CONTENTS Actions by the Board of Directors Iowa Supreme Court … › portals › 0 › documents › TheBondLawyer... · 2009-09-15 · NABL at a Glance 7 Consultants: MSRB Rule

CONTENTS

President's Column (William H. McBride) 2Washington Saga (Amy K. Dunbar) 5NABL at a Glance 7Consultants: MSRB Rule G-38 8NABL Political Contributions Survey (Amy K. Dunbar) 11Actions by the Board of Directors

on February 22 and 23, 1996 (Susan Weeks) 12Shared Tax Observations (Sharon Stanton White) 17The Sixteenth Annual Tax Seminar (John J. Cross III) 24Materiality of Tax Disclosure in Municipal Securities Offerings:

An SEC Enforcement Perspective (William R. Baker III) 27Orange County Order: A New Legal Standard for Tax Disclosure?

(John M. McNally) 42Are You a Lobbyist? (Theodore M. Hester) 44Iowa Supreme Court Board Opines on Bond Counsel/

Underwriter Counsel Questions 46Committee on General Tax Matters Recommends

Re-Proposing Private Activity Regulations 47Suggested Changes to the Regulations Governing

United States Treasury Certificates of Indebtedness, Notes and Bonds – State and Local Government Series 50

Municipal Bond Price Transparency: What it Means for Issuers (Heather L. Ruth) 56

State Tax Codes and Municipal Bond Interest Rates (Duane Robert Stock) 61

Committee on General Tax Matters Recommends 1996 Treasury-IRS Business Plan Priorities for Tax-Exempts 64

Report of the By-Laws Review Committee (Andrew R. Kintzinger) 65"NABLnet" — NABL on the World Wide Web (David A. Caprera) 67NABL Moves 68Book Review 68Editor's Notes 69Quarterly Limericks 70

Volume 17, No. 1 March 1, 1996

The Quarterly Newsletter of the National Association of Bond Lawyers is published on or about March 1, June 1, September 1 and December 1 of each year, for distribution byfirst class mail solely to members and associate members of the Association. Membership information may be obtained by writing to Patricia F. Appelhans, Executive Director,National Association of Bond Lawyers, 1761 S. Naperville Road, Suite 105, Wheaton, Illinois 60187, or by calling 708/690-1135. Explicit or implicit editorial positions presentedherein do not necessarily reflect policies adopted or approved by the Board of Directors of the Association.

The Quarterly Newsletter March 1, 1996

National Association of Bond LawyersOfficers and Directors

William H. McBride . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . President Hunton & WilliamsRaleigh, North Carolina

Julianna Ebert . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . President-Elect Quarles & BradyMilwaukee, Wisconsin

Susan Weeks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Secretary Foley & JudellNew Orleans, Louisiana

William H. Conner . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Treasurer Squire, Sanders & DempseyCleveland, Ohio

Jeannette M. Bond . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Director LeBoeuf, Lamb, Greene & MacRaeNew York, New York

Robert W. Buck . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Director Palmer & DodgeBoston, Massachusetts

David A. Caprera . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Director Kutak RockDenver, Colorado

John M. Gardner . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Director Hogan & HartsonDenver, Colorado

Steve A. Matthews . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Director Sinkler & BoydColumbia, South Carolina

Floyd C. Newton III . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Director King & SpaldingAtlanta, Georgia

Howard Zucker . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Director Hawkins, Delafield & WoodNew York, New York

Andrew R. Kintzinger . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Director Briggs and Morgan Immediate Past President Minneapolis, Minnesota

Frederick O. Kiel . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Honorary Director Cincinnati, Ohio Editor of The Quarterly Newsletter

* * *

Patricia F. Appelhans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Executive Director Wheaton, Illinois

Amy K. Dunbar . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Director of Governmental Affairs Washington, D.C.

The Quarterly Newsletter 2 March 1, 1996

PRESIDENT'S COLUMN

In recent years, January and February have been busy months for the Association. The TaxSeminar is now firmly fixed on a late January or early February schedule, as well as the Wintermeeting of the Board of Directors. To this must be added the planning for the FundamentalsSeminar, the Washington Seminar, and, beginning this year, the publication of the Directory. Ofcourse, the President is not involved in all of these things, but many of your officers, directors andfellow members are involved in some of them and our staff is actively concerned with all of thesematters. It would fill a much longer column than the space allotted for this one to report on all ofthese matters, so I will only touch upon what I consider to be the high points. Much of what followsis discussed elsewhere in this edition of The Quarterly Newsletter but it all bears emphasis.

Tax Seminar. The Tax Seminar was one of the best in recent years, notwithstanding we hadno new, final or re-proposed private activity bond regulations. Thanks and major kudos go to ChairKristin Franceschi for all her hard work and effort at organizing the faculty and presentations. Twoitems from the seminar merit special mention:

Lebenthal Speech. The Thursday luncheon speaker was James Lebenthal of Lebenthal &Company, Inc., New York City. This is not the first time that Jim has addressed a NABL audience-- he spoke to us in Washington some years ago (some will remember his "Built by Bonds" pins andbumper stickers) -- and once again he was very well received. Starting with excerpts from hisadvertisements emphasizing infrastructure bonds, Jim spoke about how vital it is for all of us topromote tax-exempt finance for infrastructure purposes. Since the public works of a society are thereflection of it, the "project is the thing" and thus we should lose no opportunity to promoteinfrastructure finance. Sounding like a herald calling the troops to battle, Jim said we were on thefront lines in preserving not only public finance generally but also the great state and localinstitutions which make this country unique.

Baker Presentation. Jim Lebenthal's speech was juxtaposed upon the earlier presentation thatmorning from William Baker of the Securities and Exchange Commission. Bill recounted all theprior enforcement actions of the SEC in the municipal securities arena. He also presented thismaterial in a written outline, which was included in the Tax Seminar book, and is updated in thisnumber of The Quarterly Newsletter.

However, in addition to the bare recitation of the prior matters, Bill went on to assert that theSEC had jurisdiction and would continue to act in comparable situations in the future. Questionsfrom the audience and his fellow panelists focused on various points. Concern was expressed thatin its enforcement proceedings the SEC was effectively making rules by entering into settlementagreements of which private practitioners would have to be cognizant even though such"rulemaking" did not have the benefits of private input during a comment period. Other querieswere addressed as to why the SEC was apparently "ignoring" the IRS in these enforcement areasby alleging failure to disclosure material tax risks when the Service had not yet proclaimed anythingtaxable.

Mr. Baker forthrightly stated that the SEC intends to continue its actions in this area. It cannotabdicate from its Congressional directives to enforce the laws concerning the


sale and offering of securities. Thus, enforcement will continue without any formal proposedrulemaking procedures. He noted the valid concern that bad facts may make bad law in this areabut stated that the SEC will not desist in going after perceived wrongdoers.

As to the involvement or non-involvement of the Service, Bill stated that the SEC did indeedact faster than the IRS could at times. An example cited by him privately was the Matthews &Wright enforcement proceeding, engaged in by the SEC far faster than the Service's actions in thesame matter. He in no way slighted the Service, noting that they have other concerns, priorities andduties, but stoutly maintained that the SEC could and would look at failure to disclose material taxpoints.

This led to a discussion of the portion of the Orange County SEC documentation which citeda failure by the County to disclose "information" material to the "tax-exempt analysis." Concernwas expressed by the panelists that these SEC statements might be taken as the promotion ofopinion analysis disclosure not unlike what occurs in the tax shelter area. Mr. Baker, as has PaulMaco in other forums, negated this point, stating that there was absolutely no intent by the SEC tomandate different opinion styles or presumptions. Yet he also would not elucidate on precisely whatwas to have been disclosed in the Orange County situation. We are left to speculate that therecentness or other nature of particular actions by Orange County merited their disclosure.

At this point, I feel constrained to make a private and personal plea that the members of NABLnot go down the road of reasoned opinions and comparable tax shelter disclosure. If we maintainthe opinion standard at the high level that now exists, there is, I submit, no need for furtherdisclosure beyond that already common. The fact patterns agreed to in the SEC settlements can beviewed consistently as situations where there was something dramatically different about the taxopinion analysis and thus it was, at best, not quite up to the opinion standard. As we all know, ifyour tax opinion is wrong, you will be attacked on a number of different bases, including lack ofdisclosure. In one sense, the various SEC enforcement actions, as they relate to tax disclosure,evidence nothing more than this point.

Further, I believe the market would be dramatically harmed by a shift to reasoned opinions. Ihave always thought that our opinion standard allowed investors in municipal bonds not to factorinto their value analysis any risk with regard to the tax-exempt status. If that ceases to be true, itwill only drive up the price of municipal bonds. As noted by Jim Lebenthal in his speech, flat taxfears have already driven the rates on high-quality municipal bonds up to 91% of Treasuries. Adegeneration of the opinion standard can only serve to further narrow this spread, thus jeopardizingnot only the economic benefit to our clients but also our own livelihoods.

Board Meeting. The minutes of the February Board of Directors meeting are elsewhereherein, but I wish to note two items in particular.

First, please review the By-Laws discussion in the minutes and in Immediate Past PresidentDrew Kintzinger's article. The Board seems headed towards a consensus on changing the By-Lawsin the fashion described and we want your input. If you have any


comments, good, bad or indifferent, please get them to Drew in the next few weeks. As he says,we anticipate approval by the Board in May of a "near final" version of amended and restated By-Laws. These will be printed in the next edition of The Quarterly Newsletter and voted on at theJuly Board meeting. This will allow their public consideration at the September annual meeting.

The second item from the Board minutes is the political contributions survey and resultsummary. The survey answers were compiled by your Director of Governmental Affairs andpresented to the Board. Those results confirmed the general consensus since we last acted -- thatthe Board has gone as far as most of the membership desires. Further actions in this area mustcome from the ABA or state associations pushing disclosure or prohibition rules of their own. Yourearnest review of the survey results is solicited. I believe you will find each question evidences thatthere is no consensus among the membership on any further actions that could be taken.

Ongoing Projects. The work of various Association groups continues apace. Listed beloware certain efforts currently in process with the members to contact for participation (in no particularorder):

Revisions to Model Engagement Letters Roy Koegen

Form Indenture Project Morris Knopf

By-Laws Revisions Drew Kintzinger

Model Opinion Updates Michael Budin

Handbook for Legal Assistants Kathryn Hanzsek

New Subcommittees of Securities Law and Disclosure Committee:

Bondholder Communications Monty Humble

SEC Enforcement John McNally

Freedom of Information Act Issues Timothy Gagnon

Delivery of Underwriter's Counsel Stanley Keller Opinion to the Issuer

NABLnet. Finally, check out our new home page on the Web at http://www.nabl.org/ nabl.Thanks to David Caprera for getting it up and running.

William H. McBrideFebruary 28, 1996


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WASHINGTON SAGA

SLGing It Out on the Budget

In Washington, it seems the more thingschange, the more they stay the same. On thebudget front, the fate of the balanced budgetinitiative varies daily. It is most obviously beingcontrolled right now by the presidential election,specifically, Bob Dole's primary schedule. Ibelieve that despite on-going negotiations amongthe parties, no real progress will be made untilafter Majority Leader Dole has finished with theCalifornia primary and has wrapped up the Repub-lican nomination. Then he will be able to return toWashington ready to finish his business in theSenate before he becomes a full-time candidate.At that point, he and President Clinton will be onan even playing field, with their sights set on thesame prize and schedule. They will be ready tocommit themselves as candidates to the balancedbudget -- or not.

The Republicans have made clear that theywant a balanced budget deal in order to say thatthey delivered on that campaign promise whenthey run for re-election. The Administration'sdesires seem more schizophrenic. At times thePresident appears to genuinely want a budget dealand at other times he seems to do his best toundercut it. Both Dole and Clinton would be wellserved to have the budget behind them as they gofarther into the election season, so I predict thatthere will be a deal during the month of April.

This is important to our clients because of theimpact the budget debate is having on the vote toraise the debt ceiling. Until the debt ceiling isextended, there will be no SLGS issued and thereis the potential that the Treasury will be forced todefault on repayment of a SLGS obligation. It alsoties up government staff attention, keeping themfrom other issues on which our clients need theirattention.

The government is scheduled to default on itsdebts on April 1st. There is a continuing resolu-tion, funding those portions of the government forwhich there are not signed 1996 Appropriations


NABL

has a

J O B B A N K

for members and public sector lawyersseeking employment opportunities

with private law firms.

Contact Patricia Appelhans at708/690-1135

bills, that runs out on March 29th. On March 1st bly be phased in based on the complexities of thethe Republicans had planned to have the budget changes for the Bureau of Public Debt.and appropriations issues resolved by the end ofthe month. They had planned to have resolvedtheir differences on the budget, and either have abalanced budget deal attached to the debt ceilingbill or a down payment package for passage.Neither seems obvious at this time and there willprobably have to be another temporary debt ceilingexpansion and another continuing resolution priorto final passage of either package. The Presidenthas said that if the debt ceiling bill is loaded downwith extraneous provisions that the Presidentopposes, he will veto it. Until these issues are re-solved once and for all (for this year), the Republi-cans will be unable to get on with their otheragenda items. This may be exactly what the WhiteHouse wants to see. It does, however, keep theWhite House from pursuing its other election yearagenda items as well.

There is positive news on the long term SLGSagenda. Treasury officials have had several meetings on the proposals recommended by the ad hocgroup on SLGS reform and will be putting somerecommended proposals out for comment uponcompletion of the project. Depending on how longthe SLGS cessation continues, we'll see if thereforms beat the opening of the SLGS window.While Treasury hopes to issue a package of re-forms for comment, implementation would proba-

Private Activity Bond Regulations

Linda Schakel and Mike Bailey made it clearat the San Francisco Tax Seminar that they areworking diligently on trying to resolve the out-standing issues on the revision of the privateactivity bond regs. They also made it clear thatbased on the substantial comments made by many,including NABL, they are reviewing many of thefundamental issues underlying the proposed regsand that process is a timely one. If my gut instinctsare correct, I think we will see re-proposed privateactivity bond regs issued for comment some timeshortly before the Washington Seminar. For thoseof you who attended the Washington Seminar lastyear, you will recall that I was literally at the copymachine at GPO during the D.C. Seminar. Itserves as a useful deadline for regulators to en-courage the release of regulations at such meetingswhere they can get helpful feedback.

1996 Tax Bill

It is too early to predict what a 1996 tax billwill look like because we don't know whether the1996 as-yet-unpassed budget and the 1997 soon-to-be-negotiated budget will require tax legislationto provide revenues for reconciling budget deficitnumbers. It is certainly too soon for major taxreform initiatives. 1996 will be the year of debateon at least some of the dramatic tax reform propos-als suggested by members of Congress and presi-dential candidates alike. Certainly the fate of SteveForbes will at some level affect the tone andseriousness of debate on flat tax proposals. Iexpect there to be some sort of tax bill required forbudget reconciliation purposes and probably at aminimum to provide some sort of tax cut packagegoing into the 1996 election. That means that aslong as Congress is in session focusing on the needfor revenues, tax-exempt finance is potentially atrisk as a revenue source.

