When Should an Issuer of Tax-Advantaged Bonds Use the Hold-the-Offering-Price Method to Establish the Issue Price of the Bonds?

Three score and thirteen years (and one day) after D-Day (June 7, 2017, for the non-history-buffs), the new regulations that prescribe the methods for determining the issue price of tax-advantaged bonds take effect.  Of the various methods for determining the issue price of tax-advantaged bonds, the hold-the-offering-price method is the only one that allows an issuer of such bonds in an underwritten transaction to know with certainty in advance of the sale date of the bonds that the issue price of the bonds will be established on the sale date.  As discussed below, however, this method will come at a cost to issuers of tax-advantaged bonds.

The question thus becomes, which federal tax circumstances warrant the increased cost of the hold-the-offering-price method to be assured that the issue price of the bonds will be established on the sale date?  For the answer, read on.

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The Countdown to June 7, 2017…..Are You Ready?

On June 7, 2017, the Final Issue Price Regulations (the “Final Regulations”) become effective.  More specifically, the Final Regulations apply to bonds sold on or after June 7, 2017 and without regard to the bonds’ issuance date.  Suffice it to say, if you have read our blog or been practicing in the area of municipal finance for any period of time, you know that June 7, 2017 is a date that is YEARS in the making.

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A Requiem for Reasonable Expectations

The “reasonable expectations” approach to determining the issue price of a tax-advantaged bond[1] has been the law since 1989. On June 7, it is scheduled to join Betamax tapes and parachute pants as another relic of that bygone decade. Barring intervention (either Divine or as part of the President’s executive order to undo recent regulations that “add undue complexity to the Federal tax laws”), the new issue price regulations will take effect for tax-advantaged bonds sold on or after June 7. Though we don’t often have to rely on reasonable expectations because underwriters usually actually sell at least 10% of each bond maturity at the initial offering price to the public on the sale date, the reasonable expectations rule has been a useful tool and a dear friend. As it prepares to ride off into the sunset,[2] a eulogy is in order. And bittersweet that eulogy shall be, for the death of the reasonable expectations standard seems senseless.

What began as a regulatory effort that, for all its faults, was at least focused around a goal, has devolved through the comment process into regular old horse-trading.

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Sometimes the Truth is Stranger than Fiction – Update

Not quite a year ago, I wrote a blog post entitled Sometimes the Truth is Stranger than Fiction. There has been a recent development in the relevant case that I think is worthy of a short update.

A very brief summary of what the relevant case involved is as follows. Two former Sprint executives (Mr. LeMay and Mr. Esrey) participated in several tax shelters that had been promoted by Ernst & Young (“EY”) in the early 2000s. As a result of its promotion of these tax shelters, EY ended up settling with both the IRS and U.S. Attorney for the Southern District of New York for not quite $140 million.  It appears that EY also paid an undisclosed sum to the two former Sprint executives.   However, in LeMay and Esrey’s collective opinion, they were not made whole in their failed attempt to defraud the IRS (and thus, the honest, tax-paying U.S. population).   Accordingly, LeMay and Esrey sued the IRS for an astounding $159 million.  Continue Reading

The Yield Curve – What It Is and Why It Matters

For those of you new to bonds and not generally familiar with financial terms, you may hear the term “yield curve” thrown around and be wondering what it means and why it matters. The yield curve is a chart showing the yield of debt instruments (such as U.S. treasuries or notes) on the y-axis and the maturity (on the x-axis). So why does it matter? It can be a crystal ball into the future of interest rates.

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Is the Pendulum of Bond Pricing Beginning to Swing Back Toward Discount Bonds? If So, We Need to Be Prepared for the Resulting Bond Yield Calculations

Premium bonds have been the choice of investors now for many years but is that preference beginning to shift in favor of discount bonds?  Discount bonds are appearing in bond structures with increasing regularity in recent months.  We lawyers leave that question for the underwriters and financial advisors as interest rates turn upward.  However, we need to be prepared for the shift in bond yield calculations that accompany a re-emergence of discount bonds.

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NABL’s Model Issue Price Certificates – Some Observations

Joel Swearingen reported last week that the National Association of Bond Lawyers (“NABL”) recently released exposure drafts of model issue price certificates that reflect the final Treasury regulations on issue price that take effect for tax-advantaged bonds sold on or after June 7, 2017.  As Joel reported, the model issue price certificates cover the direct sale of tax-advantaged bonds by an issuer to a purchaser, the public offering of tax-advantaged bonds pursuant to a negotiated sale between the issuer and an underwriter(s), and the public offering of tax-advantaged bonds pursuant to a sale of the bonds from the issuer to an underwriter in a competitive bidding process.

Joel also promised that we would have more to come on the model issue price certificates that NABL released.  If I learned anything from my mediocre high school athletic endeavors, it’s that one should never show up, or let down, a teammate.  In accordance with Joel’s promise, herewith are some observations on NABL’s model issue price certificates.

