WASHINGTON – The Internal Revenue Service has told the California Municipal Finance Authority that $32.5 million of refunding bonds it issued in 2007 for Exxon Capital Ventures, Inc. are taxable, but the borrower is disputing the finding.

In a separate action, the IRS has closed an audit of $80 million of bonds issued in 2006 by the Arborwood Community Development District in Florida with no change to the tax-exempt status of the bonds.

The IRS sent the California Municipal Finance Authority a "Notice of Proposed Issue" on Jan. 12 asserting the 2007 bonds were not tax-exempt, the authority said in an event notice posted on the Municipal Securities Rulemaking Board's EMMA website.

The authority said Exxon Capital Ventures, the borrower of the bond proceeds, and Exxon Mobile Corp., the guarantor of the debt service payments on the bonds, will respond to the IRS within 30 days. They disagree with the IRS' conclusions, it said.

The 2007 bond proceeds were used to refund the exempt facilities revenue bonds issued in 1996 by the California Pollution Control Financing Authority's for the Mobil Oil Corp. project. The 1996 bonds financed the upgrading, improvement, addition and replacement of certain sewage and solid waste disposal facilities located in Torrance, Calif., according to the official statement for the 2007 bonds. Mobil merged with Exxon in 2000.

Wendi Powell, manager for planning and financial markets for Exxon Mobile and Treasurer of Exxon Capital Markets, said the IRS is arguing the 1996 and 2007 bonds shouldn't be exempt facility bonds, one of the categories of tax-exempt private activity bonds.

Exxon doesn't own the Torrance facility now, but in 2007 it borrowed the proceeds from the daily puttable refunding bonds, to for facilities to refine and process oil and convert the waste product to motor gasoline products, which it then sold, she said.

Powell said Mobil completely disagrees with the IRS and will appeal any final decision that the bonds are taxable. If it were to lose an appeal, it would settle with the IRS to protect the bondholders, she said, adding, "The bondholders will not be adversely affected." Powell pointed out that interest rates on the bonds have been historic lows, as they were outstanding during the financial crisis.

Meanwhile, the IRS told the Arborwood CDD that it is closing its audit of $80.2 million of capital improvement bonds for the Centrex Home Project. The audit had been underway since 2012 and was one of several IRS examinations of CDDs. The IRS had made four requests for information from the Arborwood CDD and had seemed to be focusing on its board and land possibly purchased at an excessive price.

The audit was one of several IRS investigations of CDDs in Florida, that were closely watched by the bond law community until this year, when the most publicized ones were closed with no change to the tax-exempt status of the bonds.

The IRS claimed the Village Center Community Development District, in Lady Lake, Fla., and the nearby Sumter Landing CDD were not political subdivisions and therefore shouldn't have issued a total of $311 million of tax-exempt bonds because, as commercial districts, their boards were tied to the developers and didn't have any elected CDD residents.

Bond lawyers complained the IRS was trying to set new standards for political subdivisions through enforcement cases rather than rulemaking. They said that, under existing tax requirements, a political subdivision was defined as one that has been delegated the right to exercise sovereign powers, such as eminent domain or taxation. As a result of the controversy, the Treasury Department and IRS proposed rules on political subdivisions early last year expanding on that definition and closed audits of the Village Center and Sumter Landing CDDs with no change to the tax status of the bonds. The Treasury and IRS proposed rules on political subdivisions have been opposed by most muni market groups and the agency officials have said they may re-propose them.

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