Role of the Internal Revenue Service’s Office of Tax-Exempt Bonds

1. Role of the Internal Revenue Service’s Office of Tax-Exempt Bonds

2. Under the Constitution • Under the authority of the Constitution, Congress created the Treasury Department under Section 7801 of the Internal Revenue Code. • Section 7803 establishes a Commissioner of the Internal Revenue Service in the Department of Treasury. • The Commissioner is charged to administer, manage, conduct, direct, and supervise the execution and application of the internal revenue laws.

4. Under the Constitution • Section 7804 authorizes the Commissioner of Internal Revenue to employ such number of persons as the Commissioner deems proper for the administration and enforcement of the internal revenue laws. • Section 6201 authorizes the *Secretary or his delegates to make inquiries, determinations, and assessments of all taxes. * Secretary refers to the Head of the Treasury Department. This term is generic in that through delegation orders, one becomes the Secretary charged with oversight of overall enforcement of the laws.

5. Tax Exempt & Government Entities Sarah Hall Ingram, Commissioner (202) 283-2500 Joseph H. Grant, Deputy Commissioner (202) 283-2700 Joe Urban, Tech. Advisor, (202) 283-8925 Rick Trevino, Exec Assistant, (202) 283-9963 Mike Daly, Exec Assistant, (202) 283-9964 VacantSr Technical Advisor (202) 283-8804 Moises C. Medina Director, Government Entities (202) 283-9738 Rob Choi Acting Director, Employee Plans (202) 283-9660 Lois G. Lerner, Director, Exempt Organizations (202) 283-0289 Michelle Marx Executive Assistant (202) 283-9743 Diane Letourneau, (202) 283-8861Executive Assistant Sue Lehman, (202) 283-8857 Mgr, Program Mgt Staff Peter McConkey, (202) 283-9531Executive Assistant Lou Leslie, (202) 283-9612Mgr, Program Mgt Staff Lisa J. Beard Program Manager (202) 283-9799 Cliff Gannett Director Tax Exempt Bonds (202) 283-9820 Christie Jacobs Dir Indian Tribal Govts (720) 956-4504 Andy Zuckerman Dir Rulings & Agreements (202) 283-9660 Mark O’Donnell Dir Customer Ed & Outreach (202) 283-9532 Monika Templeman Dir Examination (410) 962-4092 Melaney Partner Acting Dir Customer Ed & Outreach (202) 283-8845 Holly O. Paz Acting Dir Rulings & Agreements (202) 283-9473 Nanette Downing Dir Exam (214) 413-5425 Paul Marmolejo Dir Federal/State/Local Govts (559) 443-7601 (202) 283-9818 Mark Kirbabas Dir Customer Ed & Outreach (202) 283-9742 Cindy Thomas Manager Determination (513) 263-3519 Jackie Grissom Manager Exam Programs & Review (214) 413-5404 Betty McClernan Mgr Exam Programs & Review (410) 962-5659 Vicki Surguy Mgr Determination (513) 263-3583 Jayne Maxwell Mgr FSLG Field Operations (512) 499-5070 Robert (Bob) Henn Mgr TEB Field Operations (718) 488-2014 John Saltmarsh Mgr ITG Field Operations (909) 388-8162 Donna Abner Manager Determination & Qual Assurance (513) 263-3696 Jason Kall Manager Compliance Strategy (281) 721-7760 Colleen Patton Area Mgr Pacific Coast (720) 956-4533 Daniel Jones Mgr Determ Qual Assurance (513) 263-3422 Steve Chamberlin Mgr TEB CPM (636) 255-1290 Phyllis Burnside Acting Mgr FSLG CPM (401) 525-4205 Steve Bowers Mgr ITG CPM (714) 347-9430 William Dolce Area Mgr Northeast (860) 258-2020 Joan Hirsch Area Mgr Pacific Coast (562) 400-1801 Bill Hulteng Mgr EP Tech (202) 283-9508 Vacant Manager Technical Michael Sanders Area Mgr Mid-Atlantic (215) 553-7613 Marian Bodart Dir Business Systems Planning (202) 283-8864 Peter Lorenzetti Area Mgr Northeast (718) 488-2010 David Fish Manager Guidance (202) 283-8909 Joyce Kahn Acting Mgr EPTech Guidance & Qual Assurance (202) 283-9586 Bobby Zarin Dir Communication & Liaison (202) 283-8868 Janice Gore Area Mgr Great Lakes (262) 513-3465 Joanne Dorling Area Mgr Mid-Atlantic (908) 301-2653 Cynthia D. Dunn Dir EDI (202) 283-9959 Janet Mak Acting Mgr Voluntary Compliance (718) 488-2383 Craig Bellanger Area Mgr Gulf Coast (504) 558-3135 Regeina HallActing Area Mgr Great Lakes (214) 413-5434 Bryan Musselman Dir Finance (202) 283-9906 Tom Murray Dir Human Resources (202) 283-9894 Mary Epps Area Mgr Gulf Coast (404) 338-8214 CUSTOMER SERVICE TOLL-FREE (877) 829-5500 Imraan Khakoo Dir Planning (202) 283-9907 Kathie Averett EO Compliance Area (801) 620-2119 Roy E. Olson Dir Research & Analysis (202) 283-9855 February 2011