The 2% de minimis proposal in the President's"corporate loophole closing" package in his '96 andnow '97 budget proposals is a good example. The


Administration proposes to do away with the 2% I initially drafted my version of what Orangede minimis rule for corporations borrowing and County meant for this column, but then saw thesimultaneously being invested in tax-exempt pieces written by John McNally and Sharon White,bonds. The Administration has belatedly carved and defer to them. Please read their thoughtsout an exception for property and casualty compa- carefully. However, I will say that while we asnies, but this proposed change would nevertheless lawyers are used to a code-based practice andhave a dramatic effect on short-term muni interest therefore hang on the meaning of every word, Irates, variable rate demand debt, swap rates, think in interpreting the meaning of the Orangemunicipal lease rates and feasibility, and on the County cease-and-desist order and 21(a) report,multi-family housing industry whose bonds are you have to assume the staff means its publicpurchased by government-sponsored enterprises explanation of what was intended, because there islike Fannie Mae and Freddie Mac which have no process comparable to the tax regulatory pro-taken advantage of the de minimis rule to invest in cess in the securities enforcement process. There-low-income housing. I have been working with fore, oral clarifications about what was meant andmembers of the public interest groups to get how the staff will pursue cases must be taken atCongress and the Administration to prevent pas- face value because there is no process for writtensage of this provision. Chairman of the Ways and clarification. Obviously, additional enforcementMeans Committee Bill Archer (R-TX) has written actions will provide additional opportunities forCongressman Phil English (R-PA) stating that he interpretation, and if an enforcement action isopposes inclusion of the de minimis repeal in a tax brought against bond counsel in the Orangepackage. Senators Baucus (D-MT) and Hatch (R- County case, the Commission will have anotherUT) are circulating a letter among members of the opportunity to state the underpinnings of itsSenate to be sent to the Administration opposing concerns regarding disclosure or non-disclosure ofinclusion of the de minimis repeal in tax legisla- facts that are inconsistent with the facts upontion. While the point has been made by the issuing which the bond counsel's opinion was based. Icommunity that they are the ones who will be also predict that we will have the benefit of theaffected and not the corporations whose loopholes Administrative Law Judge's opinion in the Thorn,are supposedly being closed, the Treasury Depart- Alvis case before the next number of Thement so far seems unwilling to budge. Quarterly Newsletter; that will give us another

Securities Law Issues

Congressman Cox (R-CA) has announced thathe will introduce legislation revising the disclosureformat for municipal securities issuers. When thedetails have been nailed down and the legislationintroduced, we will have it available. Congress-man Baker's (R-LA) staff has told GFOA that heintends to introduce legislation regarding munici- Amy K. Dunbarpal disclosure as well. Each of these initiatives isthe result of the Orange County bankruptcy. Director of Governmental

The SEC released its cease-and-desist orderand Section 21(a) Report on January 24 on theOrange County action. I have copies of thosedocuments available. They are very instructive.

Orange County

source of guidance. The tax disclosure topic willbe one of the many securities law issues addressedby lawyers and SEC staff at the WashingtonSeminar, so I hope to see you there.

Stay tuned for more news from the Nation'sCapitol . . .

AffairsMarch 19, 1996

NABL AT A GLANCE


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December 22: John Cross, Chair of the GeneralTax Matters Committee, submitted comments onbehalf of the Association urging the Treasury andIRS to re-propose the Private Activity BondRegulations.

January 30: John Overdorff, Chair of theSecurities Law and Disclosure Committee, spoketo the Government Finance Officers Association'sGovernmental Debt and Fiscal Policy Committeeregarding NABL's activities in the securities lawarea.

February 2: John Cross, Chair of the GeneralTax Matters Committee, and Scott Lilienthal

Treasury and the IRS making recommendationsmet with IRS staff to discuss Rev. Proc. 96-16regarding IRS ruling procedures.

February 8-9: Tax Seminar, San Francisco.

February 22-23: Board of Directors meeting,Naples, Florida.

February 23: John Cross, Chair of the GeneralTax Matters Committee, submitted a letter to the

regarding items to be included in the 1996Treasury-IRS Business Plan.

March 4: President William H. McBride attendedthe 1996 "Municipal Roundtable" hosted by thePublic Securities Association for the represen-tatives of the municipal finance community toconsider ongoing issues of concern includingissues such as the flat tax and SEC enforcement


Securities Exchange Act Release No.1

36727 (January 17, 1996).

"Person" is defined in Section 3(a)(9) of2

the Securities Exchange Act of 1934 as a "anatural person, company, government, orpolitical subdivision, agency or instrumentalityof a government."

"Municipal securities business" has thesame meaning as in rule G-37(g)(vii), i.e., (A)the purchase of a primary offering (as definedin rule A-13(d)) of municipal securities fromthe issuer on other than a competitive bid basis(i.e., negotiated underwriting); or (B) the offeror sale of a primary offering of municipalsecurities on behalf of any issuer (i.e., privateplacement); (C) the provision of financialadvisory or consultant services to or on behalfof an issuer with respect to a primary offeringof municipal securities on other that a competi-tive bid basis; or (D) the provision of remar-keting agent services to or on behalf of anissuer with respect to a primary offering ofmunicipal securities on other than a competi-tive bid basis.

"Payment" has the same meaning as in ruleG-37(g)(viii), i.e., any gift, subscription, loanadvance, or deposit of money or anything ofvalue.

actions. On the flat tax, the representatives could Exchange Commission approved proposed Rulenot commit to respond until actual and specific G-38, on consultants. The rule requires dealersproposals had been made, at which time theyagreed to meet again to address such proposals.

March 14: Securities Committee Chair JohnOverdorff, Neil Arkuss, John McNally, MitchRapaport, and Director of Governmental AffairsAmy Dunbar met with SEC staff from the Officeof Municipal Securities and Division of Enforce-ment to discuss the meaning of the Orange Countycease-and-desist order regarding disclosure of taxanalysis and other issues in preparation for theWashington Seminar and to help clarify the bondcounsel community's understanding regardingdisclosure of tax analysis.

CONSULTANTS:MSRB RULE G-38

On January 17, 1996, the Securities and

1

(1) to have written agreements with certainindividuals who are used by a dealer, directly orindirectly, to obtain or retain municipal securitiesbusiness (consultants); and (2) to disclose suchconsulting arrangements directly to issuers and tothe public through disclosure to the MunicipalSecurities Rulemaking Board.

SUMMARY OF RULE G-38

Definition of ConsultantRule G-38 defines "consultant" as any person

used by a dealer to obtain or retain municipalsecurities business through direct or indirectcommunication by such person with an issuer onthe dealer's behalf where the communication isundertaken by such person in exchange for, or withthe understanding of receiving, payment from thedealer or any other person. The definition2

specifically excludes "municipal financeprofessionals," as that term is defined in Rule G-37(g)(iv), because such individuals are covered bythe requirements of Rule G-37. The definition alsoexcludes any person whose sole basis ofcompensation from the dealer is the actualprovision of legal advice, accounting orengineering assistance in connection with themunicipal securities business that the dealer isseeking to obtain or retain. The exclusion wouldapply, for example, to: a lawyer retained toconduct a legal analysis on a particular transactioncontemplated by the dealer, or to review localregulations; an accountant retained to conduct atax analysis or to scrutinize financial reports; or anengineer retained to perform a technical review orfeasibility study. The exemption is intended toensure that professionals who are engaged by thedealer to perform substantive work in connectionwith municipal securities business are not broughtwithin the definition of consultant. However, anyattorney or other professional used by the dealer asa "finder" for municipal securities business wouldbe considered a consultant under the rule.

Written Agreement


The rule requires dealers who use consultantsto evidence the consulting arrangement in writing(referred to as a "Consultant Agreement"), andthat, at a minimum, the writing must include thename, company, role and compensationarrangement of each consultant used by the dealer.Such written agreements must be entered intobefore the consultant engages in any direct orindirect communication with an issuer on thedealer's behalf.

Disclosure to IssuersRule G-38 requires each dealer to disclose to

an issuer with which it is engaging or seeking toengage in municipal securities business, in writing,information on consulting arrangements relating tosuch issuer. The written disclosure must include,at a minimum, the name, company, role andcompensation arrangement with the consultant orconsultants. Dealers are required to make suchwritten disclosures prior to the issuer's selection ofany dealer in connection with the municipalsecurities business sought, regardless of whetherthe dealer making the disclosure ultimately is theone to obtain or retain that business. Thus, whiledealers have an obligation to disclose theirconsulting arrangements to all issuers from whichthey are seeking municipal securities business,they have some leeway in the timing of theirdisclosures as long as the disclosure is madebefore the issuer selects a dealer for the municipalsecurities business sought. However, the Boardcautions dealers that this timeframe represents thelast possible opportunity to comply with the disclo-sure requirement, and therefore strongly recom-mends that dealers make such disclosures as earlyas possible. For example, a dealer seeking certainmunicipal securities business may not be aware ofthe issuer's selection of another dealer for thatbusiness. So too, an issuer may select a pool orgroup of dealers from which the issuer intends tochoose underwriters for particular issues over thenext few years. If a dealer has used a consultant tohelp secure any of this business, the Boardbelieves that dealers should make their requireddisclosures to issuers as soon as possible to ensurethat the disclosure is received by the issuer prior tothe selection of any dealer for the municipalsecurities business.

Disclosure to the Board

Rule G-38 requires dealers to submit to theBoard, on a quarterly basis, reports of allconsultants used by the dealer. For eachconsultant, dealers must report, in the prescribedformat, the consultant's name, company, role andcompensation arrangement, as well as the dollaramount of any payment made to the consultantduring the quarterly reporting period. If anypayment made during the reporting period isrelated to the consultant's efforts on behalf of thedealer which resulted in particular municipalsecurities business, whether the municipalsecurities business was completed during that or aprior reporting period, then the dealer mustseparately identify that business and the dollaramount of the payment. In addition, as long as thedealer continues to use the consultant to obtain orretain municipal securities business (i.e., has acontinuing arrangement with the consultant), thedealer must report information concerning suchconsultant every quarter, whether or not compen-sation is paid to the consultant during the reportingperiod. The Board believes that the reporting ofthese continuing consulting arrangements eachquarter will assist enforcement agencies and thepublic in their review of such arrangements.

TEXT OF THE RULE

Rule G-38. Consultants

(a) Definitions

(i) The term "consultant" means any personused by a broker, dealer or municipalsecurities dealer to obtain or retain municipalsecurities business through direct or indirectcommunication by such person with an issueron behalf of such broker, dealer or municipalsecurities dealer where the communication isundertaken by such person in exchange for, orwith the understanding of receiving, paymentfrom the broker, dealer or municipal securitiesdealer or any other person; provided,however, that the following persons shall notbe considered consultants for purposes of therule: (A) a municipal finance professional ofthe broker, dealer or municipal securities


dealer; and (B) any person whose sole basis of (d) Disclosure to Board. Each broker, dealer andcompensation from the broker, dealer or municipal municipal securities dealer shall submit to thesecurities dealer is the actual provision of legal, Board by certified or registered mail, or someaccounting or engineering advice, services or other equally prompt means that provides a recordassistance in connection with the municipal of sending, and the Board shall make public,securities business that the broker, dealer or reports of all consultants used by the broker, dealermunicipal securities dealer is seeking to obtain or or municipal securities dealer during each calendarretain. quarter. Two copies of the reports must be

(ii) The term "issuer" shall have the samemeaning as in rule G-37(g)(ii).

(iii) The term "municipal finance professional"shall have the same meaning as in rule G-37(g)(iv).

(iv) The term "municipal securities business"shall have the same meaning as in rule G-37(g)(vii).

(v) The term "payment" shall have the samemeaning as in rule G-37(g)(viii).

(b) Written Agreement. Each broker, dealer ormunicipal securities dealer that uses a consultantshall evidence the consulting arrangement by awriting setting forth, at a minimum, the name,company, role and compensation arrangement ofeach such consultant ("Con-sultant Agreement").Such Consultant Agreement must be entered intobefore the consultant engages in any direct orindirect communication with an issuer on behalf ofthe broker, dealer or municipal securities dealer.

(c) Disclosure to Issuers. Each broker, dealer ormunicipal securities dealer shall submit in writingto each issuer with which the broker, dealer ormunicipal securities dealer is engaging or isseeking to engage in municipal securities business,information on consulting arrangements relating tosuch issuer, which information shall include thename, company, role and compensationarrangement of any consultant used, directly orindirectly, by the broker, dealer or municipalsecurities dealer to attempt to obtain or retainmunicipal securities business with each suchissuer. Such information shall be submitted to theissuer prior to the selection of any broker, dealer ormunicipal securities dealer in connection with suchmunicipal securities business.

submitted to the Board on Form G-37/G-38 withinthirty (30) calendar days after the end of eachcalendar quarter (these dates correspond toJanuary 31, April 30, July 31, and October 31).Such reports shall include, for each consultant, inthe prescribed format, the consultant's name,company, role and compensation arrangement. Inaddition, such reports shall indicate the dollaramount of payments made to each consultantduring the report period and, if any such paymentsare related to the consultant's efforts on behalf ofthe broker, dealer or municipal securities dealerwhich resulted in particular municipal securitiesbusiness, then that business and the related dollaramount of the payment must be separatelyidentified.

NABL POLITICAL CONTRIBUTIONS SURVEY

On February 2, 1994, when Howard Zucker,Chair of the Task Force on Political Contributions,reported to then-President Neil Arkuss on the taskforce work product, he said "it should come as nosurprise that there were divergent views articulatedon almost all issues." The same can be said aboutthe membership's responses to the politicalcontribution survey. One hundred eleven membersresponded to the survey, representing members offifty-three law firms. Of those responding, ninety-three had discussed the Statement with their publicfinance members and thirty-five had recommendedthat their firm adopt the Statement. Twelve firmsultimately adopted the Statement. Twelve firmsrejected the Statement; three firms adopted theStatement with modification; and one firmadopted an entirely different policy. Many otherstook no action for a variety of reasons.


Fifteen respondents thought the NABL policy Minutesstatement went too far, while sixteen thought itdidn't go far enough; twenty-seven thought it wasnot the right approach, whereas twenty-fivethought it was the right approach. Fifteenrespondents felt that the SEC should prohibitlawyer contributions; thirty felt that state statutesor American Bar Association ethics rules shoulddictate political contributions standards; andnineteen felt that campaign finance procurementreform should be the proper response.

An overwhelming majority felt NABL shouldtake no further action. Given the diversity ofresponse from what appeared to be arepresentational spectrum of the NABL member-ship, the Board, at its February meeting in Naples,agreed to take no further action on this subject atthis time, subject to its continued coordination withthe ABA on its endeavors, and indicated itswillingness to continue to discuss this matter withother interested parties.

Amy K. DunbarDirector of Governmental Affairs

ACTIONS BY THE BOARDOF DIRECTORS ONFEBRUARY 22 AND 23, 1996

Editor's Note: The minutes from which this digestwas compiled have not yet been approved by theAssociation's Board of Directors.

