WASHINGTON - Political campaign contributions by bond firms could pose tax law problems in some cases, an Internal Revenue Service official said at a conference here on Friday.
Tax law violations could result if bonds firms are making campaign contributions to state and local officials and then recouping the money through higher issuance costs that exceed tax law limits, said Marcus Owens, director of the IRS exempt organizations' technical division.
"If there was a diversion of bond proceeds, if the expenses of issued bonds were being increased above the limits to provide funds for contributions, I think you would have a potential tax question there," Owens said at the conference, which was sponsored by two lawyers groups.
While Owens did not specify the tax law limits he thought might cause problems, the law limits to 2% the amount of private activity bond proceeds that can be used for issuance costs.
Owens, whose exempt organization branch was given the bond enforcement program earlier this year, said that the IRS has not fully explored the tax implications of bond-related political contributions, but that other issues could come up during the audit process.
Turning to the bond enforcement program, Owens said that the exempt organizations branch currently has underway roughly 35 to 40 audits of tax-exempt organizations in which tax concerns about bond issues have arisen.
"These range from serious to technical" concerns, Owens said. They include such issues as whether there was too much private use of bond proceeds and whether limits on issuance costs were exceeded, he said.
Owens said the IRS expects to try to negotiate settlement or closing agreements whenever possible to resolve tax law violations. In such agreements, the issuer or participants of the bond deal will pay the IRS to prevent the agency from revoking the tax-exempt status of the bonds and taxing the interest earnings of bondholders.
"The service is taking an approach to the resolution of these that will lean heavily on closing agreements," he said. "I would suspect they would be used on a near-wholesale basis to resolve problems" unless Congress authorizes the IRS to impose alternative sanctions to closing agreements or the loss of tax-exemption.
Owens said the exempt organizations branch is "in the process of designing an effective and measured" audit program in the tax-exempt bond area.
He predicted that as the IRS continues to expand its audit program for bond issues, "you undoubtedly will see a trickle of cases in litigation." Owens said that one case is already in tax court. He did not name it, but appeared to be referring to the case involving the Riverside County, Calif., Housing Authority's Whitewater Garden black box bond issue. The case, he said, is not under the new audit program but is being monitored by exempt organizations branch officials.
Owens said the IRS is revising audit guidelines for colleges and universities, but that they probably will not be published until sometime during the first half of next year.
Meanwhile, T.J. Sullivan, an IRS special assistant on health care, said that while the Clinton health care reform bill clarifies that so-called point of service benefits will be treated as commercial insurance, the IRS and the Treasury are aware this could threaten the tax-exempt status of some health maintenance organizations and are currently trying to address this problem.
The Clinton bill would require HMOs to provide such benefits - that is, they would have to cover patients who choose to go to outside doctors. The problem that this creates for HMOs is that the benefits, once treated as insurance, become unrelated business income. If the HMO has too much unrelated business income, it no longer qualifies for tax-exempt status.
Sullivan also said that under the Clinton bill, HMOs that either employ doctors or are members of a group that provides health care services would have to meet a community benefit standard to qualify for tax-exempt status under 501(c)(3). The 501(c)(3) organizations can benefit from tax-exempt financing. Other kinds of HMOs, Sullivan said, would have to qualify for tax-exempt status under different sections of the tax code that do not provide for the use of tax-exempt financing.
Frederic Ballard Jr., a lawyer with Ballard, Spahr, Andrews & Ingersoll in Washington, questioned whether it was appropriate under the Clinton bill for the federal government to ask states to set up guarantee funds to bail out failing hospitals but to then tell them they cannot use their traditional method of financing: tax-exempt financing. Ballard asked the question after pointing out that the Clinton plan prohibits tax-exempt financing for state guarantee funds.