7. Compliance and Program Management • TEB Compliance and Program Management staff is responsible for: • Coordinating referral information with the TEB Referral Committee; • Seeking to resolve Voluntary Closing Agreement Program (VCAP) submissions; • Development of an ongoing Outreach Program; • Updating the Internal Revenue Manual and assisting in the issuance of Revenue Procedures • Coordinating with the Office of Associate Chief Counsel on procedural on guidance matters; • Assisting Field personnel in the identification and development of complex and emerging technical issues; • Administering TEB’s quality review of closed examination cases; • Administering questionnaires and market segment surveys; and • Classifying returns related to general examination program activity

8. Voluntary Closing Agreement Program (VCAP) • Purpose: The primary purpose of VCAP is to encourage issuers, conduit borrowers, and other parties to bond transactions to exercise due diligence and to attempt to correct any issuance and post-issuance infractions of the applicable sections of the Internal Revenue Code. • In accordance with Notice 2008-31, VCAP was expanded to include tax credit bonds. • It is the continuing policy of the Service to attempt to resolve violations of the Code without taxing bondholders.

9. VCAP • VCAP is not available when: • The violation can be remediated under existing remedial action provisions or tax-exempt bond closing agreement programs contained in the regulations or other published guidance. • The bond issue is under examination. • The tax-exempt status of the bonds is at issue in any court proceedings or is being considered by the IRS Office of Appeals. • The Service determines that the violation was due to willful neglect.

10. VCAP Resolution Standards • IRM section 7.2.3.3 sets forth resolution standards under TEB VCAP for certain identified violations. • Excessive nonqualified use; • Failure to provide notice of defeasance; • Failure to defease within 10.5 years of issuance; • Alternative minimum tax adjustment; • Capital expenditure limitation failure; • Maturity exceeding 120% of economic life; • Impermissible advance refunding; and • Failure to timely reinvest proceeds into 0% SLGS.

11. Questionnaires and Market Segment Surveys • Purpose: Gather data regarding the practices and procedures of issuers regarding record keeping and monitoring of the rules applicable to their financings. • As part of developing relationships with State officials, TEB will seek to partner with states to address record retention. • Allows TEB to monitor non-compliance trends for the purpose of designing proactive education and outreach products for use by TEB Customers. • Failure to respond may result in an examination.