The Board of Directors met on February 22and 23, 1996, at The Ritz-Carlton, Naples, Florida.President William H. McBride presided. Alsopresent were: Julianna Ebert, President-Elect;William H. Conner, Treasurer; Susan Weeks,Secretary; Directors Jeannette M. Bond, RobertW. Buck, John M. Gardner, Steve A. Matthews,David A. Caprera, Floyd C. Newton III, andHoward Zucker; Andrew R. Kintzinger,Immediate Past President; Frederick O. Kiel,Honorary Director; Patricia F. Appelhans, Execu-tive Director; and Amy K. Dunbar, Director ofGovernmental Affairs.

The Board approved the minutes of itsmeetings of November 9, 1995, as revised, andNovember 10, 1995.

Report of the Treasurer

Treasurer Conner then directed the Board'sattention to the 1996 Budget, noting that it wasbasically the same as that reviewed by the Board atits Dallas meeting with the addition ofapproximately $9,000 attributable to the cost ofWashington Office furnishings necessitated by theupcoming move of the Hunton & Williams offices(within which the Association's Washington officeis located) and the allocation to Bond Attorneys'Workshop of 34% of the personnel expenses of theNational Office and 15% of the personnelexpenses of the Washington Office. TreasurerConner noted that the overall budget projectsrevenues of $1,278,700 and expenses of$1,370,300. Characterizing the budget asconservative but realistic, Treasurer Connerpointed out that the projected 1996 Budget deficitof $91,600 approximates the non-recurringexpenses associated with the move of both theNational and Washington Offices. He also pointedout that the actual 1996 revenues of the TaxSeminar exceeded the budgeted figures. TheBoard approved the 1996 Budget as presented.

Report of the Executive Director

Executive Director Appelhans gave her report,including the following:

Membership - As of February 22, 1996, theAssociation had 2415 regular members, 108associate members, 160 legal assistant members,and 7 retired members for a total of 2690members.

Seminars - Attendees at the Tax Seminar inSan Francisco numbered 349. Executive DirectorAppelhans indicated that she would utilize mailinglists of other organizations in an effort to increaseregistrations for the Fundamentals and WashingtonSeminars.


Directory - The Directory is scheduled to be Washington Seminar - It was decided at amailed by mid-March. Director Buck suggested planning meeting attended by Education Com-that a reference to the NABL home page website mittee Chair Charlie Henck, Washington Seminarbe added to the Directory. Chair Bill Gehrig, Washington Seminar Vice-

National Office Move - Executive DirectorAppelhans oversaw the National Office's move toits new headquarters on February 14 andnegotiated an early termination of the lease of theold office space, with the result that theAssociation was released from its obligation underthe prior lease to pay rent for the months of Marchand April, 1996, and received back one-half of itssecurity deposit. Calls to the National Office's oldtelephone number are being forwarded auto-matically to the new office.

Audit - The audit by NABL's accountants,Skalitzky & Noonan, Ltd., is essentially complete,except for the calculation of investment income. Itis anticipated that the Association will receive afavorable management letter from the accountants.

Mailing Lists - The Bond Buyer was furnishedNABL's mailing list for use in publicizing itsregional public finance forums to NABL members,in exchange for which the Association receivedone registration fee waiver for each forum.President McBride noted that NABL membershave an interest in receiving notice of theseconferences, as they are often attended by clients.

Report of the Director of Governmental Affairs

Director of Governmental Affairs Dunbar gaveher report, including the following:

Legislative and Judicial Developments - It ispossible that there will be action on a debt ceilingbill in March since it is anticipated that TreasurySecretary Rubin will not be able to rely on hiscurrent approach supporting Treasury borrowingsbeyond mid-March. The SLGS window will notreopen until a debt ceiling bill is enacted. TheClinton administration is taking a position on thecontinuation of the 2% de minimis rule which isadverse to the municipal industry. AdministrativeLaw Judge Murray has indicated that she is in theprocess of drafting her opinion in the Thorn, Alviscase.

Chair Doug Rollow, Mitch Rapaport and Directorof Governmental Affairs Dunbar that, due to thescheduling of an ABA tax-exempt subcommitteemeeting on Friday afternoon of the WashingtonSeminar, tax topics will be covered at theWashington Seminar on Thursday and SEC topicswill be covered on Friday. Director of Govern-mental Affairs Dunbar outlined proposed topics forgeneral and breakout sessions. It is not currentlyanticipated that the private activity bond regu-lations will be the major focus of this seminarsince, depending on the timing of their release,these regulations may be the subject of a separateseminar. There will be only one luncheonspeaker. Director Caprera requested that the topicof SEC enforcement (or "what to do when the SECcalls") be covered in the Friday morning session asit is of interest to tax lawyers since a number ofpending SEC enforcement actions are predicatedon the possibility that the bonds in question maynot be tax-exempt.

President McBride then called for Committeereports by Board members and updates on specialprojects.

Committee Reports and Special Projects

Bond Attorneys' Workshop - Director Buckread the list of the 1996 Steering Committeemembers to the Board and advised that theSteering Committee would meet the followingweek. He reported that in response to dissat-isfaction expressed by some Workshop attendeeswith the facilities of the Marriott, he and ExecutiveDirector Appelhans had checked out possiblealternate sites for the Workshop in 1998 andthereafter. He reviewed the relative advantagesand disadvantages of the alternate locations,noting that the primary disadvantage of both istheir practice of charging a penalty if a certainnumber of rooms is not booked.

NABLnet - President-Elect Ebert and DirectorCaprera led Board members on a tour of the


Internet via a computer hookup to the local Director with the responsibility for pricing,Quarles & Brady office, focusing primarily on screening and making necessary logisticalNABL's new home page materials prepared by arrangements with vendors, and it was unani-Director Caprera. Board discussion of issues of mously approved by the Board.access and censorship included a recommendationby Director Newton that the NABL home pageinteractive bulletin board include a disclaimerindicating that views expressed are not necessarilythose of the Association or its members. It was theconsensus of the Board that the Executive Directorand Director of Governmental Affairs shouldperiodically check this bulletin board with a viewto deleting materials which are profane or notrelated to the subject matter and that the passwordto provide access to official NABL news bulletinswould be given to President McBride, HonoraryDirector Kiel, Director Caprera (so that he canmonitor it initially to be sure it is working), as wellas the Executive Director and the Director ofGovernmental Affairs. Director of GovernmentalAffairs Dunbar indicated that she would continueto communicate directly on time-sensitive issuesvia E-mail to the NABL members on her E-maillist, noting that the NABL bulletin board is notlimited to NABL members.

Arbitrage and Rebate - Secretary Weeksreported that the January 12, 1996, letter to DarcyBradbury of the Treasury Department concerningthe SLGS program [reprinted infra], which wassigned by Director Buck, Committee Chair Waltonand Director of Governmental Affairs Dunbar,among others, was well received. Director ofGovernmental Affairs Dunbar indicated that for anumber of reasons the Treasury appears to bereceptive to substantive changes necessary toimprove the SLGS program.

Education - The Board authorized theEducation Committee to set in motion theframework for a private activity bond seminar,including a preliminary estimate of its location,budget and timing, so as to be poised to hold theseminar promptly after Treasury action on theregulations and directed Education Chair CharlesHenck to recommend a chair for the seminar.

Director Matthews then reviewed the proposedvendor policy, which charges the Executive

By-Laws - Immediate Past President Kint-zinger gave the Board a brief overview of thereport of the ad hoc By-Laws Review Committee(consisting of himself, Director Buck andHonorary Director Kiel), noting that the report isdesigned to raise both policy and technical issuesto be addressed by the Board prior to a review bythe Association's Illinois counsel. Immediate PastPresident Kintzinger volunteered to write an articlefor inclusion in the March number of TheQuarterly Newsletter seeking member input, withthe hope that the Board could approve a draft ofthe Amended and Restated By-Laws at its Maymeeting, to be followed by their circulation tomembers. Immediate Past President Kintzingerobserved that the nominating process for directorsand officers should be an open process and Presi-dent McBride announced his plans to have theNominating Committee approved at the MayBoard meeting and give ample notice to members.

Staff Pensions

President McBride reported that the ExecutiveCommittee had not yet formulated a recom-mendation for a particular type of staff pensionplan and that the Chicago Society of AssociationExecutives, the American Society of AssociationExecutives and NABL's accountants would becontacted with respect to questions of cost andadministration. He briefly recounted theadvantages and disadvantages of the Section457(b) and 401(a) plans. The Board authorizedthe Executive Committee to approve a 457(b) planfor the staff of the Association unless a betteralternative is brought to the attention of theExecutive Committee by staff for approval by theBoard at its May meeting.

There followed a continuation of Committeereports and updates on special projects.

General Tax Matters - Director Caprerareported that Committee Chair John Cross has al-ready incorporated the Board's rankings of the ten


tax topics into a letter to Treasury concerning the to Board members well in advance of its MayIRS business plan and is now ready to send that meeting with a view to incorporating Boardletter to the IRS. Director Caprera also advised comments for inclusion in the May Boardthe Board that, subsequent to its last meeting, a materials.letter was sent to Treasury by John Crossrequesting that the private activity bond regulationsbe re-proposed rather than released in final form(with the exception of the change-in-use andmanagement contract rules). It was the view of theBoard that if IRS action on these regulationsoccurred in early April, they would best beconsidered at the Washington Seminar rather thanbeing the subject of a separate seminar. DirectorCaprera concluded his report by noting that JohnCross and other NABL members met with IRSrepresentatives to discuss Rev. Rul. 96-16concerning requests for private letter rulings andplanned to submit a letter to Treasury dealing withthe information required to be submitted withrespect to a non-reviewable ruling request.Director Newton asked that the letter also indicatethat the requirement that an issuer adopt a resolu-tion to issue the obligations goes too far and couldresult in unnecessary expense to issuers.

Legal Assistants - Treasurer Conner referred to consider a non-engagement letter, it stronglyto the draft outline of the Legal Assistants endorsed use of an engagement letter. SecretaryHandbook and various materials contained in the Weeks suggested that non-engagement lettersBoard book. He indicated that Kathryn Hanzsek, instead be covered in an annotation or anLegal Assistants Committee Chair, has requested introductory discussion.the Board 's input on the purpose and objectives ofthe Handbook. After some discussion, the Boardconcluded that the Committee should focus on theoverall structure of the Handbook and its audiencewith a view to narrowing its purpose and scope toa training manual for new legal assistants and thatthe Committee should further consider enlisting amember of the Association who is a lawyer toassist in editing the Handbook.

Opinions - Director Zucker reported that therewas a miscommunication among Mike Budin,President McBride and him with the result thatrevisions suggested by President McBride to theOpinions Committee's December draft of the formopinions were not circulated or included in Boardmaterials. Director Zucker promised to requestCommittee Chair Budin to circulate a revised draft

Professional Responsibility - Director Buckreferred to the current draft of the generalobligation model engagement letter before theBoard, indicating that the form of engagementletter had been revised to identify the client inkeeping with The Function and ProfessionalResponsibilities of Bond Counsel and to expandthe list of responsibilities undertaken anddisclaimed by bond counsel. It was the consensusof the Board that the draft model engagement lettershould be further revised to incorporate more fullythe concepts and principles set forth in TheFunction and Professional Responsibilities ofBond Counsel. In response to PresidentMcBride’s suggestion that a non-engagement letterbe part of this effort, Director Zucker questionedwhether non-engagement letters were typicallyused in commercial settings and noted that whileThe Function and Professional Responsibilities ofBond Counsel suggested that counsel might want

The Quarterly Newsletter - Honorary DirectorKiel praised Scott Lilienthal's efforts in readingand reviewing drafts of The Quarterly Newsletter.

Securities Law and Disclosure - DirectorNewton summarized John Overdorff’s January 24,1996, memorandum describing the formation bythe Securities Law and Disclosure Committee ofsubcommittees to handle bondholdercommunication, enforcement, freedom ofinformation and opinion matters. In response toImmediate Past President Kintzinger’s questionwhether there should be more than one SECmeeting, Director of Governmental Affairs Dunbarindicated that certain of these subcommittee topicswould be covered with SEC representatives inadvance of the Washington Seminar. PresidentMcBride observed that several Board members are


serving on the enforcement and opinion sub- there is currently no source book on secondarycommittees and requested that they urge these market disclosure. He reported that formersubcommittees to seek Board input on policy Director Helen Atkeson, SEC Seminar Chair, ismatters. Director Gardner agreed with President heading up this project and has been requested toMcBride, expressing the sentiment of the Board update the materials as quickly as possible. Ac-that policy should be established and publicized at knowledging that there will be some duplication ofthe Board level. The Board approved the creation the Washington Seminar materials, Presidentby the Securities Law and Disclosure Committee McBride reported the Executive Committee'sof subcommittees dealing with bondholder recommendation that the book be a stand-aloneinformation flow, SEC enforcement, state freedom publication which will serve as a practice guide,of information issues and the question of and that Washington Seminar attendees be offeredaddressing underwriters’ counsel 10b-5 opinions a reduced price for the book. The Boardto issuers. concurred with these recommendations and there

Form Indenture - Immediate Past PresidentKintzinger referred the Board to the form inden-ture materials before the Board and a schedulewhich contemplates submission of the final draft ofthe form indenture to the Board at its February,1997, meeting. President McBride suggested thatthe Committee should emphasize default andtrustee matters and eliminate sections pertaining tofinancial covenants, investments, redemptionprovisions and continuing disclosure as it isdifficult to reach consensus on these items.Director Gardner concurred, noting that such itemsare often deal-specific, and further suggested thatthe Committee adopt an "incorporation by refer- IRS Seminarence" approach.

MSRB Nominations

There followed a discussion of the MSRB'srequest for recommendations for nominations forits board positions opening on October 1, 1996.Director Zucker noted that the term of the onlylawyer currently on the MSRB (Alan Appelbaum)is expiring and President McBride indicated thatthe public representative is also rolling over. Itwas the consensus of the Board that the followingNABL members should be recommended for theMSRB board: Drew Kintzinger, Dean Pope, RuthWest and Sharon Stanton White.

Rule 15c2-12 Book

President McBride briefed the Board on hisidea of updating the 1995 SEC Seminar bookcontaining Rule 15c2-12 materials as a revenueraising measure and as a membership service since

followed a discussion of the pricing of the book,with Director of Governmental Affairs Dunbarnoting that the book is generally a compilation ofmaterials rather than an original work. The Boarddelegated to Executive Director Appelhans andTreasurer Conner authority to establish a price forthe book after production costs are determined,with a discount for those who attend the Wash-ington Seminar or purchase the WashingtonSeminar materials. Also delegated to ExecutiveDirector Appelhans and Treasurer Conner was theauthority to offer the Disclosure Roles of Counselat a discounted price.

The Board unanimously approved the recom-mendation of the Chairs of the General TaxMatters Committee and the Arbitrage and RebateCommittee that Lisa Soeder serve as Chair of the1996 IRS Seminar, it being noted that she hadparticipated effectively in prior IRS Seminars.

Political Contributions Survey

President McBride observed that the responsesto the political contributions survey reflect NABLmember sentiment that the Board should take nofurther action in the realm of politicalcontributions. He further reported the ExecutiveCommittee's recommendation that the surveyresults be summarized in The QuarterlyNewsletter for the benefit of the membership andrequested Director of Governmental AffairsDunbar to draft a stand-alone article that would


provide a statistical summary of the results [seesupra].