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Model Issue Price Certificates Released

As Alexios wrote about a few weeks ago (here), we are in the middle of a dry spell when it comes to new guidance from the IRS.  Thankfully, the National Association of Bond Lawyers (“NABL”) recently released exposure drafts of several model issue price certificates (see here and here).  The draft certificates are the product of collaboration between NABL and the Securities Industry and Financial Markets Association (“SIFMA”) and are intended to help implement the final issue price regulations (discussed here).  The final regulations take effect on June 7, 2017 and the draft certificates should help facilitate agreement between issuers, financial advisors, underwriters, purchasers, bond counsel, and any other interested parties within a working group.  In order to finalize the drafts in advance of the effective date of the final regulations, NABL has requested comments to be submitted no later than Friday, April 14, 2017.

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Shake-Ups and Changes at the Tax-Exempt Bond Branch

The IRS has announced that it will combine the Tax-Exempt Bonds Branch and the Indian Tribal Government Branch of the IRS Office of Tax Exempt and Government Entities (TE/GE). The new combined entity will be headed by Christie Jacobs, who has long been the Director of the Indian Tribal Government Branch. (Though Ms. Jacobs apparently does not have any experience with tax-exempt bonds, Sunita Lough, the Commissioner of TE/GE, assures us that Ms. Jacobs is a “very smart person” and “very capable.”)  The Tax-Exempt Bonds Branch has been without a permanent Director since Rebecca Caldwell-Harrigal left the post in December 2016 (Imraan Khakoo served as acting Director in the meantime).

Formerly, the IRS Tax-Exempt Bonds Branch was divided into a Field Operations division (focusing on examinations) and a Compliance and Program Management (CPM) division (which, among other things, oversaw the administration of the VCAP program). As part of the reorganization, CPM will cease to exist, and its operations will be spread between a Compliance, Planning and Classification group that will span the full breadth of TE/GE (which includes some areas other than TEB and the Indian Tribal Government Branch), and a smaller, core “technical support” group that will continue to exist within TEB after it is combined with the Indian Tribal Government group. It is unclear whether this reallocation of resources will allow TEB to focus more attention and energy on examinations.

As Alexios noted last week, we are waiting to see how the new administration will change the pace of IRS guidance and enforcement. This reorganization adds to the uncertainty, and it is unclear how the reorganization and the change in administrations will affect the pace and focus of audits of tax-advantaged bonds and guidance regarding tax-advantaged bonds.

The regulatory freeze apparently will not impact the roll-out of the new examination process outlined in two internal guidance memoranda that the IRS released in November (both available at TEGE-04-116-0028), which are intended to increase the “efficiency” of tax-exempt bond audits. Bob described the two memoranda in detail here. As Bob noted, the new guidance attempts to achieve “efficiency” largely through a series of somewhat one-sided measures, which generally impose strict time limitations on issuers and borrowers, and far softer restrictions on the IRS exam team. The new approach also opens the possibility of the IRS contacting issuers early in an audit directly before the issuers can engage counsel, which has generally not been the approach of the IRS in the past.  It remains to be seen how successful the IRS will be in implementing the new guidelines particularly while it undergoes a change in organizational structure at the same time.

In addition, the regulatory freeze apparently will not impact the effective date of the new issue price regulations, which take effect for bonds sold on or after June 7, 2017. As we have discussed before, the new rules mean that issuers can no longer rely on their reasonable expectations regarding the sale price of publicly offered bonds to set the issue price of those bonds. In negotiated deals, they’ll have to rely on the first price at which 10% of each bond with the same credit and payment terms sells. Issuers can use the initial offering price as the issue price if the underwriters agree to “hold the offering price” for five days after the sale date, or if the transaction meets the requirements of a “competitive sale,” laid out in the new regulations. This “hold the offering price” rule sounds easy enough, but it imposes some very real logistical challenges, and threatens to make the sale date of an issue of bonds on or after June 7, 2017 a real chaotic mess. Behind the scenes, various industry groups representing issuers, municipal advisors, and the underwriter community, are hashing out revisions to the various standard forms. We will provide further updates and links as those efforts progress.


The Regulatory Freeze: Where do we stand now?

The IRS tax exempt bond group (“TEB”) continues to work on completing its 2016-‘17 Guidance Plan, as Bob Eidnier wrote last week. However, it might be some time before we see that guidance because of executive branch actions intended to reduce regulations and regulatory costs.  The restrictions on new guidance are very broad, and appear to apply to more than just regulations. Tax Notes reported on February 14 that it will be “a while” before new guidance is released by the IRS. For those of you who have lost track, see below for links to and a summary of President Trump’s executive orders and related executive branch guidance concerning the regulatory freeze and regulatory reform.

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