WASHINGTON -- Treasury and Internal Revenue Services officials have decided, in the wake of the Supreme Court's Cottage Savings decision, to proceed with the review of a draft revenue ruling that would curb call-waiver bonds by treating them as being reissued and subject to current stricter tax laws.

High-level IRS officials decided certain revenue rulings could be put through the regulatory system in spite of the court decision. Among the officials at the meeting were IRS Commissioner Fred T. Goldberg and Treasury Assistant Secretary for Tax Policy Kenneth W. Gideon.

Some agency and industry officials had been concerned that the court's April 17 decision in Cottage Savings Association v. Commissioner of Internal Revenue set new standards and threw into question existing laws and guidance on municipal bond reissuance and other areas of the tax law. Work on several ruling projects had ground to a halt as agency officials debated the impact of high court's ruling.

But Treasury and IRS officials made clear at the meerting that there will not be any development of an overall agency position on Cottage Savings, informed sources said. Instead, the high court's decision will be applied to certain rule-making projects on a case-by-case basis, they said.

"There's not going to be any universal guidance on Cottage Savings. It's something that's going to have to be addressed on a case-by-case basis," said one source. There is too much division of opinion about Cottage Savings within the agencies to be able to reach a broad consensus on its impact, several sources said.

There also was agreement at the meeting that Cottage Savings will not retroactively affect existing rulings and guidance, the sources said. "At this point in time people are entitled to rely on the published authorities that are out there until we say differently," another source said.

The Supreme Court's decision that thrifts could deduct losses claimed from the exchange of substantially similar pools of mortgages found that the loans exchanged by the thrifts were "materially different" because they embodied "legally distinct entitlements." The pools of mortgage loans exchanged had different obligors and different sources of collateral.

Under Section 1001 of the code, which generally deals with whether a taxpayer has realized losses or gains for tax purposes from an exchange or sale of property, a bond issue is deemed to be reissued and subject to current more restrictive tax laws if changes made to it cause the terms of the bonds to be materially different.

Some IRS officials in the tax-exempt bond branch have said that Cottage Savings provided a new definition of "materially different" and created a "hair-trigger" standard for reissuance, under which any change in a bond issue would trigger a reissuance and cause the bonds to become subject to current tax laws.

At the other end of the spectrum are other agency officials and the National Association of Bond Lawyers who say Cottage Savings should have no impact on existing law and regulations. They say the decision was limited to swaps of mortgage loan pools and was in line with existing laws in finding that an exchange of securities of different obligors and a change in the obligors constitutes a recognition of loss or grain for tax purpose under Section 1001.

The high-level officials at the meeting did not approve the draft revenue ruling that would curb call-waiver bonds, but merely said it could continue through the agency review process in spite of Cottage Savings, the sources said. Typically in call-waiver transactions, an issuer waives its right to call outstanding bonds in return for some sort of payment from bondholders or from an investment banking firm on behalf of bondholders.

Sources said the draft ruling, if approved and published in its current form, could curb several kinds of transactions and would not be limited to municipal bonds. The ruling was prompted in part by increasing interest in the municipal market in the late 1980s in transactions involving waivers of calls in which the goal was to create bonds which could be stripped or to replicate the effects of a refunding when an issue could not be refunded.

Callable bonds cannot be stripped. So investment bankers would pay an issuer, on behalf of bondholders, to waive its call rights for an issue.

In replicating a refunding, bondholders or an investment banking firm acting on their behalf, would pay an issuer to give up some right and the payment would be treated as a receipt such that it would have the effect of lowering the bond yield.

Earlier this year, some industry agency officials became concerned about a transaction that effectively waived bond calls. In that transaction, Denver-based Kirchner Moore, a division of George K. Baum & Co., purchased bonds that Jefferson and Adams counties had issued in the early 1980s, increased their value through a refunding, and then sold for a profit.

The bonds were defeased past the call data and backed by triple-A rated securities. Arter Hadden Haynes & Miller was special tax counsel and underwriter's counsel on that deal.

Several months later another deal involving Kirchner Moore and Arter Hadden was the subject of controversy. That transaction did not result the waiver of any bond calls, but the economics of it were similar to those of call-waiver deals, industry, IRS, and Treasury officials said.

In that deal, the underwriters purchased 1988 bonds from the Utah School District Finance Cooperative, increased their value through a taxable refunding, and then sold them for a profit.

The bonds were defeased with Treasuries to a 1988 call date and an early lottery was held to determine which of the bonds would be subject to mandatory sinking fund redemptions. The payment to the issuer, in this case, resulted from the underwriter's sale to the issuer of Treasuries at below market prices.

Other investment banking firms involved in the Utah deal were Boettcher & Co. and Kemper Securities Group.

Treasury officials said they were concerned that the taxable refunding may have triggered a reissuance of the 1988 bonds which would cause them to lose their tax-exempt status. They said the payment to the issuer had the economic effect of reducing the interest costs on the issue to the issuer, adding that this could be a material modification of the terms of the 1988 bonds.

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