WASHINGTON — The Internal Revenue Service is auditing roughly $511 million of tax-exempt advance refunding bonds issued in 2014 by the Harris County - Houston Sports Authority, warning the bonds may have violated tax law provisions.

The bonds are Series A and C, the tax-exempt portion of a $558.51 million advance refunding issue, that the authority sold to refinance more than half of its outstanding debt after settling legal disputes with bond insurer National Public Finance Guarantee (National), a subsidiary of MBIA Inc. The disputes arose in the wake of the 2008 financial crisis that hammered the sports authority’s debt portfolio.

The bonds were to be used to refund debt issued in 1998 and 2001. The 1998 bonds were used to help finance construction of Minute Maid Park for the Houston Astros baseball team. The two sets of 2001 bonds were used to help finance the construction of the NRG Stadium for the Houston Texans professional football team and the Houston Livestock Show and Rodeo as well as construction of a multipurpose arena and an adjacent parking garage for the Houston Rockets professional basketball team.

Toyota Center in Houston is the home of the NBA's Houston Rockets professional basketball team
Toyota Center in Houston is the home of the NBA's Houston Rockets professional basketball team Bloomberg News

The legal disputes stemmed from downgrades to MBIA and declining tax receipts that triggered an accelerated payment schedule on $125 million of variable rate bonds, according to an article in The Bond Buyer at the time of the refunding in 2014.

The bonds came into National's portfolio when MBIA restructured to create the U.S. public finance-only subsidiary. The 30-year debt-service schedule was reduced to five years and the sports authority dipped into its reserves to make the payments.

National was so concerned about the authority's ability to pay that it filed suit in 2013 in Houston, seeking a court order that would have required the authority to raise ticket and parking fees to boost reserves. It also lobbied for state legislation mandating higher reserves, which was not approved.

The authority got a district court to dismiss National's suit, but the insurer was successful in its appeal in having the action reinstated, though the litigation was ultimately stayed by mutual agreement as the parties engaged in discussions to resolve the matter.

The variable rate debt in question was ultimately paid off in May 2014, clearing the way for the sports authority’s roughly $1 billion in remaining debt to be upgraded.

National has not insured any munis since June 2017 when S&P Global Ratings handed a two-notch downgrade to the insurer.

The sports authority took advantage of low interest rates in 2014 to offer the refunding bonds.

The December 2014 tax-exempt refinancing involved the issuance of $435.2 million of Series 2014A of senior lien revenue refunding bonds and $75.87 million of Series 2014C of second lien revenue refunding bonds. About $90.42 million of the Series A bonds were capital appreciation bonds.

The IRS notified the sports authority in a letter received on April 4 that the tax-exempt status of the bonds was being audited.

The sport authority posted a public notice of the IRS audit on May 4 with on Municipal Securities Rulemaking Board’s EMMA website.

The IRS stated in its letter that the bonds were "selected for examination because of information we (i.e., the IRS) received from external sources or developed internally that causes a concern that the debt issuance may fail one or more provisions of section 103, 141-150 of the Internal Revenue Code,’” according to the notice on EMMA.

“The issuer believes that the bonds complied with all applicable provisions of the Internal Revenue Code, and the issuer will cooperate with the IRS in its examination of the bonds,” the authority said in the event notice. “No assurance can be given with regard to the outcome of such examination and its effect on the tax-exemption on the bonds or the marketability of the bonds.”

Janis Burke, the sports authority’s CEO, and J. Kent "Kenny" Friedman, chairman of the sports authority who is also an attorney at Orrick, declined comment.

“At this time, we are going to refrain from further comment until the audit is complete,” a spokeswoman for Burke said in an email.

Trey Cash, a managing director at First Southwest Company who serves as the sports authority’s independent registered municipal advisor, also declined comment.

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