LOS ANGELES -- The Santa Margarita (Calif.) Water District tapped a debt service reserve fund to make a $3.46 million payment due July 1 to holders of $62 million of the district's general obligation bonds, market sources said yesterday.

Proceeds of the GO bonds, issued in 1990, were used to finance infrastructure for improvement district 7a, one of eight improvement districts in the sprawling Santa Margarita district that has about $400 million of GO bonds outstanding now trading in the secondary market.

Improvement district 7a was intended to be a residential development located on 2,202 acres in an area known as Talega Valley, which straddles the border of Orange and San Diego counties.

Nearly 5,000 homes, two golf courses, and some commercial projects were planned, but a downturn in the California real estate market exhausted the financial resources of improvement district 7a's developer, a limited partnership called Arvida/JMB Partners L.P.II.

Observers said Arvida/JMB's financial distress was well known, and its failure to make a $6.6 million special assessment payment to the water district on June 30 was not unexpected.

The Santa Margarita district's general manager, John Schatz, did not return phone calls yesterday.

Market participants familiar with improvement district 7a said the district has three years of reserves available.

The reserve fund totaled $5.7 million before it was tapped for the $3.46 million semiannual principal and interest payment last Friday. In addition, a letter of credit that Arvida/JMB arranged with Bank of America in 1990 will provide $11.4 million, or two years of debt service.

"That provides [the district] sufficient funding to pay debt service on the bonds for the next three years," a source said.

The Water District also this month will begin foreclosure proceedings on the developer's property. When the LOC funds and reserves are extinguished, the district could then sell the land to recoup the unpaid tax lien.

But a source said it is unlikely the foreclosure would occur, in part because the land, with an assessed valuation of $75.8 million, has "all the major infrastructure," including sewer and water lines, and that makes it attractive to other developers.

"My feeling is that another developer will take it over," a source said. "It is prime land. It is a beautiful area."

In another development, MBIA Corp. was scheduled to meet yesterday to discuss providing credit backing for the Water District's proposed issuance of $200 million of Marks-Roos refunding bonds.

Bond pricing, originally planned for June 20, was delayed when MBIA and two rating agencies asked for more information, said Tom DeMars, a principal with Fieldman, Rolapp & Associates. The Irvine, Calif., independent financial advisory firm is the district's financial adviser.

DeMars said troubles experienced by improvement district 7a are not related to the refunding, which involves other improvement districts' GO debt. "We've had some delays because we're trying to get [the Marks-Roos refunding] rated and insured," DeMars said.

Standard & Poor's Corp. has indicated that it will assign an investment-grade rating, DeMars said, adding that Moody's Investors Service has delayed its rating assignment until it receives more information.

Under consideration by the district's financing team is the splitting of the issue into two series. One series would be sold with triple-A ratings based on insurance, and another portion would be sold unrated and unenhanced.

DeMars declined to estimate when the bonds would be priced, noting that "market rates dictate" timing.

A source who asked not to be identified said the district's board "has indicated it is their impression longterm rates will go down so they want to sit on the deal to see if they can get better numbers out of the market."

The Marks-Roos bonds would be sold by a district financing authority controlled by the district directors. PaineWebber Inc. is lead underwriter and Stone & Youngberg is co-manager. Bond counsel is Stradling, Yocca, Carlson & Rauth.

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