12. Classification • The process by which returns are selected for examination. • Classification attempts to include financings that address: • Key areas identified through examinations and compliance check project initiatives; • Market segment risk assessment; and • Annual Work Plan criteria. • Classified returns are either: • Examined by CPM staff as part of a classification redesign that limits the focus of examinations • Examined by Field Operations

13. Field Operations • The focus of TEB’s Field Operations is to identify and correct noncompliance with fairness and the highest level of integrity. • Examinations are conducted at the issuer level, consistent with the continuing policy to attempt to avoid taxing individual bondholders. • Field Operations personnel located throughout the country conduct comprehensive and limited scope examinations, and assist in the delivery of outreach to the bond community.

14. Field Operations • TEB Field Operations is responsible for: • Conducting examinations that include • Annual Work Plan examination • Limited scope • Project initiatives • Referrals • Consideration of fraud and IRC section 6700 promoter penalties • Conducting pre-payment and post-payment compliance activity with respect to direct payments related to Build America Bonds and other Direct Pay Bonds; • Coordinating with other business operating divisions to assess tax on bondholders and conduit borrowers, when appropriate; and • Processing requests for recovery of overpayments of rebate.

15. Examinations • As part of TEB’s general program work, the Field: • Conducts comprehensive examinations of a wide variety of governmental and private activity bonds • Seeks to resolve identified violations through closing agreements.

16. Examinations • The primary objective of a TEB examination is to determine if the bond issuance is in compliance with the qualification provisions of the Internal Revenue Code, which permit bondholders to exclude from gross income interest received on the bonds.

17. Examinations • In a tax-exempt bond examination the Issuer of the bonds is considered the “taxpayer,” so the burden of maintaining and producing adequate records necessary to conduct a quality examination is placed on the Issuer. • In the examination of a private activity bond many records are often secured from the Conduit Borrower, and sometimes from other parties to the transaction. However, they are considered third parties in a tax-exempt bond examination.

18. Examinations • Under the provisions of IRC section 6103, the Service may contact third parties to obtain information. • Generally, contacts with third parties are made when the Service is unable to obtain the information from the issuer or to verify information provided by the issuer. • IRC 7602(c) requires the IRS to: • Provide advance notice to the taxpayer that third party contacts may be made. • Periodically provide a list of all third party contacts to the taxpayer. • Provide a list of third party contacts to the taxpayer upon request.

19. Examinations • At the inception of the examination, the issuer is notified in writing of the initiation of an examination of an identified financing. • Four types of letters • General • Project Initiative with no identified problems (green) • Problematic financings, but not identified with respect to the examined bond (yellow) • Referrals - External or internal sources that identify specific bond issues as problematic (red)

20. Examinations • During the course of an examination, TEB seeks to identify and resolve issues as expeditiously as possible • Issues may be resolved without the issuance of a formal report, or subsequently thereafter • Jeopardizing violations are resolved through a closing agreement with the issuer and may include other parties to the transaction • Resolution of violations through closing agreements • Includes negotiated terms that typically include • payment of a settlement amount and/or • redemption of bonds • Consider, in part, the due diligence of issuers and their representatives to act in good faith to resolve violations in a timely manner.

21. Examinations Closing agreement settlement amounts are determined based on a variety of factors, including • Taxpayer exposure • Calculated for periods for which there are “open statutes” for the assessment tax on bondholders determined as of the date the issuer was notified of a bond violation (generally three years after the filing of the tax return) • Computed at a 29% tax rate on interest paid on the bonds plus deficiency interest • Negotiated settlement amounts that appropriately reflect the nature and severity of the violation to be resolved.

22. Examinations • Failure to resolve an identified violation through a closing agreement results in: • The issuance of a Form 5701 (if not previously issued) • A proposed adverse letter • Pursuant to the issuance of a proposed adverse letter, the issuer may request the matter to be considered by the Office of Appeals • Failure to timely request an appeal will result in the issuance of a final adverse letter pursuant to which the interest on the bonds is includible in the gross income of bondholders (or a credit is not allowable.)

