS, interest on the bonds paid on or before Nov. 2 will remain tax-exempt, and interest paid after that will be taxable. The corporation has sent the executed agreement to the IRS. As of Friday afternoon, the trustee, U.S. Bank National Association, was in the process of wiring a settlement payment of nearly $980,000 to the IRS. After the IRS has verified receipt of the closing agreement and the settlement payment, it will execute the agreement, according to the event notice.

The corporation and the trustee moved forward with the settlement after the District Court of Ramsey County, Minn. issued an order on Oct. 20 authorizing the trustee to make the settlement payment and bond documents to be amended to implement the closing agreement. The court stated in the order that these actions "are prudent and reasonable under the circumstances and satisfy the duties of U.S. Bank, as trustee, under the indenture." The trustee has a corporate trust office in Ramsey County.

The issuer sold $24.22 million of bonds in 2004 and $24.82 million of bonds in 2006 to finance a 1054-bed detention center. A total of about $38.6 million of the two issues was outstanding as of September, according to the order, which was included as an appendix to the event notice.

For both deals, Herbert J. Sims and Municipal Capital Markets Group were underwriters and Jenkens & Gilchrist was bond counsel, according to the official statements for the bonds.

The IRS began auditing the bonds in 2012. In 2014, the IRS sent the corporation a notice of proposed issue that asserted the bonds are taxable private-activity bonds, according to the order.

The corporation disagreed with IRS' claim and had discussions with the agency to resolve the matter. The IRS continued to argue the bonds are taxable PABs, and it also said that the aggregate tax exposure to bondholders for interest accrued and paid on the bonds through Nov. 2 was about $3.27 million. The IRS told the issuer that unless the matter was resolved, it would issue a final determination of taxability and take steps to impose tax liability on those who have received interest payments on the bonds since they were issued, according to the order. After extensive negotiations, the issuer and the IRS reached the terms of the resolution.

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