CHICAGO - Columbus will seek a private letter ruling from the Internal Revenue Service for the $27 million of general obligation bonds it wants to sell on a tax-exempt basis to pay off a pension fund liability, a city official said yesterday.
Michelle Kelly-Underwood, executive assistant to Columbus' auditor, said the auditor's office will seek city council approval in the meantime to issue taxable variable-rate notes that could be converted to long-term, fixed-rate, or short-term, variable-rate tax-exempt obligations should the IRS rule the deal can be done on a tax-exempt basis.
City officials have said a letter ruling could take several months.
On Dec. 1, IRS officials intervened in the pricing of $27 million of tax-exempt bonds by Columbus. Although the bonds had their final pricing, city auditor Hugh Dorrian canceled the deal late that day due to the "serious concerns" raised by the IRS officials regarding the tax status of the bonds.
Specifically, the officials felt the deal was contrary to the spirit of the 1986 Tax Reform Act, and they also raised the possibility that a recent decision by a federal appeals court in New York City could have a bearing on Columbus' deal, according to city officials and lawyers working for the city. Dorrian said at the time that the IRS made clear that it would entertain a request for a letter ruling on the deal.
Kelly-Underwood said legislation is being prepared for a Dec. 13 vote by the council on the taxable note issue. The measure, which has the support of Mayor Greg Lashutka, is expected to pass, she said. If approved, Kelly-Underwood said the taxable notes will probably be priced Jan. 13 by the same team that handled the aborted tax-exempt deal. Co-senior underwriters for the deal were Banc One Capital Corp., and Kemper Securities Inc.
Dorrian canceled a meeting with IRS officials scheduled for Monday because "there was nothing to be gained" given that the tax-exempt deal had been canceled, according to Kelly-Underwood. IRS officials said the only comments they could officially make about such a transaction would have to come through the letter-ruling process, participants said.
Although federal regulatory officials and other lawyers warned before the tax-exempt deal's pricing that the transaction might violate tax laws, the two major credit-rating agencies assigned ratings to the deal. Standard & Poor's Corp. rated the deal AA-plus and Moody's Investor Service gave it an Aal.
Some observers wondered why the credit rating agencies would rate the controversial Columbus deal when they either declined to rate or with-drew tentative ratings from other controversial deals, such as those proposed by Harrisburg, Pa., earlier this year and Chicago last year.
Kelly-Underwood said that officials from both agencies were not concerned about the tax law aspect of Columbus' bond issue.
"They were not at all concerned," she said. "They said it didn't effect the credit."
William deSante Jr., a vice president and managing director of Moody's public finance department, said the Columbus deal is different from the Harrisburg and Chicago deals and that the agency might not have even examined the tax issues in its rating deliberations. "You're talking about a traditional kind of general obligation kind of deal versus a complex structured financing," deSante said.
Richard P. Larkin, managing director of Standard & Poor's municipal finance department, seemed to agree. Standard & Poor's will usually only decline to rate a transaction "when there's a highly unusual structure that could cause less than full principal and interest payments under a situation of taxability," Larkin said.
Some bond lawyers pointed out that both the proposed Harrisburg and Chicago deals had complex structures that depended on high credit ratings to work. The credit ratings were central to the alleged arbitrage plays that would have been made had the deals gone forward.
At the same time, the lawyers and deSante said that the credit rating agencies - which for years have only scrutinized credit issues and not tax issues in assigning ratings - are struggling with whether, and when, tax issues should be considered in the rating process.
"There are no hard and fast rules on this," deSante said.
Columbus planned to use proceeds from the issue to make a lump sum payment to the Ohio Police and Firemen's Disability and Pension Fund. An Ohio law passed this summer made it possible for Columbus and other cities to issue GO bonds to prepay the $400 million of total liability they owe the fund in return for having their liabilities discounted by the fund.
The cities owed the state pension fund money because the fund assumed their liabilities for pension payments to be made to individuals who were in the pension system as of 1967 while it was still unfunded.
Columbus, which owed the fund about $41.4 million, had that amount discounted to $26.9 million by the fund in October. Dorrian has said the agreement with the fund on the discount expires in February.
The city had structured the deal as a refunding. Once the city paid off the loan, the bond proceeds would have been treated as spent and would have been freely invested by the fund at a yield high enough to make up for the discount.
Before it was canceled, the bond issue was priced with a rarely used provision to call the bonds at par if the bonds ultimately were determined to be taxable.
Columbus' special tax counsel. Arter & Hadden, has contended the deal can be sold on a tax-exempt basis under current tax laws and that a letter ruling was not needed.
In 1990, a letter ruling was sought for a similar tax-exempt deal by officials from Kemper and Bricker & Eckler, the city's bond counsel. But the IRS refused to consider the ruling request because at the time no Ohio law authorized the bond sale.