Miscellaneous

President McBride referred the Board to aFebruary 15, 1996, letter of Dale Collinsonconcerning activities of opponents of tax reform inthe 1970's and observed that the underlying as-sumption of those opponents (namely, the premisethat if you curtail or eliminate tax-exempt bonds,you must substitute a taxable bond option as asubsidy) is relevant to today's efforts to combat flattax proposals. He also referred to the January,1996, recommendations of a task force of theGovernmental Accounting Standards Board relat-ing to reporting of investments at fair market valuein annual reports.

Susan WeeksSecretary

SHARED TAX OBSERVATIONS

Tax Law and Disclosure in the Matter ofOrange County

Introduction. On January 24, 1996, theSecurities and Exchange Commission issued anorder (the "Order") instituting a public admin-istrative cease-and-desist proceeding againstOrange County, California (the "County"), theBoard of Supervisors of the County (being thegoverning body of the County) and Orange CountyFlood Control District, a district governed by theBoard and thus controlled by the County (the"District"). The Order was accompanied by alitigation release and a news release.

The Order orders the County, the Board andthe District to cease and desist from committing orcausing any violation or future violation of sections17(a) of the Securities Act of 1933, section 10(b)of the Securities and Exchange Act of 1934, andRule 10b-5. The Order states that the County, theBoard and the District submitted offers ofsettlement in which, without admitting or denyingthe findings, they consented to the entry of the Or-der.

While the Order is directed to enforcementunder the Securities Act of 1933 and the SecuritiesExchange Act of 1934, and not under the InternalRevenue Code of 1986, it is nevertheless pertinentto practitioners providing opinions regarding thetax-exemption of interest on municipal obligations.

General Relevant Facts. The Order relates to11 issues of obligations: seven taxable and fourtax-exempt. With respect to two of the fourtax-exempt issues, the Order concludes that theofficial statements for the issues "containedmaterial misstatements and omissions regarding .. . the tax-exempt status of the issues."Specifically, "The Official Statements failed todisclose . . . that the County's activities incalculating the size of the offerings placed thetax-exempt status in jeopardy." The Order alsofinds that the County, the Board and the Districtacted with scienter in making themisrepresentations and omissions of material fact.


The two issues (the "Notes") for which it is Regulations §1.148-10(b)concluded that there were misstatements regarding Special yield rule in event of over-bur-tax-exempt status were tax and revenue deninganticipation notes ("TRANs") that were issued bythe County "to fund the County's cash flow deficitfor fiscal year 1994-95." The first issue of Noteswas issued on a fixed rate basis on July 5, 1994, inthe principal amount of $169 million and maturedon July 19, 1995. The second issue of Notes wasissued on a variable rate basis on August 11, 1994, prohibition for short-term working capital borrow-in the principal amount of $31 million and matured ings and provide guidance in determining theon August 10, 1995. (The maturity of each issue principal amount of TRANs.of Notes has subsequently been extended to June30, 1996.)

Tax Law Background. Several arbitrage and outlining the above complexity) states thatrebate provisions relate directly to tax and revenue Treasury Regulations limit the size of workinganticipation notes. These are as follows: capital borrowings "to, in effect, the amount that

Code section 148(f)(4)(B)(iii)Six-month expenditure exception forrebate

Regulations §1.148-1(c)(4)(i)(B)(1)Two-year term limit for replacement pro-ceeds safe harbor

Regulations §1.148-1(c)(4)(ii)Working capital reserve limitations

Regulations §1.148-2(e)(3)Thirteen-month temporary period

Regulations §1.148-6(d)(3)(i)Proceeds-spent-last allocation rule

Regulations §1.148-6(d)(3)(iii)Definition of "available amount" forallocation rule

Regulations §1.148-6(d)(6)Allocation of commingled investmentproceeds

Regulations §1.148-10(a)(1)Abusive arbitrage device prohibition

Regulations §1.148-10(a)(2)Abusive arbitrage device definition

Regulations §1.148-10(a)(4)Examples of overburdening

Regulations §1.148-10(a)(3)Interest rate exploitation concept

Taken together, the above provisions set forthrules for application of the rebate requirement,arbitrage yield restrictions and the abusive device

Tax Law Statements. With respect to thesubstance of the tax issue, the Order (rather than

the municipality will actually use to fund cash flowdeficits" and concludes that the determination ofavailable amounts is therefore "critical to the sizingof a TRANs borrowing and ultimately to thetax-exempt status of the borrowing." In addition,(i) the spent-last allocation rule is cited as animplicit sizing rule, (ii) expenditure of proceedswithin a temporary period is stated to be "anecessary element of a tax-exempt borrowing" and(iii) proceeds of TRANs are stated to be allocableto working capital expenditures only to the extentthat expenditures exceed available amounts;available amounts include amounts that may beused without legislative or judicial action andwithout a legislative, judicial or contractualrequirement that amounts be reimbursed.

For both of the issues of Notes, the Orderstates that, prior to issuance, the County restrictedamounts (the "Restricted Funds") so that theycould not be used to pay future working capitalexpenditures. In addition, the County intended touse the Restricted Funds for working capitalexpenditures in the fiscal year of issuance andbudgeted those amounts for that purpose in thefinal budget adopted by the Board on September27, 1994 (being after the dates of issue of theNotes, retroactive to July 1, 1994, being before thedates of issue). The Order states that there wastestimony that County officers questioned the


propriety of the restrictions, but "dropped their an informed investment decision regard-objections after bond counsel opined that the ing the tax-exempt status of the offerings.[Notes] would be tax-exempt." With respect to (Emphasis added.)tax disclosure generally, the Order concludes asfollows:

None of the facts relating to the marketplace practices. Some would submit thatCounty's artificial increase of the size of its investors never make investment decisions that arecash flow deficit were disclosed in the informed regarding the tax-exempt status of anOfficial Statement for this offering. The offering, but rather rely upon the fact that bondOfficial Statement also failed to disclose counsel has reached a conclusion of tax-exemptionthe risks that the IRS might declare the and, underlying that approach, that bond counsel isentire [principal amount of the Notes] experienced, knowledgeable and of goodtaxable and that the investors may be reputation.liable for the unpaid taxes.

The above conclusion, of course, assumes that Statements were materially misleading in failing tothe establishment of the Restricted Funds and the disclose (i) material facts concerning the relation-post-issuance adoption of a budget including ship between the principal amount of theexpenditures from the Restricted Funds caused borrowing and the County's cash flow deficit, andthose Funds to be "available amounts" in a tax (ii) the significant associated risks that tax-exemptsense; that is, either the Funds were not subject to status could be denied. Read alone, item (i) is athe dual conditions of non-permitted withdrawal clear call for disclosure of the reasons for sizingwithout Board action and non-permitted use the principal amount of a borrowing, but read withwithout restoration, or that if so conditioned, the item (ii), it seems more probable that the intent ofconditions were artificially established solely to the Footnote 25 is to require disclosure of materialincrease the principal amounts of the borrowings facts relating to size if (and only if) there is afor arbitrage purposes and not for fiscally prudent significant risk relating to those facts that the tax-or legally-required budgetary purposes. exempt status could be denied. In other words, if

Tax Law Disclosure. In addition to the abovegeneral conclusion that the Official Statement didnot disclose risks of taxability, the Order containstwo specific statements regarding the nature ofrequired tax law disclosure. The first is in footnote25 ("Footnote 25"), which reads as follows: The second specific statement regarding the

Orange County's bond counsel issuedan opinion that these TRANs weretax-exempt. However, the County was Information concerning the taxexemptaware of material facts concerning the status of these TRANs offerings was veryrelationship between the size of the important to investors. Failure to discloseoffering and the County's cash flow deficit. information regarding the tax analysisAs discussed below, the Official State- that provided the basis for thements were materially misleading in tax-exemption opinion deprived investorsfailing to disclose these facts and the of information material to an assessmentsignificant associated risks that the of the tax-exempt status of the TRANs.tax-exempt status could be denied.Investors were, therefore, unable to make

The italicized language of Footnote 25 is trou-bling in the context of traditional municipal

Footnote 25 also indicates that the Official

there is no, or an insignificant, risk that thetax-exempt status could be denied, then disclosureof the facts concerning sizing is not necessary.(See discussion below regarding standards for thetax opinion of bond counsel.)

nature of required tax law disclosure reads asfollows:


This statement expands the concept of Foot- Notes at a yield in excess of .125% abovenote 25 beyond disclosure of facts associated with the yield of the Notes (which percentage isa significant risk of denial of tax-exemption to a the definition of "materially higher" indisclosure of information pertinent to the tax Regulations §1.148-2(d)(2)(i)). Becausedecision, that is, to a disclosure of all material the County expects to invest the proceedsinformation regarding the tax analysis that of the Notes without yield restrictions, theprovided the basis for the tax-exemption opinion. failure of that reasonable expectation will

Although the italicized words require disclo-sure only of "information" regarding the taxanalysis, there is concern that, in order for thedisclosure of the information to be meaningful,such disclosure should be accompanied by astatement regarding the "tax analysis" and the taxlaw provisions to which the information pertains.Thus, in the context of the Notes, it would not besufficient merely to state that the Board hasdeclared $X as unavailable revenues for purposesof determining its cumulative cash flow deficit;rather the disclosure should be somewhat asfollows:

The County has set aside $X (the"Restricted Fund") and declared thatamount unavailable for cash flow sizingpurposes because the Restricted Fundcannot be used for working capitalexpenditures of the type financed by theNotes without action by the Board andwithout a requirement that the amountwithdrawn be restored. The set-aside ofthe Restricted Fund was for lawful fiscalpurposes [describe]. Although the Countyreasonably expects to spend the proceedsof the Notes within 13 months from theissue date, if the Restricted Fund wasdetermined not to be unavailable, then ap-plying the proceeds-spent-last accountingprocedure of the Treasury Regulations§1.148-6(d)(3)(i), the County could notreasonably expect to spend the proceeds ofthe Notes within 13 months. If the Countycould not reasonably expect to spend theproceeds of the Notes within 13 months,the temporary period permitted byRegulations §1.148-2(e)(3) would notapply, and the County would not bepermitted to invest the proceeds of the

jeopardize the tax-exempt status of theNotes. Moreover, even if the tax-exemptstatus is not jeopardized for those reasons,the excess principal amount resulting froma determination that the Restricted Fund isnot an unavailable amount could beconsidered to overburden the tax-exemptmarketplace and, in addition, it could becontended that the action of the County insetting aside the Restricted Fund was anintended exploitation of the interest ratedifferential between tax-exemptobligations and taxable obligationsbecause, again, as noted above, the Countyintends to invest the proceeds of the Noteswithout yield restrictions. If the exploita-tion contention were true, then thetax-exempt status of the Notes would alsobe jeopardized as an alleged use by theCounty of an abusive arbitrage deviceunder Regulations §1.148-10(a)(1) and(2). It should also be noted that adetermination that the Restricted Fund isnot an unavailable amount would preventthe County from being able to spend theproceeds of the Notes within six monthsand that fact, in turn, would cause theNotes to be subject to the rebaterequirement of Code section 148(f) forunexpended gross proceeds of the Notesinvested at a yield in excess of the yield ofthe Notes. [Insert further discussion ofapplication of rebate requirement to sale,investment and replacement proceeds,etc., etc.]

More generally, since issuers would not beproceeding with the knowledge that any particularelement of the financing was questioned (seediscussion regarding standards for the tax opinion


below), issuers could only fairly disclose each precedent for the Order. The few citationsnotable fact regarding tax-exemption. The com- included in the Order (footnote 30) are themselvesplete disclosure preceding the above language of limited value. These consist of SEC v. Stifel,might begin as follows: Nicolaus and Co., Lit. Rel. No. 14587 (Aug. 3,

Under a state constitutional provision[cite], the County possesses the power ofeminent domain. This is material to thebasis for the tax-exemption opinionbecause under Code section 103(a), grossincome does not include interest on any The Bond Opinion. It is notable that neitherState or local bond; under Code section the bond counsel nor the IRS is a party to the103(c)(1), the term "State or local bond" Order, nor is there evidence of consent by the bondmeans an obligation of a state or political counsel or the IRS to the Order, nor is there anysubdivision; under Regulations §1.103-1 indication that the Commission has assumedthe term political subdivision denotes any jurisdiction for declaring the Notes to be taxable,division of the any State which has been yet the Order purports to speak for thedelegated the right to exercise the marketplace. Under present marketplacesovereign power of the unit; and under practices, bond counsel renders a substantiallyComm'r v. Shamberg's Estate decision unqualified opinion ("substantially" because it[cite], the power of eminent domain is a ordinarily refers to reliance upon the certificationssubstantial sovereign power. of public officials and others, is rendered only as of

That disclosure, in turn, could be followedwith a description of why the interest was interest,why the Notes were "local bonds;" why the generalfund type of expenditures of proceeds were not fora private business use or, if they were, why there The opinion should be based upon awere not private payments; etc. Where particular reasonably sufficient examination ofconditions relate to tax-exemption of the obligation material legal and factual sources and rea-in question, but are clearly inapplicable, a list of sonable certainty as to the subjects ad-satisfied conditions might be inserted, e.g., "the dressed therein. As to subjects aboutNotes are not federally guaranteed bonds under which the opinion is unqualified, bondCode section 149(b) because no part of the counsel should have concluded that itpayment of principal or interest with respect to the would be unreasonable for a court to holdNotes is guaranteed by the United States; the to the contrary. Bond counsel may reachNotes are not pooled financing bonds under Code such a conclusion as to federal income taxsection 149(b) because the proceeds are not issues addressed in the opinion byreasonably expected to be used to make loans to determining that there is no reasonabletwo or more ultimate borrowers; the registration possibility that the Internal Revenuerequirement of Code section 149(a) is satisfied Service would not concur or acquiesce inbecause the Notes will be issued in registered form the opinion, if it considered all materialas described in the summary of the indenture in legal issues and relevant facts.this official statement"; and so forth.

This lengthy disclosure was surely not intend- standard is such that, in the words of the Order,ed by the Order; yet the Order is disturbing by the there are no significant risks of loss ofbreadth of its statements. It is also disturbing for tax-exemption. If there is a significant risk of lossthe fact that there is little (possibly, no) judicial of tax-exemption, then under the above standard,

1995); In the Matter of Derryl W. Peden,Securities Act Rel. No. 7069, Exchange Act Rel.No. 35045, Admin. Proc. File No. 3-8400 (Dec. 2,1994); SEC v. Matthews & Wright Group, Inc.,Lit. Rel. No. 12072 (April 27, 1989).

the issue date and is qualified by future compliancewith applicable covenants). NABL recentlyarticulated the standard for this tax opinion asfollows:

The level of certainty reflected by the above


the opinion cannot be rendered. If the issuer lies to nothing but the truth" may be correct in the contextthe bond counsel (regarding, for example, the of facts, to the extent that the level of disclosureextent of unavailable amounts in the context of a requires disclosure of information regarding theTRANs financing), then the bond counsel in tax analysis, that concept may be more moral ininnocence may render the tax opinion, but the tone than legal. In the words of Justice Holmes, issuer will nevertheless not disclose significantrisks associated with loss of tax-exemptionbecause it lied to bond counsel in the first place. Ifbond counsel inaccurately analyzes the tax law,then there still will not be disclosure of significantrisks associated with loss of tax-exemption, for inthat case neither the issuer nor bond counsel wouldbe aware of those risks.