23. Examinations of Advance Refunding Bonds • One of the key audit aspects of an advance refunding issue is to determine that the yield on the escrow fund is not more than .001% above the bond yield of the refunding bonds. • To ensure such compliance, requested documentation typically includes: • The Verification Report, • Investment records, and • Proof of securities purchased to fund the escrow.

24. Examinations of Advance Refunding Bonds • Proof of securities purchased can include: • For escrows funded with United States Treasury, State and Local Government Series (SLGS) Securities, including zero interest securities: • copies of the final SLGS subscription forms with proof of date subscribed, principal amounts, interest rates, maturity dates, issuance dates, first interest payment dates, appropriate signatures, and Federal Reserve Bank received stamps.

25. Examinations of Advance Refunding Bonds • For escrows funded with open market securities, forward float contracts, and similar securities, documentation establishing the purchase of such securities at fair market value is requested, e.g., copies of dealer trade confirmations and bid documents.

26. Examinations of Advance Refunding Bonds • In the event of an escrow restructuring involving the sale of: • SLGS, a copy of the Early Redemption Calculations Report from the Bureau of Public Debt is requested. • Open market securities, copies of all dealer trade confirmations with proof of sale dates, interest rates, and sale prices

27. Examinations of Advance Refunding Bonds • The focus of any advance refunding bond examination is largely driven by the funding of the escrow fund: • SLGS, • Open Market Securities, or • A combination of both (0% rollover SLGS).

28. Examinations of Advance Refunding Bonds • SLGS-funded escrows: • Focus on verification that the issuer in fact purchased what was depicted in the Verification Report and no deviations occurred. • Escrows with open market securities: • Same as above, but with additional consideration to the purchase of the securities at fair market value. • Escrows requiring reinvestment into 0% SLGS: • Verify the reinvestment occurred and occurred timely.

29. Examinations of Advance Refunding Bonds • Violations resulting from the failure to reinvest or timely reinvest in 0% SLGS can result in a yield on the escrow fund that is higher than the yield on the refunding bonds. • VCAP offers a standardized resolution for this violation. • The Field Operations resolution will result in a harsher resolution to foster self-identification of failures.

30. Examinations of Advance Refunding Bonds • Requirements under the VCAP resolution: • the issuer submits the request within 60 days of the next required computation date following the date of the reinvestment failure, • the issuer (or the escrow agent through the issuer) agrees to pay an amount equal to the sum of the following: • (1) An amount which, if treated as a payment with respect to the investments held in the escrow, reduces the yield on the escrow to the bond yield; plus • (2) An amount equaling interest accrued at the underpayment rate under IRC section 6621 beginning on the date the payment would have been due if treated as a yield reduction payment and ending on the date the payment is actually paid to the IRS.

31. Examinations of Advance Refunding Bonds • For this purpose, proceeds held by the trustee due to this reinvestment failure may be treated as invested at the applicable federal funds rate (AFFR) • Trustee certifiesthat • Its customary practice is to invest its overnight balances at a rate which approximates the AFFR • the proceeds were likely invested in such a manner • Certificate is required even if trustee is not a party to the VCAP

32. News Flash! • The Treasury Department announced the suspension of sales of State and Local Government Series (SLGS) nonmarketable Treasury securities until further notice, effective 12:00 noon Eastern Daylight Time (EDT), May 6, 2011. This suspension is necessary because the statutory debt ceiling has not been raised. The suspension will assist Treasury's management of the debt subject to limit. • The suspension applies to demand deposit and time deposit securities. Subscriptions for SLGS received by the Bureau of the Public Debt prior to 12:00 noon EDT, on May 6, 2011, will be issued on the date requested. New subscriptions for SLGS will not be accepted during the suspension.

33. Yield Restriction Compliance when SLGS Window is Closed • Generally, the proposed Treasury Regulations (into which an issuer may elect) may elect) allow an issuer to make a yield reduction payment for investments purchased when the SLGS window is closed. Prop. Treas. Reg. 1.148-5(c)(3)(viii) (09/26/2007)(viii)

34. Whistleblower/Fraud/6700 • TEB continues to address referrals from the Whistleblower Office and the application of section 6700 penalties and fraud considerations when warranted.

