BRADENTON, Fla. – Bankrupt Jefferson County, Ala., has finalized a closing agreement with the Internal Revenue Service to resolve issues about the county’s tax-exempt sewer system warrants in return for a $4.5 million payment.

The deal protects the tax exemption on about $3 billion of sewer warrants from the time they were issued through June 30, 2015, according to a notice posted on the Municipal Securities Rulemaking Board’s EMMA website Aug. 21. The county paid $4.5 million to the IRS from sewer system revenues.

The IRS opened an examination into the county’s 2003B and C sewer warrants in May 2011, six months before Jefferson County filed for Chapter 9 bankruptcy.

The IRS believed that about $2.12 billion of outstanding variable- and auction-rate sewer warrants refunded in 2003 were in violation of the code regarding the tax exempt interest on state and local bonds. It is believed that arbitrage and swap terminations were among the issues questioned by the IRS.

With the county in bankruptcy and developing a plan of adjustment, the closing agreement was negotiated to cover all of the county’s tax-exempt sewer warrants, in addition to the 2003B and C warrants.

The county expects to refinance $1.9 billion of sewer warrants later this year if market conditions are suitable. The refinancing will restructure about $3.1 billion of sewer debt with investors taking losses.

“The closing agreement effectively provides a two-year period to implement the proposed adjustment plan, or any alternative plan that may be proposed by the county in the bankruptcy proceeding,” Jefferson County told warrant holders in the Aug. 21 notice. If the county does retire the sewer warrants in two years, “the IRS could resume its examination and could claim that interest on the sewer warrants received after that date is includable in gross income of the holders.”

The county was represented by Balch & Bingham LLP in negotiations with the IRS.

In late July, the county said the IRS completed an examination of its 2006 lease revenue warrants with no change in tax exempt status. The $86.74 million of lease warrants were issued to build a courthouse and jail.

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