If, however, the Order is intended to require sanctions are added afterward. Holmes,that information regarding the tax analysis be O., "The Path of the Law" (January 8,disclosed (without regard to whether there are 1897) Collected Legal Papers, Harcourt,significant risks of denial of taxexemption) and Brace and Howe, Inc., New York, 1920,further that the disclosure be such as to enable the p. 168-169.investor to make an investment decision that isinformed regarding tax-exemption, then there is nopurpose to the rendition of an unqualified,unreasoned opinion or to the issuance of an opinionon the basis of the high standard articulated byNABL. Because the reasoning of the tax opinionwould then be disclosed in the official statement, itwould be far more appropriate for bond counsel torender a reasoned opinion. That opinion could, inturn, be rendered on the basis of lower standardsarticulated elsewhere (e.g., the "realistic possibilitystandard" set forth in ABA Opinion 85-352, andOctober, 1992, amendments to 31 CFR Part 10governing practice before the IRS and permittingdisciplinary action, where "realistic possibility" isdefined as a position that "has approximately a onein three, or greater, likelihood of being sustainedon its merits"; or the "more likely than not"standard which possibly means a more than fiftypercent likelihood of favorable tax review).

This author suggests that, until the Courts oradministrative rules require disclosure ofinformation regarding the tax analysis and providefurther guidance regarding the suggested content,bond counsel continue to analyze, disclose andopine in accordance with the high standardarticulated in the NABL statement. Althoughdisclosure of "the truth, the whole truth and

One of the many evil effects of theconfusion between legal and moral ideas .. . is that theory is apt to get the cart beforethe horse, and to consider the right andduty as something existing apart from andindependent of the consequences of itsbreach [and, in the context of the Order,its implementation] . . . to which certain

This is not to state that the references totax-exemption disclosure in the Order should bedisregarded. They serve to provide renewal of ourideals and standards of practice, as well as areminder that "if one thing goes wrong [such as aloss of $2.457 billion], all will go wrong."

Other Developments During the Quarter

Private Letter Rulings. Private letter ruling9546026 (August 22, 1995) approves an issuer'saverage area purchase price figures forsingle-family homes as statistically valid.

Private letter ruling 9547014 (August 24,1995) holds that where bonds were structured tosatisfy tests for qualified 501(c)(3) private activitybonds and post-issuance TEFRA approval wasgiven, the lease of bond-financed medical facilitiesto a 501(c)(3) corporation would not cause thebonds to be non-exempt private activity bondseven though the lease occurred within five years ofissuance.

Private letter ruling 9549006 (September 5,1995) holds that slurry bleed from absorbers in aflue gas desulfurization system for a coal firedsteam electric power plant is "solid waste" and thatequipment to deal with that waste constitutes a"solid waste facility."


Private letter ruling 9548030 (September 5, bonds. Among other matters, this Procedure1995) holds that where old equipment was provides that a prospective issuer may apply for afinanced for lease to a 501(c)(3) corporation and is ruling subject to the declaratory judgmentsubsequently sold at fair market value, and where procedures of Code section 7478 (a "reviewablenew equipment for the same function is financed ruling") or a prospective issuer or holder of bondswith new obligations and trade-in proceeds, the may request a ruling that is not subject to the de-exchange arrangement will not affect claratory judgment provisions (a "nonreviewabletax-exemption of the original obligations as it is ruling"). An underwriter that is not a holder ofcomparable to the use of disposition proceeds bonds, a conduit borrower and other parties mayarising from the sale of bond-financed equipment not request a ruling (even though it isand for purchase of the new equipment. nonreviewable). A reviewable ruling relates to a

A private letter ruling dated November 9, 1995(number not available), holds that a state guaranteefund satisfies the six elements of a perpetual trustfund in section 1.148-11(d) and is excepted fromreplacement proceeds for bonds guaranteed by thefund.

Private letter ruling 9607010 (February 26,1996) holds that electric power agency bonds thatinclude a provision requiring redemption in theevent that cumulative private business use ofbond-financed high-voltage transmission line andrelated facilities causes the bonds to be privateactivity bonds will not become private activitybonds, since the agency reasonably expects that,for the entire term of the bonds, taking into accountthe mandatory call provision, there will be noprivate use and payments beyond the percentagepermitted by Code section 141(b).

Regarding qualified 501(c)(3) bonds, TheBond Buyer (January 24, 1996) indicates that twoprivate letter rulings are soon to be releasedmaking "it easier for 501(c)(3) health careorganizations to form various types of jointoperating arrangements without endangering thetax-exempt status of their bonds. . . ."

Revenue Procedures. Revenue Procedures96-1 (provisions regarding ruling requestsgenerally, including fees in Appendix A), 96-3(areas where rulings ordinarily will not be issued)and 96-16 (rulings regarding tax-exempt bonds)have been issued by the Internal Revenue Service.Of particular interest is Revenue Procedure 96-16which sets forth explicit procedures for applicationfor a private letter ruling relating to tax-exempt

general conclusion that interest on specific,prospective obligations is tax-exempt, while anonreviewable ruling ordinarily relates to a specificrequirement for tax-exemption or a specificproposed transaction that may affect the appli-cation of an identified Code section to obligationsalready issued.

The Procedure provides that a resolution musthave been adopted by the issuer before the requestis submitted. Staff has indicated to your editor thatlegislative action comparable to a resolution ispermitted. Staff has also indicated that ifprospective bonds are subject to an election, thatelection must be held prior to application for areviewable ruling (so as to conserve scarce federaltime and monetary resources), but may not berequired prior to application for a non-reviewableruling.

The Procedure prescribes a very specificcontent and format for ruling requests andrequires, among other matters, a statement of facts(including nine listed items), supporting docu-mentation (including not only basic legal docu-ments, but also the official statement, the arbitragecertificate and relevant provisions of law) and, inthe case of reviewable rulings, but notnonreviewable rulings, a legal analysis concerningeach condition for tax-exemption. Time periodsare prescribed for reviewable rulings, but not fornonreviewable rulings.

The Procedure supersedes Revenue Procedure88-32 (relating to reviewable rulings) and RevenueProcedure 88-33 (relating to nonreviewablerulings) and is to be applied in coordination with


Revenue Procedure 96-1 (relating to ruling all State and local governmental debt) at the Grandrequests in general). Hyatt Hotel in San Francisco on February 8 and 9,

Revenue Procedure 96-27 sets forth statevolume cap population figures for 1996 on thebasis of 1994 (rather than 1995) populationstatistics, such being (in the words of Code section146(j)) "the most recent census estimate of theresident population of such State . . . released bythe Bureau of Census before the beginning of thecalendar year." Apparently, 1995 figures wouldhave been available from the Bureau had not thefederal government closed during the yearend.

Pending Administrative Guidance. On March1, 1996, the Treasury Department released its"Priorities List for Tax Regulations and OtherAdministrative Guidance." Under the heading"Tax-Exempt Bonds," three items are listed, asfollows: (1) revenue procedure regardingapplicable census data for private activity bondsvolume cap and low income housing credit, (2)final regulation under section 141 regardingprivate activity bonds, and (3) guidance regardingcertain open market escrows.

SLGS. Although the national debt limit hasbeen increased sufficiently to allow for SocialSecurity payments and an effective full increasehas thereby been postponed until at least the end ofMarch, and although SLGS apparently will not besold until there is a general increase in the limit,NABL has cleverly taken advantage of the lull toprovide comments to the Bureau of Public Debtregarding the SLGS regulations. Thesecomments, which are set forth in full elsewhere inthis issue of The Quarterly Newsletter, provideinteresting reading.

Sharon Stanton WhiteMarch 4, 1996

THE SIXTEENTH ANNUAL TAX SEMINAR

NABL held its sixteenth annual Tax Seminar(finally purging the word "arbitrage" from itsname, consistent with its quest to do the same for

1996. Despite some wishful hopes of facultymembers, no new private activity bond rules ordebt reissuance rules emerged for discussion atthis seminar. Still, the 1995 Tax Seminar enjoyedstrong attendance with over 375 enrolledattendees. Kristin H.R. Franceschi served verycapably as Chair of the seminar. The seminar hadsignificant government involvement. In addition tothe General Session speakers noted below, the IRShad three representatives: Loretta J. Finger, NancyM. Lashnits, and Michael G. Bailey. It wasannounced that Mike Bailey was promotedrecently from his position in the tax-exempt bondruling branch to become Counsel to the AssistantChief Counsel of the Financial Institutions andProducts group. We congratulate Mike. (The twopreceding holders of this position, however, remainquite suspect.)

To begin the General Session, Ms. Linda B.Schakel, Attorney-Advisor in the Tax LegislativeCounsel’s office at Treasury, who joined Treasuryfrom Ballard Spahr Andrews & Ingersoll lastspring, made her formal NABL speaking debut(and immediately impressed the audience with herpositive attitude and her anecdote about anoptimist who, upon encountering a room full ofmanure, thought surely there must be a pony inthere somewhere). Ms. Schakel providedthoughtful remarks about likely near-term Treasuryand IRS guidance priorities in the tax-exempt bondarea. She outlined the following potential projects:(1) final rules under Section 1001 on debt reissu-ances and possible accompanying rules on tax-exempt qualified tender bonds to implement IRSNotice 88-130, 1988-2 C.B. 543; (2) guidance onfair market value pricing for open marketpurchases of Treasury securities for refundingescrows; (3) final technical arbitrage ruleamendments under Section 148; (4) finalcontingent debt rules under Section 1275; (5)guidance on the Federal guarantee prohibition ontax-exempt bonds under Section 149(b), on whichMs. Schakel expressed a goal to provide clearerrules on the extent to which the Federal


government can provide creative assistance to Orange County case. The link to tax comes withState and local governments; (6) further guidance the Orange County case, in which the SEC foundon enterprise zones, a priority of the Clinton that there was a failure to disclose a material factadministration to promote economic development; in the official statement. Notably, this material fact(7) population figures for purposes of the State related to a tax matter involving an artificialprivate activity bond volume cap under Section restriction of funds available to the issuer for146, on which she noted that there was little roomto maneuver from the statutory requirement to usefigures published by the end of 1995 (see IRS Rev.Proc. 96-27, 1996-11 I.R.B., March 11, 1996);and, of course, (8) the private activity bond rulesunder Section 141.

With respect to the private activity bond rules,Ms. Schakel noted that Treasury and the IRS wereweighing the balance between bright lines andflexibility. She also noted that they were weighingthe usual preference to issue final rules against theidea (and NABL recommendation) of re-proposingthe rules if fundamental re-thinking warranted it.She also pointed out that, in considering the outputfacility rules, they were trying to take into accountthat deregulation had "pulled the rug out" fromunder this industry and that they had met withFERC about these issues. Finally, Ms. Schakelcommented that Treasury was exploring possibleways to simplify the arbitrage rebate rules furtherand was working to gather data on the use of thevarious rebate spending exceptions.

The second speaker at the General Sessionwas William R. Baker III, an Assistant Director inthe Enforcement Division at the Securities andExchange Commission. Picking up the slack in theabsence of new IRS guidance, Mr. Baker gave aninsightful and informative speech on the SEC'shistoric and current enforcement efforts in thepublic finance area. He noted that all of thehistoric SEC investigations in this area hadinvolved the anti-fraud provisions under Section10(b) and Rule 10b-5 of the 34 Act. Hecommented on several SEC public finance cases,including the following: a 1976 Astro Products,Inc. case; the Matthews & Wright cases; the 1994Thorn, Alvis, Welch, Inc. case; the 1995 Stifel,Nicolaus & Company, Inc. case, which entailedthe largest settlement to date in a municipal case;the Robert D. Gersh case; and, most notably, the

working capital purposes which placed the tax-exempt status of the issue in jeopardy. Mr. Bakeremphasized that the SEC had not addressed thetax-exempt status of the Orange County issues andthat investigation is ongoing. Mr. Baker comment-ed generally that the SEC was not expanding itsjurisdiction in this area and that all the municipalcases involved classic securities fraud withmaterial misstatements. Mr. Baker comforted theaudience some with his statistic that only 4 out of500 SEC enforcement cases last year involvedpublic finance and only one of those cases wasagainst a State or local governmental issuer.

To conclude the General Session, NABLPresident William H. McBride of Hunton &Williams, former NABL President Neil P. Arkussof Palmer & Dodge, current NABL TreasurerWilliam H. Conner of Squire, San-ders &Dempsey, and Mr. Baker of the SEC had a livelypanel discussion about the implications of the SECenforcement efforts on tax opinion and taxdisclosure standards. One particular item which inpart prompted this debate was Footnote 25 in theSEC’s Cease- and-Desist Order in the OrangeCounty case (33 Act Release No. 7260, January24, 1996), which provided as follows:

"Orange County's bond counsel issued anopinion that these TRANs were tax-exempt. However, the County was awareof material facts concerning therelationship between the size of theoffering and the County's cash flow deficit.As discussed below, the OfficialStatements were materially misleading infailing to disclose these facts and thesignificant risks that the tax-exempt statuscould be denied. Investors were,therefore, unable to make an informedinvestment decision regarding the tax-exempt status of the offerings."


Mr. Baker tried to reassure the panelists that use, refundings, general arbitrage, and privatefailure to disclose material facts affecting the tax activity bond considerations.analysis does not mean that all of the underlyingtax analysis must be disclosed, but thatconsideration should be given to disclosure in closecases. Mr. Conner observed that tax lawyers dealwith close questions all the time and that it isunclear when a tax disclosure duty arises. Mr.McBride expressed concern about the potentialdecline in the tax opinion standard to a "reasoned"opinion with much tax disclosure. He noted thatthe current high, unqualified opinion standardindicated a conclusion of no material risks oftaxability. Mr. Arkuss commented on thecomplexity of sizing working capital financings tocomply with the federal tax laws and questionedthe wisdom of disclosing the "sausage" underlyingthe tax opinion. Mr. Baker emphasized that theOrange County case should be read in context andthat the proper focus is on who is responsible forfacts. He said that the Stifel Nicolaus case wasinstructive and that bond counsel's insistence on abidding process for Treasury escrow investmentsin that matter reflected favorably on the bondcounsel. Mr. Baker noted that the securities lawsfocus on "lying, cheating, and stealing," but heprovided only limited comfort with his remark thatdumb lawyers and bad legal advice do notconstitute SEC securities fraud. NABL Boardmember Howard Zucker expressed concern aboutthe duty of issuer board members with respect toofficial statements and their ability to rely onexperts in light of a footnote in the Orange Countycase about disclosing matters about which a personhas specific knowledge. Mr. Baker indicated thatthe Orange County case stood for the principlethat if an issuer's board members are aware offacts that would be material to investors, they havea duty to inquire whether those facts have beendisclosed, but that in the normal course theseofficials are not required to review official state-ment disclosure prepared by experts. This paneldiscussion ended without any consensus but it wasprovocative and interesting.

