In an action that several lawyers are calling significant, the Internal Revenue Service this week ruled that state authority debt issued to finance the development of private port facilities would not be private-activity bonds because most of the revenue from the port facilities could be allocated to pay debt service on other bonds. In a separate matter, the IRS has closed an audit of $81.84 million of single family housing bonds issued in 2001 by the Colorado Housing and Finance Authority, leaving the tax-exempt status of the bonds unchanged.The IRS detailed its ruling on the port bonds in a private-letter ruling that was publicly released Monday. The ruling, dated Aug. 21, did not identify the bonds or the issuer. Private-letter rulings, while technically applicable only to the issuer that requested them, are seen as important guidance on the IRS’ thinking on tax matters.Several lawyers said the letter ruling is important because the IRS agreed with a state authority’s proposed method of allocating private revenues to three sets of bonds so that only the revenue-backed bonds would be deemed private-activity bonds, not the bonds backed by state appropriations. The authority had been worried that, because the three sets of bonds were all being issued for the same port facilities, the IRS could decide that revenues from the facilities should be allocated to all of the bonds, even those backed by appropriations.“I think [the ruling] is significant because it authorized an allocation of private payments, in effect, away from one of the bond issues that was financing the project,” Thomas Vander Molen, a lawyer with Dorsey & Whitney LLP in Minneapolis, said yesterday.“The ruling is important because it allows the private payments to be allocated first to the revenue bonds to which they are, in fact, pledged,” agreed Frederic Ballard, an attorney with Ballard Spahr Andrews & Ingersoll LLP here. “Given that it’s all one port project, I think counsel may have worried that the Service might mix the two sources of payments for the bonds together for tax purposes.”According to the letter ruling, a state authority planned to issue state port fund bonds, backed by appropriations, as well as revenue bonds and equipment leases, backed by private revenues, to finance the development of new marine terminal facilities.The authority wanted assurances from the IRS that the state port fund bonds would not be private-activity bonds, which are not tax-exempt unless they fall into specific categories and are “qualified” bonds.Under the tax rules, a bond is a private-activity bond if more than 10% of its proceeds are used for private business and more than 10% of the revenues backing the bonds are derived from, or secured by, private payments.In this case, the authority conceded that the state port fund bonds would meet the 10% private use test because the proceeds would be used to help finance private port facilities. The authority was concerned that the state port fund bonds would also meet the private payments test, even though they are backed by state appropriations, because they would be issued along with revenue bonds and equipment leases, which are backed by private revenues. Under IRS rules, money is fungible and the Internal Revenue Service could determine that the revenues from the private port facilities should be allocated to all of the bonds.The authority argued that the private revenues from the new port facilities should first be allocated to the revenue bonds and equipment leases to which they were pledged. Any remaining revenues that might be allocated to the state port fund bonds would not exceed the 10% private payments limit, the authority said. As a result, the state port bonds would not be private activity bonds because they would fail the 10% payments test.The IRS agreed with the authority.The Colorado Housing and Finance Authority Tuesday disclosed in a material event notice that the IRS, in a Nov. 9 letter, stated it had closed its audit with no change to the bonds’ tax status. The authority had disclosed on April 25 that $46.84 million of Series AA-2 bonds, $25 million of Series AA-3 bonds, and $10 million of Series AA-4 bonds were under audit by the IRS. The bonds were part of a $131.84 million issue. Lehman Brothers was lead underwriter and Sherman & Howard LLC in Denver was bond counsel for the transaction.
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