Scottsdale, Ariz., Pays Almost $751K to Settle Tax Dispute with IRS

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WASHINGTON – Scottsdale, Ariz., has paid almost $751,000 to the Internal Revenue Service to settle a tax dispute that will preserve the tax-exempt status of $65 million of excise tax revenue and refunding bonds.

The bonds were issued in 2013 by the City of Scottsdale Municipal Property Corp. (MPC), on behalf of Scottsdale, to refinance the initial term of a lease with a private party for use of a Nordstrom garage.

The city disclosed the settlement in an event notice filed on the Municipal Securities Rulemaking Board's EMMA website. The notice states that, despite the settlement, "The city believes the bonds comply fully with all applicable federal tax law requirements." The notice does not specify the amount of the settlement payment.

But minutes for an Aug. 31 meeting of the Scottsdale City Council show that the council adopted a resolution proposed by city attorney Bruce Washburn to enter into a settlement amount of $750,853.39 million with the IRS. The council voted to make a budget transfer of that amount from the general fund's operating contingency funds to the city attorney's operating budget to make the payment. 

The bond counsel for the bonds, Gust Rosenfeld, PLC, agreed to pay $75,000 in three annual installments of $25,000 each to the MPC to settle the MPC's claims over the bonds, according to minutes of a Dec. 8 meeting by the corporation.

The Scottsdale MPC issued the bonds in January 2013 to finance acquisition and construction of capital improvements to the Tony Nelssen Equestrian Center and the McDowell Mountain Golf Course, as well as to refund the initial lease term of the Scottsdale Fashion Square Partnership Garage lease agreement.

According to a city council report, published in January 2013, the city entered into a lease agreement with the Scottsdale Fashion Square Partnership, now Scottsdale Fashion Square (SFS), an upscale super-regional luxury shopping mall.

Under the lease arrangement, the city would have use of the Nordstrom's Garage for 50 years starting in 1998. The total rent was $31.375 million to be paid in installments over the first 30 years of the lease, with interest accruing on the unpaid portion at the rate of 9.14% per year.

The city was authorized by the city council in December 2012 to prepay the rent. After the city gave the SFS notice of its intent to exercise the prepayment option, there was a dispute as to whether the accrued interest would be included in the final payment.

The parties negotiated a settlement under which the city would pay the $31 million, but give the SFS two credits against development fees, each $1.25 million. One credit would have to be used within five years and the other within 10 years. The city also agreed to waive the purchase option, according to the city council report.

The IRS began auditing the bonds in February 2014, according to an event notice filed by Scottsdale. The IRS proposed the bonds were taxable in a "Notice of Proposed Issue" it sent the MPC in August 2015. The MPC received the IRS' "Proposed Adverse Determination" that the bonds were taxable in November 2015.

That determination letter said that the allocation of a portion of the proceeds of the bonds to refinance the initial lease term of the existing municipal Scottsdale Fashion Square Partnership Parking Garage Lease Agreement caused the bonds to be taxable, according to the city.

Piper Jaffray & Co. was financial advisor for the bond issue.

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