For the remainder of Thursday morning andafternoon, break-out sessions led by the facultyaddressed various tax topics, including change in

The Thursday luncheon speaker was James A.Lebenthal of Lebenthal & Co., Inc. He firstshowed a brief film clip of some of his amusingbond commercials from such sites as sewers. Hethen gave a terrific speech on how tax-exemptbonds contribute in a positive way to the growth ofinfrastructure in America. He urged State andlocal governments to make the "social andeconomic cases" for public infrastructure financingto prevent the coming of the "dark ages."

On Friday morning, attendees had a choice ofbreak-out sessions on IRS enforcement, arbitragerebate technical issues, and advanced tax topics.In a change from past formats, the rebate sessionwas designed to address the interests of practitio-ners who do rebate computations. The advancedtax panel addressed some non-103 tax issues, suchas those that arise in leasing transactions andsecuritizations.

The seminar concluded with a general HotTopics session. David A. Walton of Jones HallHill & White led the Hot Topics panel. The otherpanelists were Fredric L. Ballard, Jr., of BallardSpahr Andrews & Ingersoll, David A. Caprera ofKutak Rock, Perry E. Israel of Orrick, Herrington& Sutcliffe, and the undersigned. This paneldiscussed fair market value pricing of Treasurysecurities, including "float" contracts for an entireescrow in the absence of the availability of SLGS.One issue raised was the extent to which thesetransactions supported any recovery of admin-istrative costs expressly or by analogy to thespecial five basis point rule on GIC broker feesunder Section 1.148-5(e)(2)(iii). In addition, thispanel discussed a recent synthetic advancerefunding alternative involving taxable bondswhich are exchanged later for tax-exempt bonds.Issues raised included how to establish the issueprice and how to assure tax reissuance at the timeof the exchange.

John J. Cross IIIVice-Chair1996 Tax SeminarHawkins, Delafield & Wood


* As a matter of policy, the Securities and Ex-

change Commission disclaims responsibilityfor any private publication or statement by anyof its employees. The views expressed hereindo not necessarily represent the views of theCommission or its staff. See 17 C.F.R. §200.735-4(e).

Washington, D.C. ongoing restrictions" (p.156). Moreover, if an

MATERIALITY OFTAX DISCLOSURE INMUNICIPAL SECURITIESOFFERINGS:An SEC Enforcement Perspective*

INTRODUCTION

Why is the SEC concerned about federal taxissues arising in a municipal securities offering?More specifically, isn't the SEC overstepping itsjurisdiction when it charges that the disclosureconcerning the tax consequences of an investmentin a municipal security contains materialmisstatements or material omissions, in violation ofthe federal securities laws? In fact, isn't the SECpotentially creating a problem if it charges that theparticipants in a municipal securities offering havefailed to comply with the requirements of theInternal Revenue Code, or have failed to disclosethe risk that the IRS will conclude that they havefailed to comply, before the IRS has made such adetermination itself? Doesn't such an action, ineffect, make the SEC a tax enforcement agency?

The importance of federal tax issues tomunicipal securities arises, in part, becausepursuant to Section 103(a) of the Code, interestearned on municipal securities is generallyexcludable from gross income. Therefore,municipal securities issuers are generally able tooffer securities that pay a lower rate of interestthan are issuers of comparable non-exempt debt.But, if a municipal securities offering is not incompliance with the requirements of the InternalRevenue Code, and the issuer will not or cannotbring the offering into compliance, the interest onthe municipal security is no longer exempt fromtaxation. As noted in Disclosure Roles of Counselin State and Local Government SecuritiesOfferings (2d Ed.), "[V]irtually every type of tax-exempt bond is, in theory, subject to losing its tax-exempt status because of any failure to rebatearbitrage profit, impermissible private use,violation of the arbitrage regulations, or, forUprivate activity bonds,U violation of a variety of

industrial development bond loses its taxexemption, then it also loses its exemption fromthe registration requirements of Section 5 of theSecurities Act of 1933.

The investor who purchases a municipalsecurity that loses its tax exemption suffers aneconomic loss — the investor owes income tax oninterest received, and if that investor attempts tosell the security, she will inevitably find that it hasdeclined in value. This was the result in the recentUnited States Tax Court decision, Harbor Bancorp& Subsidiaries v. Commissioner, 105 T.C. 19(1995). That case involved $30 million in bondsissued by the Housing Authority of Riverside,California. The bonds were underwritten by thenow-defunct firm of Matthews & Wright (see Sec-tion IV.A.1.c., infra). The proceeds from theoffering were used primarily (over $29 million) topurchase Guaranteed Investment Contracts, andnot to construct the housing projects described inthe official statement. The IRS ruled that the GICsconstituted "non-purpose investments" pursuant tosection 148(f)(6)(A) of the Code, and that intereston the bonds was taxable. Following a challenge,by certain bondholders, the Tax Court upheld thatdetermination. The Harbor Bancorp decisionunderscores the importance to investors ofaccurate and complete disclosure about tax issues.

I. THE SEC'S JURISDICTION OVERMUNICIPAL SECURITIES OFFERINGS

A. The Antifraud Provisions of the FederalSecurities Laws

1. Section 17(a) of the Securities Act of1933 and Section 10(b) of the SecuritiesExchange Act of 1934 and Exchange Act


Rule 10b-5 are the principal antifraud 1. In 1989, pursuant to its authorityprovisions of the federal securities laws. under Exchange Act Section 15(c), the

2. Section 3(a)(2) of the Securities Actexpressly exempts municipal securitiesfrom most of the Act's substantive provi-sions. However, Section 17(c) of theSecurities Act provides that theexemptions in Section 3(a)(2) "shall notapply to the provisions of this section."Thus, the offer and sale of municipalsecurities are subject to Section 17(a).

3. Section 3(a)(12) of the Exchange actdefines municipal securities as "exemptedsecurities" for many of its substantiveprovisions. However, Section 10(b) (aswell as Section 15(c) which applies tobroker dealers) is applicable.

B. Section 15B(d) of the SecuritiesExchange Act of 1934

1. Section 15B(d) of the Exchange Act,the "Tower Amendment," prohibits theSEC and the Municipal SecuritiesRulemaking Board from requiring thefiling by any municipal issuer of anymaterial with the SEC or the MSRB inconnection with the issuance, sale ordistribution of municipal securities.

2. Section 15B(d) provides specificallythat nothing in the Tower Amendmentshall be construed to impair or limit thepower of the Commission under theExchange Act.

3. Section 15B(d) does not limit theapplication of the antifraud provisions ofthe federal securities laws, Section 17(a)of the Securities Act of 1933, Section10(b) of the Exchange Act, and ExchangeAct Rule 10b-5 (as well as Exchange ActSection 15(c)) to statements made inconnection with the offer, purchase andsale of municipal securities.

C. Exchange Act Rule 15c2-12

SEC adopted Exchange Act Rule 15c2-12and an interpretation regarding theobligations of municipal securities dealersto have a reasonable basis forrecommending municipal securities. SeeSecurities Exchange Act Release Nos.26100 (September 22, 1988) (proposingrelease) and 26985 (July 10, 1989)(adopting release). Exchange Act Rule15c2-12 requires an underwriter ofmunicipal securities to: (1) obtain andreview an issuer's official statement that,except for certain information, is "deemedfinal" by an issuer prior to making apurchase, offer, or sale of municipalsecurities; (2) in negotiated sales, providean issuer's most recent preliminary officialstatement (if one exists) to potentialcustomers; (3) deliver to customers, uponrequest, copies of the final officialstatement for a specified period of time;and (4) contract to receive, within aspecified time, sufficient copies of theissuer's final official statement to complywith the rule's delivery requirement, andthe requirements of the rules of theMSRB.

2. In March 1994, the Commissionpublished for comment proposed a-mendments to Exchange Act Rule 15c2-12. See Securities Exchange Act ReleaseNo. 33742 (proposing release). Theproposed amendments were designed toenhance the quality, timing anddissemination of disclosure in themunicipal securities market by placingcertain requirements on brokers, dealersand municipal securities dealers. Theamendments were adopted in final form onNovember 10, 1994 (Exchange ActRelease No. 34961). The amendments areintended to improve the dissemination ofimportant information throughout the termof the municipal securities. Under the


amendments, an underwriter is prohibited need be disclosed. The antifraud provisions limit(subject to certain exemptions) from liability to material nondisclosure or misrepre-undertaking a primary offering of mu- sentation. nicipal securities unless the participatingunderwriter has reasonably determinedthat an issuer of municipal securities or anobligated person either individually or incombination with other issuers of suchmunicipal securities or obligated persons,has undertaken in a written agreement orcontract for the benefit of holders of suchsecurities ("the covenant"), to provide,either directly or indirectly through anindenture trustee or a designated agent,certain annual financial information andevent notices to various informationrepositories.

3. The final official statement serves asthe baseline for ongoing disclosure. Thefinal official statement must include, eitherdirectly or by cross reference to otherpublic documents, information concerningthe terms of the proposed issue ofsecurities and information includingfinancial information and other operatingdata concerning such issuers of municipalsecurities and those other persons, entities,enterprises, funds and accounts that arematerial to an evaluation of the offering.See Exchange Act Rule 15c2-12(f)(3).

4. The covenant must also contain anundertaking to provide in a timely mannernotice of certain events, if material,including "adverse tax opinions or eventsaffecting the tax exempt status of thesecurity." Responsibility for determiningmateriality rests with the issuer.

II. MATERIALITY UNDER THE ANTIFRAUD PROVISIONS

The antifraud provisions of the federalsecurities laws have the effect of requiringdisclosure of any material information necessary tomake other disclosures not materially misleading.But not every fact about every transaction can or

A. The Reasonable Investor Test

The leading case on materiality is TSCIndustries, Inc. v. Northway, Inc., 426 U.S.438 (1976), which defined a material fact asone to which it is reasonably likely that areasonable investor would attach importance inmaking a decision because the fact wouldsignificantly alter the "total mix" ofinformation. 426 U.S. at 449. (This iscodified in Commission Rule 12b-2.) Whilethe TSC Industries definition was promulgatedin a proxy case brought under Section 14 ofthe Exchange Act, it has been embraced bycourts as the standard for materiality under allof the liability provisions. See Basic v.Levinson, 485 U.S. 224, 231-2 (1988)(expressly adopting the TSC Industriesstandard of materiality for Section 10(b) andRule 10b-5 cases); Abell v. PotomacInsurance Co., 858 F.2d 1104, 1116 (5th Cir.1988) (applying TSC Industries standard ofmateriality in action charging fraud in the saleof municipal securities).

B. Contingent or Future Information

In the absence of specific, line itemrequirements, how do you determine mate-riality of future events? In Basic, the SupremeCourt applied the TSC Industries test to factsthat are contingent or that may occur in thefuture:

[the determination of materiality in thiscircumstance requires] a balancing ofboth the indicated probability that theevent will occur and the anticipatedmagnitude of the event in the light ofthe totality of the company activity.

485 U.S. at 238.

C. SEC Guidance

1. Statement of the Commission Re-garding Disclosure Obligations of


Municipal Issuers and Others, Secu- In making a materiality determi-rities Exchange Act Release No.33741 (March 9, 1994) (the "Inter-pretive Release").

The Interpretive Release was intendedto encourage ongoing efforts by marketparticipants to improve disclosurepractices and to assist municipal securitiesissuers and broker-dealers in meeting theirdisclosure obligations under the federalsecurities laws. The Interpretive Releaseidentified the need for improvement in thearea of primary offering and secondarymarket disclosure. The release specificallysuggested certain mechanisms to addresspotential antifraud liability, such as timelyreporting of material events reflectingupon the terms of securities, includingreceipt of an adverse tax opinion.

2. Analogous Corporate DisclosureRequirements

Neither Rule 15c2-12 nor the Inter-pretive Release is an attempt to require forofficial statements the same line itemdisclosure promulgated by SEC regulationfor use in registration statements andperiodic and annual reports filed with theSEC. However, those disclosurerequirements can provide some guidancein determining whether particular facts arematerial.

a. M D & A Disclosure Require-ments

Item 303 of Regulation S-K,Management's Discussion andAnalysis of Financial Condition andResults of Operations, requires thatmanagement address not merelyhistorical information, but also that itconsider likely future development.The M D & A must disclose allpresently known material changes,trends and uncertainties that the issuerexpects will have a material effect onfuture performance.

nation under the antifraud provisions,the burden is on the Commission orthe private plaintiff to show that a factis material. Under the Commission'sinterpretation of Item 303, publishedin 1989 (Exchange Act Release No.6835 (May 24, 1989), managementhas the burden to prove that a knowntrend or uncertainty either (i) is notlikely to occur, or (ii) will not havematerial consequences if it does occur.If this burden cannot be met, dis-closure is required.

The M D & A Release distin-guishes the "reasonably likely to havea material effect" standard fordisclosure under Item 303 from theprobability/magnitude test for mate-riality under Rule 10b-5 established inBasic: "The probability/magnitudetest is inapposite to Item 303disclosure." 1989 Interpretive Releaseat 16 n. 27. Thus, while a contingentevent that is not very likely to occur,but the impact of which would be verygreat, might be material under theBasic test, such an event would nothave to be discussed in the M D & Abecause it is not "reasonably likely" tooccur.

b. Item 103 of Regulation S-K

Item 103 of Regulation S-K requiresdisclosure of:

any material pending legalproceedings other than ordinaryroutine litigation incidental to thebusiness, to which the registrantor any of its subsidiaries is a partyor of which any of their property isthe subject.

This disclosure must include "thename of the court or agency in whichthe proceedings are pending, the dateinstituted, the principal parties thereto,


a description of the factual basis disclosure about the tax status of municipalalleged to underlie the proceeding andthe relief sought." Item 103. Inaddition, the same information mustbe included with respect to "anyproceedings known to becontemplated by governmentalauthorities." Id. See Section XI.C. ofGFOA Guidelines described below.

c. FAS 5: Contingent Liabilities

When an issuer learns of anunasserted claim (a "loss contingen-cy") it is required to analyze the natureand extent of the contingency underFinancial Accounting StandardsStatement No. 5, "Accounting forContingencies" ("FAS 5"). FAS 5defines a loss contingency as "anexisting condition, situation, or set ofcircumstances involving uncertainty"as to possible loss to an enterprise"that will ultimately be resolved whenone or more future events occur or failto occur." While loss contingenciescan take various forms, FAS 5specifically identifies the guarantee ofthe indebtedness of others as acircumstance which may involve aloss contingency. Under FAS 5, whenan issuer may have incurred a losscontingency, the issuer must evaluatethe likelihood that a liability exists,and whether the amount of thatliability can be determined. If theliability is probable, and its amountcan be reasonably ascertained, theissuer must accrue for the liability. Ifa liability is probable and the issuercannot reasonably estimate the amountof any loss, the existence of thecontingency must be disclosed. And,if the liability is reasonably possible, itmust also be disclosed.

D. Voluntary Guidelines

Various disclosure guides prepared byindustry participants stress the importance of

securities.

