May 1, 2008
State of Minnesota Settles Forward-Float Contract Dispute with IRS
Dorsey partner Thomas D. Vander Molen discussed in The Bond Buyer a recent settlement between the IRS and the State of Minnesota on a forward-float contract dispute. Forward-float contracts are used in advanced refundings of tax-exempt bonds to cover the cash-flow gaps between the time securities in the issuer's refunding escrow mature and the time funds are needed to pay debt service on the related bonds. The issuer receives an upfront payment in exchange for permitting the contract provider the benefit of investing funds during such gaps or float periods. In 1992, the State issued $243.1 million in general obligation refunding bonds and received a $1.8 million fee from Sakura Global Capital Inc. in exchange for giving Sakura the opportunity to receive investment earning for funds available during float periods.
Vander Molen, who acted as tax counsel to the Minnesota Department of Finance in the matter, said the IRS claimed that the fee received by the State was below fair market value and that if the forward agreement had been purchased at fair market value, the investment yields would have been materially higher than yields on the bonds, making them arbitrage bonds and therefore taxable. While disputing the IRS claims, the State agreed to pay the IRS $20,000 (less than a quarter of the $95,000 that Colorado Springs paid the IRS in January 2008 on a similar matter and substantially less than the $539,411 sought by the IRS). In turn, the IRS agreed not to tax bondholders. Vander Molen said the IRS decision to settle for such a relatively low amount was likely attributable in part to its concerns about the statute of limitations, because the last of the bonds were redeemed on August 1, 2002.
"Mixed Forward-Float Findings From IRS" was published by The Bond Buyer, May 1, 2008.