35. Whistleblower • In 2006, legislation was enacted establishing the Whistleblower Office such that previously existing Code section 7623 was re-designated as section 7623(a) and a new section (b) provision was added. • Primary difference between “a” and “b” is that b claims are those for which the amount of tax due is over $2M and are subject to a “Taint Analysis.”

36. Whistleblower • Taint analysis takes into consideration whether the informant’s claim might be tainted, e.g. as a result of current employment with the identified taxpayer or illegally obtained information. • In conjunction with counsel, TEB conducts taint analyses and makes recommendations to the WBO as to whether a referral item should be examined. (TEB is not required to conduct an examination even if a recommendation to the WBO to do so is made.)

37. Whistleblower • TEB has received approximately 30 whistleblower claims to date. • One submission can include identification of multiple bonds. • Only the Director of the Whistleblower Office can decide whether and in what amount a claim for award may be paid. • An award between 15% and 30% of the amount of proceeds collected by the Service could be awarded.

38. Fraud and 6700 • In all examinations, consideration is given to the potential for fraud and whether the application of the Code section 6700 penalty is appropriate.

39. Fraud and 6700 • Section 6700 is applicable to any person who: • organizes or assists in organizing • and makes or furnishes (or causes another person to make or furnish) certain statements, including statements regarding exclusion of income and allowability of credits • and for which the person knows or had reason to know such statement was false or fraudulent as to any material matter, • shall pay a penalty of 50% of the gross income derived from the activity.

40. Fraud and 6700 • Fraud involves a willful attempt. • Section 6700 is not a fraud penalty. • Section 6700 requires that the person knows or should have known that the statements were false or fraudulent. • It is not necessary that a determination be made that bonds do not qualify as a tax advantaged bond in order to assert a penalty.

41. Initiatives • There are two primary methodologies used to initiate a project initiative. They are: • Market Segment Compliance Measurement: • Systematic selection of each market segment over a period of time to measure noncompliance of that segment or type of bond, e.g., small issue manufacturing bonds and single family housing bonds would constitute separate market segments. • Emerging Issues: • Identification of cases based on the existence of potential emerging or identified issues within the TEB return population, e.g., an identified abuse resulting in the failure to properly determine investment yield.

42. Initiatives • Recent examples of project initiatives include: • Tax Increment Financing • Smaller Variable Rate Issuers • Independent Multi-Purpose Special District • Student Loan Bonds

43. Limited Scope Exams • Project initiatives can take the form of a limited scope examination. • Limited scope examinations can be expanded to a more comprehensive examination if it is deemed warranted by the Field Operations examining agent and approved by the Field Operations Group Manager.

44. Limited Scope Exams • Examples of current and future limited scope examinations include: • Form 8038-T Filing Compliance Initiative, • Pooled Financings Initiative, and • Advance Refunding Initiative.

45. TEB Field Operations and CPM Teams • As part of a collaborative effort between Field Operations and CPM, TEB has assembled numerous teams within TEB to help facilitate the goals set forth in its Work Plan. • Examples of these teams include: • The Arbitrage Team • Direct Pay Tax Credit Bonds Compliance Team • State Outreach Team • Distressed Government Entities Team

46. Direct Pay Bonds • Section 54AA(g) provides for the issuance of Direct Pay Build America Bonds • Governmental bonds only • Taxable bonds that would otherwise qualify as tax-exempt bonds • Issued in 2009 or 2010 • All proceeds used for capital expenditures • An information return is filed with the Service

47. Direct Pay Bonds

48. Direct Pay Bonds

49. Direct Pay Bonds • Issuer receives a 35% credit from the Federal government for the interest paid on the bonds • To receive the credit, an issuer must file a Form 8038-CP which is a claim for refund • The refund claim is a tax return or claim for refund, not an information return

50. Direct Pay Bonds