1. Disclosure Guidelines for State andLocal Government Securities,published by the Government FinanceOfficers Association:

a. suggests that the issuer include onthe cover page "a concisecharacterization of the tax status ofinterest on the security, indicating inthe opinion of bond counsel, forpurposes of federal income taxation,whether interest on the securities is: (i)excludable from gross income; (ii)excludable from gross income butsubject to the alternative minimum taxas a preference item; or (iii) taxable."(p. 3);

b. states that the Introduction to theOfficial Statement should contain "abrief statement of the tax status ofinterest on the securities being offered(e.g. general exemption, alternativeminimum tax, original issue discount,if available, and bank qualification)"(p.6);

c. under Section XI.C., "LegalMatters," The GFOA Guidelines state:

"Describe the significantelements of federal or, if appro-priate, state or local income orsimilar tax status of the securitiesand the interest thereon underexisting law, including direct orindirect taxation of interest andcircumstances subsequent toissuance of securities that mayhave a bearing thereon. With theconsent of counsel, include orsummarize the tax opinionproposed to be given by counsel"(p. 60); and

d. under Section VI.B.(8) (p. 79), onContinuing Disclosure, the GFOA


Guidelines recommends prompt securities is excludable from grossrelease of information with regard to income. Such additional mattersinstitution of a formal governmental may include, but are not limited ininvestigation or litigation concerning every instance to, applicability ofthe tax status of, or otherwise having the alternative minimum tax,a direct bearing upon information inclusion in book income orconcerning, the issuer or its securities current earnings, environmentalthat is relevant to an investor. tax, or branch profits tax.

2. Disclosure Handbook for Municipal The federal tax matters sectionSecurities prepared by the National should also address whetherFederation of Municipal Analysts. The conditions must be met during thehandbook was prepared on a sector by period after the securities aresector basis to highlight the important issued in order to maintain theinformation needed to evaluate specific exclusion of the interest fromcredit risk in the primary and secondary gross income. The discussionmarkets. should focus on the existence of

a. The disclosure outline for eachsector identifies "taxation" as aspecific disclosure item, and alsorecommends disclosure of "[o]therchanged information that would havebeen a significant aspect of disclosureat the time of sale."

b. Appendix D discusses disclosureof legal issues, and also specificallydiscusses federal tax lawconsiderations. There, the Handbookstates:

"Each official statement or otherdisclosure document shouldcontain a section that specificallyaddresses federal tax law matters,and each official statement willcustomarily include the form ofthe approving opinion which bondcounsel proposes to render atclosing. The federal tax matterssection should also address (atleast to the degree ofacknowledging that issues exist III. CASES WHERE TAX INFORMATIONand stating that bond counsel is WAS MATERIALdeclining to opine) questions ofother potential federal taxconsequences in addition to theopinion that interest paid on the

appropriate covenants to insurecompliance with those conditionsand whether any specificmechanism for theimplementation, monitoring orenforcement of those covenantsexists."

3. Disclosure Roles of Counsel in Stateand Local Government Securities Offer-ings (2d Ed.), Section of Urban, State andLocal Government Law, American BarAssociation:

"[V]irtually every type of tax-exemptbond is, in theory, subject to losing itstax exempt status because of anyfailure to rebate arbitrage profit,impermissible private use, violation ofthe arbitrage regulations, or, forUprivate activity bonds,U violation of avariety of ongoing restrictions.Accordingly bond counsel's opinionoften warns the purchaser of thispossibility." (p.156)

A. Commission Enforcement Actions Charg-ing Material Misstatements ConcerningFederal Tax Issues


1. Municipal Securities Cases proceeds from those offerings were

a. In the Matter of County ofOrange, California; OrangeCounty Flood Control District;and County of Orange, CaliforniaBoard of Supervisors, ReleaseNo. 33-7620 (January 24, 1996).

On January 24, 1996, the Com-mission instituted a cease-and-desistproceeding against Orange County,California, its Board of Supervisors,and the Orange County Flood ControlDistrict. The defendants andrespondents consented to the entry ofthe relief sought by the SEC withoutadmitting or denying the allegations inthe complaint or the findings in theorder. At the same time, theCommission filed an injunctive actionagainst the former Orange CountyTreasurer, Robert L. Citron, andAssistant Treasurer Matthew R.Raabe. SEC v. Robert L. Citron andMatthew R. Raabe, Litigation ReleaseNo. 14792 (January 24, 1996). Inaddition, the Commission issued areport of investigation, pursuant tosection 21(a) of the Exchange Act,that discussed the conduct of indi-vidual Orange County supervisors.Report of Investigation In the Matterof County of Orange, California as itRelates to the Conduct of theMembers of the Board of Supervisors,Release No. 34-36761 (January 24,1996) (Orange County Report).

The Orange County proceedingsoffer several illustrations of fraudulentdisclosure in a municipal securitiesoffering. The central allegation in theenforcement actions was that OrangeCounty made material misstatementsand omissions in connection with theoffer and sale of some $2 billion inmunicipal securities sold to investorsin 1993 and 1994. Most of the

invested in the Orange CountyInvestment Pools. When the poolscollapsed due to rising interest ratesand excessive leverage, the county andother participants in the pool suffered$1.6 billion in losses, and the countyfiled the largest municipal bankruptcyin history.

The Commission also charged thatthe failure to disclose certain materialfacts and the associated risks posed bythose facts to the tax-exempt status oftwo of the County's note offerings wasmaterially misleading. Although bondcounsel for the offerings had issuedopinions that the securities were tax-exempt, the County was aware ofmaterial facts concerning therelationship between the size of theoffering and the County's cash flowdeficit. Specifically, the County hadartificially restricted funds as notavailable for working capital purposesin order to increase the size of its tax-exempt borrowing, even though itintended to use the funds for thatpurpose and subsequently adopted abudget under which they were to beused for such purpose. The disclosureviolation charged by the SECstemmed from a failure to disclosefacts concerning the artificial re-striction of funds, which would bematerial to an investor's assessment ofthe tax-exempt status of the notes, andthe risks that flow from these facts,including the risk of additional taxliability to the investor. However, theCommission made no determinationregarding whether the notes were tax-exempt and made no comment on thelegal analysis in the bond counsel'sopinion.

b. SEC v. Robert D. Gersh, CivilAction No. 95-12580(RCL) (D.


Mass.), Litigation Release Nos. information material to an assessment14742 (November 30, 1995) and of the tax-exempt status of the COPs.14785 (January 16, 1996).

In this matter, which is currently Gersh falsely represented that ain litigation, the Commission alleges portion of investor monies would bethat from early 1990 to the present, set aside in a debt service reserveGersh and two wholly-owned account, failed to disclose that hecorporate entities offered and sold exercised control over the trustee, andsecurities in the form of Certificates of falsely represented that the COPsParticipation ("COPs") in 34 securities were issued pursuant to the authorityofferings which raised approximately of state or local government agencies.$14 million from investors in at least In January, the Commission obtainedsix states. In connection with the offer a preliminary injunction against Gersh.and sale of these securities, thecomplaint alleges that the defendantshave engaged in continuing fraudulentacts which include themisappropriation of over $7 million ininvestor funds.

The complaint alleges that, toinduce public investors to invest inthese COPs, the Defendants marketedthe offerings as tax-exempt municipalsecurities, collateralized by equipmentleases entered into by state and localgovernments. The Defendants mademultiple false statements andomissions of material fact. Theseincluded falsely promising thatinvestments were fully-secured bystate and municipal obligations, thatGersh would merely pass-through thecollateral payments to investors andthat a trustee would protect theinterests of investors. In fact,however, Gersh only used a portion ofthe proceeds to invest in state andlocal government leases. Gershcommingled the proceeds of theinvestments and misappropriated themonies to invest in a variety ofpersonal business ventures. Thecomplaint further alleges that Gersh'sfailure to use investor proceeds asrepresented deprived investors of

The complaint further alleges that

c. SEC v. Stifel, Nicolaus andCompany, Inc., Civil Action No.95-1190T (W.D. Okla.),Litigation Release No. 14587(August 3, 1995).

The Commission brought thisinjunctive action against Stifel,Nicolaus & Co. a St. Louis brokerdealer, alleging that from 1989through 1993, Stifel's receivedmillions of dollars in undisclosedpayments from third parties that soldor brokered investments purchasedwith proceeds from municipalsecurities offerings to municipalissuers, in municipal securitiestransactions where Stifel served as anunderwriter, financial advisor orinvestment banker. The Complaintalleged further that Stifel underminedthe integrity of the bidding process setup for the purchase of certain of thoseinvestments. The Complaint allegedStifel defrauded investors by failing todisclose the payments to participantsin the bond issues, including theissuer, bond counsel and/or special taxcounsel, thereby depriving investors ofinformation material to an assessmentof the tax- exempt status of the bonds.

The Commission charged thatStifel violated Section 17(a) of the


Securities Act of 1933, Sections pending. The order instituting10(b), 17(a)(1) and 15B(c)(1) of the proceedings charged that Thorn,Securities Exchange Act of 1934 and Alvis, Welch, Inc. ("TAW"), a regis-Rules 10b-5, 17a-3 and 17a-4 tered broker-dealer; John E. Thorn, Jr.thereunder. Stifel also violated Rules ("Thorn"), the president of TAW; andG-8, G-9 and G-17 of the MSRB. Derryl W. Peden ("Peden"), bondSimultaneous with the filing of the counsel for certain offeringsComplaint, without admitting or underwritten by TAW, violateddenying the allegations contained in Section 17(a) of the Securities Act andthe Complaint, Stifel consented to the Section 10(b) of the Exchange Actentry of a Final Judgment enjoining it and Rule 10b-5 thereunder and thatfrom future violations of the TAW, aided and abetted by Thorn,provisions of the federal securities violated Section 15B(c)(1) of thelaws cited above. In addition, Stifel Exchange Act and Rule G-17 of theagreed to disgorge $922,741, pay MSRB.prejudgment interest on that amount of$263,637 and pay a civil moneypenalty pursuant to Section 20(d) ofthe Securities Act and Section21(d)(3) of the Exchange Act of$250,000.

On September 20, 1995, the sold as qualified tax-exempt bonds.Commission filed an action against Section 147(g) of the Code providesthree former employees of Stifel, that no more than two percent of theincluding the former head of its proceeds of such offerings can be usedOklahoma underwriting operations, to finance issuance costs such as bondand charged them with related counsel fees. Section 142(a) of theviolations, including the failure to Code provides that at least ninety-fivedisclose information material to an percent of the bond proceeds must beassessment of the tax status of the used to provide the financed facility.bonds. Securities and Exchange According to the allegations in theCommission v. Robert M. Cochran, order, TAW, through Thorn andMichael B. Garrett and Randall W. Peden, devised a scheme whichNelson, (W.D. Okla.), Litigation utilized sham transactions to concealRelease No. 14644 (September 20, the fact that bond proceeds in excess1995). That case is currently being of the amounts permitted by Sectionslitigated. 147(g) and 142(a) of the Code were

d. In the Matter of Thorn, Alvis,Welch, Inc., John E. Thorn, Jr.,and Derryl W. Peden, SecuritiesRelease No. 7069, SecuritiesExchange Act Release No. 34248,Administrative Proceeding FileNo. 3-8400 (June 23, 1994)

This administrative and cease-and-desist proceeding is currently

According to the order, fromAugust 1992 through October 1993,TAW, as underwriter, raised ap-proximately $20 million through sevenmunicipal revenue bond offerings("TAW offerings"). The bonds were

used to pay issuance costs. Thiscreated a substantial risk, that was notdisclosed to investors, that the TAWofferings may have failed to complywith the requirements of the Code andthat the bonds may not have been tax-exempt as represented.

On October 12, 1994, an Ad-ministrative Law Judge ("ALJ")


dismissed one of the affirmative 1986. The offering materials for thedefense raised by respondents: that the bonds stated that the bonds were to beproceeding should be dismissed or used to finance the construction ofstayed because the agency with various projects, primarily multi-primary jurisdiction, the IRS, had not family housing projects. Theruled on the exempt status of the Commission alleged that the bondsbonds. In the Matter of Thorn, Alvis, were actually used to purchaseWelch & Co., Inc., Administrative guaranteed investment contracts toRulings Release No. 446 (October 12, serve as credit enhancement for the1994). bonds. The Commission charged that

Peden, the bond counsel, con-sented to the entry of an order findingthat he had violated Section 10(b) ofthe Exchange Act and Rule 10b-5thereunder, without admitting ordenying the allegations in the order.In the Matter of Derryl W. Peden,Exchange Act Release No. 35045, APFile No. 3-8400 (December 2, 1994).

The case as to TAW has beentried and the parties are awaiting theALJ's decision.

e. SEC v. Matthews & WrightGroup, Inc., Civ. Action No. 89-2877 (S.D.N.Y.), LitigationRelease Nos. 12072 (April 27,1989) and 12950 (August 22,1991).

In this enforcement action, theCommission charged Matthews &Wright, a broker dealer and under-writer of municipal securities, andvarious associated persons andentities, with violations of the anti-fraud, reporting, books and recordsand internal control provisions of theSecurities Act and the Exchange Act.Among other conduct, theCommission charged that the defen-dants conducted sham closings of 22municipal bond offerings at year end1985, in order to take advantage offavorable tax provisions that wouldchange after 1985. The municipalbonds were not sold to the public until

the defendants failed to disclose therisk, created by the sham closings andthe use of proceeds, that interest onthe bonds might be consideredtaxable. Defendants consented to theentry of permanent injunctions barringfuture violations. See also In theMatter of Arthur Abba Goldberg,Securities Exchange Act Release No.28593 (November 2, 1990).

f. SEC v. Astro Products of Kansas,Inc., (D. Kansas), LitigationRelease Nos. 7557 (September13, 1976); 7774 (February 10,1977); 7824 (March 16, 1977);8574 (October 23, 1978) and8613 (December 8, 1978).

The SEC alleged violations of theantifraud provisions and the TrustIndenture Act, in connection with theoffer and sale of industrial revenuebonds by Astro Products, Inc., and theCity of Hyatsville, Kansas. The Com-plaint alleged that $2.2 million inindustrial revenue bonds were issuedto acquire equipment for a factory tomanufacture automobile wheels.Among other misrepresentationscharged in the Complaint, it wasalleged that the bonds were marketedas tax-exempt, but that defendants,including bond counsel, failed todisclose that the bonds wereimproperly issued and not tax-exempt.

2. Tax Shelter Cases


In the late 1970s and early 1980s, the (S.D.N.Y.), Litigation ReleaseCommission brought a number of No. 8304 (February 28, 1978).enforcement actions that charged fraud inthe offer or sale of interests in tax shelters.Frequently, the offerings of tax shelterinterests were not registered with theCommission, so there were no requiredline item disclosures. Many of theenforcement actions chargedmisrepresentations concerning the taxconsequences of the investment.

production of motion pictures. Thea. SEC v. International Mining

Exchange, Inc., 515 F. Supp.1062, reh. denied 1981-82 Fed.Sec. L. Rep. (CCH) ¶ 98,278 (D.Colo. 1981). Litigation ReleaseNos. 9181 (September 17, 1980),9248 (December 2, 1980), and9373 (June 11, 1981).

