CHICAGO - The Internal Revenue Service plans to send out letters to 95 randomly selected issuers in about a month, requesting that they show the tax agency how they complied with their arbitrage rebate obligations for debt sold in 1995, according to a senior IRS official.
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The rebate compliance survey -- the second one the IRS has undertaken -- will focus only on governmental bonds. It follows last year's study, when the IRS contacted 89 randomly selected issuers of private-activity debt and discovered that several either had computed their rebate obligations inaccurately or had done no calculations at all.
The new survey will include issuers in 32 states, Charles Anderson, manager of the IRS' field operations for tax-exempt bonds, said Tuesday on a panel at the National Association of Bond Lawyers' annual conference here. The bond issues vary greatly in size but the average amount is about $50 million, he said.
The undertaking is more than just a survey. If issuers are shown to have paid too little in rebate they will be required to make the payments. Significant errors made by issuers may also lead to full-fledged audits of their bonds. That happened in 22 of the 89 cases last year.
Issuers are obligated to compute their arbitrage rebate obligations at least every five years after the bonds are sold to ensure the investments of their bond proceeds did not earn a bigger return than allowed under tax law.
Last year's study focused on bonds sold in 1992 and 1993. In 1997 and 1998, when the rebate computations were due, interest rates were somewhat lower, causing negative arbitrage for many of the issuers.
"In the earlier study we found that a lot of people failed to compute rebate. But they were lucky because of the rates," Anderson said, referring to the fact that many of the issuers turned out not to owe the federal government any money. "I wish we'd have picked bonds sold 1995 the last time."
The IRS is correcting that tactical error this time. Issuers that failed to compute their rebate correctly in 2000 -- when interest rates were higher than in 1995 -- will likely owe the IRS money, he said.
On the other hand, Anderson believes issuers generally complied with the tax law more in 2000 than they did a few years earlier because the IRS' enforcement program was beefed up last year.
"I think there will be higher compliance in terms of whether people did the calculation," he said.
Last time, one issuer that had been contacted by the IRS "without comment mailed in a check for $1.6 million," Anderson recalled, causing chuckles among the bond lawyers on the panel and in the audience.
The concept of the compliance survey drew praise from the panel's moderator, Michael Bailey of Foley & Lardner. Bailey said he much prefers the IRS' enforcement group checking compliance in an area like this that is relatively easy to determine the facts instead of the agency "making new law" in areas that need regulatory guidance.
"If you have to audit bonds, this is probably the best way," Bailey said.
