WASHINGTON - A Chattanooga, Tenn., authority has reached agreements with the internal Revenue Service to settle tax disputes over three black box housing bond issues totaling $25.1 million that were sold in late 1985 by the now defunct Matthews & Wright Inc.

Under the agreements announced yesterday by the authority, the Health, Educational and Housing Facility Board of the City of Chattanooga, the IRS agreed not to tax bondholders' interest earnings from the $12 million Oak Crest Apartments issue, the $8.5 million Highland Apartments issue, and the $4.6 million Northgate Apartments issue.

The IRS also agreed not to blacklist or disqualify the authority from certifying the tax exemption of future bond issues, according to the brief announcement issued by the authority.

The authority, in turn, agreed to compensate the IRS for a portion of the arbitrage earned from each of the deals.

At the same time, the authority also reached separate agreements with some of the participants in the deals, under which they compensated the agency for the money it had to pay the IRS, according to Harold E. Starke Jr., an attorney with Mays & Valentine in Richmond, who represented the authority in the closing.

But neither Starke nor city officials would disclose the amounts of money the authority paid to the IRS or the amounts it received, or from which participants.

The three bond issues were among 26 underwritten by Matthews & Wright. The Sccurities and Exchange Commission charged four years ago that the 26 were fraudulently closed without cash in 1985 to beat new tax law curbs instituted to prevent issuers from earning excessive amounts of arbitrage.

All 26 issues have been under investigation by the IRS for the last five years, and the agency has entered into several closing agreements in the last couple of years with other issuers involved in some of the deals.

The IRS had warned the Chattanooga authority in 1991 that the three bond issues might not be tax exempt. The IRS said the bonds appeared to be taxable arbitrage bonds because the proceeds were used to acquire obligations that were expected at the time of issuance to produce a yield above the bond yield.

In all three cases, the proceeds were used to purchase guaranteed investment contracts rather than to finance the housing projects. Both the Oak Crest and Northgate projects were completed using other financing, but the Highland project was never built.

All three issues had the same participants. Beside Matthews & Wright, the deals were also underwritten by Donaldson, Lufkin & Jenrette Securities Corp. Bankston Wright and Greenhill was bond counsel for the three deals.

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