This litigated case involved anunregistered offering of investmentcontracts in the form of a "gold taxshelter investment program." On theCommission's motion for summaryjudgment, the court permanentlyenjoined the defendants from violatingthe registration and antifraudprovisions of the federal securitieslaws. The court found that thematerial misstatements by the defen-dants included a representation "thatinvestors would realize a federalincome tax deduction equal to 500%percent of their investment. However,such a tax deduction would be imper-missible and fraudulent because[defendants] did not incur thedevelopment expenses required by therules and regulations of the InternalRevenue Service." 515 F. Supp at1070.

b. SEC v. National InvestmentServices, Inc., No. 78 Civil 725

This settled enforcement actioncharged defendants with violations ofthe registration and antifraudprovisions of the federal securitieslaws. The Complaint alleged thatdefendants made material misstate-ments concerning, among other things,the tax deductibility of investments intax shelters organized to finance the

defendants, without admitting ordenying the allegations in theComplaint, consented to the entry offinal judgments permanently enjoiningthem from future violations, andordering them to provide, atdefendants' expense, tax counsel toinvestors in the event that the investorswere audited by the IRS.

c. SEC v. GeoDynamics Oil andGas, Inc., No. 76-0957 (D.D.C.),Litigation Release Nos. 9090(May 20, 1989), 8769 (May 31,1979), and 7423 (June 1, 1976).

Defendants were charged with,among other things, material mis-statements in the offer and sale of over$80 million in registered andunregistered limited partnershipinterests in "leveraged" oil and gasdrilling ventures offered and managedby the defendants. The Commissioncharged that defendants used offeringmaterials that claimed investors wouldbe entitled to claim on their tax returnsintangible drilling costs equal to two tothree times the amount of their cashinvested. The Commission chargedthat the offering materials werematerially misleading in that theyfailed to disclose, among other things,the material risks of adverse taxtreatment by the IRS and the courts.The defendants agreed to the entry of


final judgments of permanent f. SEC v. Resource Exploration Inc.,injunction against future violations, No. CI 76-1328, Litigationand to pay disgorgement. Release Nos. 7707 (December 22,

d. SEC v. George M. Osserman, No.78-2336-NA (D. Mass.),Litigation Release Nos. 8543 The Commission charged viola-(September 21, 1978) and 8778 tions of the antifraud provisions in(June 13, 1979). connection with the offer, sale and

This Commission enforcementaction charged violations of theregistration and antifraud provisions inconnection with the sale of $20 millionin unregistered limited partnershipinterests in certain coal mining ven-tures. Among the misstatementsalleged in the Complaint wererepresentations concerning theinvestors' ability to deduct certainlosses incurred by the partnership.Defendants either consented to theentry of final judgments of permanentinjunction barring future violations, orjudgment was entered by default.

e. SEC v. Master Drillers, Inc.,(N.D. Tex.), Litigation ReleaseNos. 7204 (December 11, 1975),7275 (February 10, 1976) 7351(April 12, 1976), 7411 (May 25,1976) and 7569 (September 20,1976).

This Commission enforcementaction charged violations of theregistration and antifraud provisions ofthe federal securities laws inconnection with the sale of fractionalundivided working interests in oil andgas leases. Defendants were chargedwith, among other things, makingmaterially false and misleadingstatements about the tax advantages ofan investment in the oil and gas leases.Defendants consented to the entry offinal judgments of permanentinjunction barring future violations.

1976), 7758 (January 26, 1977),and 7766 (February 1, 1977).

management of oil and gas drillingfunds. The complaint alleged that thedefendants, among other things,misrepresented to investors that theycould obtain tax deductions of up totwice the amount of their investments.Defendants consented to the entry offinal judgments of permanentinjunction. One of the defendants inthe Commission's enforcement actionwas also charged, in a parallelcriminal prosecution, for causing falsetax returns to be filed by investors.U.S. v. Trahan, CR-79-500008-01(W.D. La. 1979), Litigation ReleaseNos. 8760 (May 17, 1979), 8897(October 18, 1979), and 8941(December 4, 1979).

g. SEC v. A.T. Bliss and Co., No.84-6051-CIV-ALH (S.D. Fla.),Litigation Release No. 10274(January 30, 1984).

This action involved the unreg-istered sale of interests in solar hotwater system equipment leases.Defendants were charged with, amongother things, violations of theregistration and antifraud provisions ofthe federal securities laws. Amongthe material omissions alleged in theComplaint were the defendants' failureto disclose that the IRS had disallowedcertain tax credits and benefitsclaimed by investors in the leases.Defendants consented to the entry offinal judgments of permanentinjunctions barring future violations.


h. SEC v. Calzone Mining Co., Inc. provided to investors and potentialNo. 84-0485 (C.D. Cal.), investors. Plaintiffs alleged that theyLitigation Release Nos. 10273 suffered adverse tax consequences(January 30, 1984) and 10759 when the IRS disallowed deductions(May 20, 1985). of losses resulting from the program.

The Commission's complaintalleged that defendants violated theregistration and antifraud provisions ofthe federal securities laws in connec-tion with the sale of interests ininvestment contracts for the purchaseand development of gold miningproperty. The complaint allegedfurther that, among other things,defendants materially misrepresentedthe tax benefits attendant to theinvestment. Without admitting ordenying the allegations in thecomplaint, defendants consented to the b. Ackerman v. Schwartz, 947 F. 2dentry of final judgments of permanent 841 (7th Cir. 1991).injunction.

who gives a tax opinion in connection3. Private Actions

Several cases involving the liability ofattorneys and other professionals haverecognized that the alleged misstatementsin the tax opinion concerning thedeductibility of the losses were material tothe investors who received the opinionletters.

a. Kline v. First Western Govern-ment Securities, Inc., 24 F.3d 480(3d Cir. 1994).

Plaintiffs in this case wereinvestors in a "straddle" trading pro-gram in forward contracts for U.S.government agency securities pur-chased through defendant FirstWestern. In addition to First Western,the defendants included a lawyer andhis law firm, authors of an opinionletter that addressed certain taxconsequences of an investment in theprogram. Although the letters wereaddressed to First Western, they were

Plaintiff investors alleged that theopinion letters failed to disclose thatthe program was designed to obtaintax losses, and could not support areasonable expectation of economicgain, making it unlikely that lossessustained in the program could bededucted, and in addition failed todisclose the existence of SEC and IRSinvestigations. The Third Circuitreversed the district court's grant ofsummary judgment in favor of thelawyers.

The Court found that a lawyer

with the private syndication of a taxshelter offering can be liable underRule 10b-5, even though all facts inthe opinion were stated asassumptions based on representationsfrom management, if the lawyerknows that the facts were misstated.

c. Eisenberg v. Gagnon, 766 F.2d770, 776 (3d Cir. 1985), cert.denied sub nom. Wasserstrom v.Eisenberg, 474 U.S. 946 (1986).

Lawyer and law firm that preparedtax opinion letter included in theoffering memoranda, in which itopined that the IRS would allowcertain deductions, when it knew thatfacts were not as represented in thatopinion, could be held liable underantifraud provisions.

d. Herbst v. IT&T Corp., 495 F.2d1308, 1316 (2d Cir. 1974)


Prospectus for tender offer stated A. Issuersthat in the opinion of tax counsel stockfor stock exchange would not be ataxable event. Plaintiff alleged thatcorporation failed to disclose certainfacts that the transaction was not asrepresented, and failed to disclose therisk that the IRS might consider theproposed exchange to be a taxableevent. The Court of Appeals heldthat such a risk could be material.

e. Gilmore v. Berg, 761 F. Supp.358 (D.N.J. 1991)

Plaintiff filed securities fraudaction against author of a tax opinionletter that contained allegedmisrepresentations. The court deniedthe lawyer's motion for summaryjudgment and held that lawyer couldbe liable under Section 10(b) of theExchange Act and Rule 10b-5 foraffirmative misrepresentations in theopinion letter. The court also deniedplaintiff's motion for a stay of thesecurities fraud case pendingresolution of a related proceeding intax court.

f. Griffin v. McNiff, 744 F. Supp.1237 (S.D.N.Y. 1990), aff'dwithout op. 996 F.2d 303 (2d Cir.1993).

Plaintiffs, investors in an oil andgas partnership, alleged that a privateplacement memorandum and taxopinion were designed to mislead in-vestors into believing that limitedpartnership investments offered theman opportunity to achieve a tax benefitfrom the investment, althoughdefendants knew that investors wouldbe unable to claim such a benefit.Court denied motion for summaryjudgment, and found that lawyer andlaw firm could be found liable.

IV. WHO IS LIABLE?

As discussed above, in the Orange CountyOrder, the Commission found that the issuerhad violated the antifraud provisions by failingto disclose the risk that the IRS might find thatcertain offerings were not tax-exempt. In theStifel, Thorn, Alvis and Matthews & Wrightenforcement actions, the SEC did not chargethe issuers of the municipal securitiesinvolved. However, in each of the tax sheltercases discussed in Section IV.A.2., above, theissuer of the interest in the tax shelter wascharged.

B. Underwriters

1. SEC v. Stifel, Nicolaus and Company,Inc.

2. SEC v. Matthews & Wright Group,Inc., et al.

C. Lawyers

1. In the Matter of Derryl W. Peden2. Matthews & Wright3. Kline v. First Western Government

Securities, Inc.4. Ackerman v. Schwartz5. Eisenberg v. Gagnon6. Gilmore v. Berg7. Griffin v. McNiff

William R. Baker III Assistant Director Division of Enforcement United States Securities and Exchange Commission Washington, D.C. March 14, 1996


ORANGE COUNTY ORDER:A NEW LEGAL STANDARDFOR TAX DISCLOSURE?

On January 24, 1996, the Securities andExchange Commission imposed a cease-and-desistorder on Orange County, California, and theOrange County Board of Supervisors (SEC Rel.No. 34-36760, Jan. 24, 1996). The order containsa sentence which, read in isolation, could suggestthat it is the SEC's position that it is necessary todisclose the tax analysis underlying a tax-exemptbond financing:

"Failure to disclose information regardingthe tax analysis that provided the basis forthe tax-exemption opinion deprivedinvestors of information material to anassessment of the tax-exempt status of theTRANs."

In my view, based upon a reading of the OrangeCounty order as a whole, an analysis of the casesand administrative proceedings cited in the order,and informal conversations betweenrepresentatives of NABL (including myself) andknowledgeable SEC staff members, the SEC didnot intend by this language to establish a new legalstandard for tax disclosure in tax-exemptfinancings. Rather, the SEC is reiterating its long-held position that, in a securities offering, amaterially misleading omission of facts or aninclusion of facts that were materially misleadingis the basis for liability. In addition, in my view,the SEC is not concerned with whether the law hasbeen correctly applied to the facts (assuming suchapplication is not performed in a fraudulent orreckless manner). As noted by William R. BakerIII, Assistant Director, SEC Division of Enforce-ment, in his summary, supra, of the OrangeCounty proceedings: "[T]he Commission made nodetermination regarding whether the notes weretax-exempt and made no comment on the legalanalysis in the bond counsel's opinion." Further-more, no direct lessons can be drawn regarding theactions of bond counsel or underwriter's counselbecause the order was imposed on the County and

the County Board of Supervisors and the SECstated that its investigation remains ongoing.

The controversial sentence quoted above mustbe read in the context of the order as a whole,which is focused on the failure to disclose certainfacts:

"Orange County's bond counsel issued anopinion that these TRANs were tax-exempt. However, the County was awareof material facts concerning therelationship between the size of theoffering and the County's cash flow deficit.As discussed below, the OfficialStatements were materially misleading infailing to disclose these facts and thesignificant associated risks that the tax-exempt status could be denied. Investorswere, therefore, unable to make aninformed investment decision regardingthe tax-exempt status of the offerings[emphasis supplied]." (fn. 25)

The key to the SEC's analysis, as in any federalsecurities law case, is the notion of materiality. Toquote from the order:

"Information is material if there is asubstantial likelihood that a reasonableinvestor would consider it important to aninvestment decision. Furthermore, whenthe information pertains to a possiblefuture event, Umateriality "will dependupon a balancing of both the indicatedprobability that the event will occur andthe anticipated magnitude of the event inlight of the totality of the companyactivity."U" (citations omitted)

Investors, even institutional investors, are not ingeneral in a position to evaluate the tax analysis ina tax-exempt financing or the significance of thefacts underlying such analysis. Moreover, aninvestor's expectation is that bond counsel, after adeliberate consideration of all the relevant factsand the application of tax law to such facts, willdeliver an unqualified opinion regarding the tax-exempt status of the securities being offered.


Because the market demands an unqualifiedopinion on tax-exempt financings, disclosure of theunderlying tax analysis in a manner comparable totax-shelter or partnership financings (for whichreasoned opinions are the norm) would only createconfusion as to whether bond counsel's opinionwas unqualified. In that light, "informationregarding the tax analysis" is not in generalmaterial within the meaning of the federalsecurities laws if bond counsel has delivered anunqualified tax-exemption opinion.

The Orange County order establishes theprinciple that if there are material facts known tothe issuer which are inconsistent with those factsdisclosed to the investors and on which bondcounsel based its opinion, then the failure of theissuer to disclose such facts to investors is amaterially misleading omission. Using therationale of the Orange County order, had suchfacts been disclosed, that disclosure may havecaused an investor to conclude that the risk that thenotes were not tax-exempt was greater than isone's normal expectation upon the receipt of aclean, unqualified tax opinion. If, on the otherhand, all material facts are provided to bondcounsel and those facts support the tax analysis,then, even accepting the SEC's reading of the lawas applied in the Orange County order, it wouldnot be necessary to disclose either the factssupporting the tax analysis (assuming the facts arenot otherwise required to be disclosed to complywith Rule 10b-5) or the tax analysis itself.

John M. McNally

Hawkins, Delafield & Wood

Washington, D.C.


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ARE YOU A LOBBYIST?

You or your clients may be lobbying and notknow it. The Lobbying Disclosure Act of 1995(the "Act") became effective on January 1, 1996.It includes an expansive definition of lobbying thatgoes far beyond the traditional meaning of thatterm. This article is not intended to be anexhaustive treatment of the Act, but it should alertyou to the need to evaluate the nature of yourcontacts with federal officials. You shouldacquaint yourself with the definition of lobbyingunder the Act, and with its registration andreporting requirements. Failure to report lobbyingunder the Act can result in a fine of up to $50,000.

Triggering the Act

An organization must register if one of itsemployees is a lobbyist and it meets an expense orincome threshold. To be a lobbyist, an individualmust make at least two lobbying contacts withcovered officials on behalf of his or her employeror a particular client and spend 20% of his or hertime for the employer or client during a six monthperiod engaged in lobbying activities.Additionally, an organization whose employee-lobbyist is lobbying on behalf of the organizationitself must meet an expense threshold: theorganization is required to register if its totalexpenses in connection with lobbying activitiesduring a semiannual period exceed $20,000. Anorganization whose employee-lobbyist is lobbyingon behalf of clients, e.g., a law firm, must meet anincome threshold: the firm is required to registeron behalf of a client if its income from lobbyingactivities on behalf of the client exceeds $5,000during a semiannual period.

Timing Considerations

For purposes of the Act, semiannual reportingperiods are January 1 to June 30 and July 1 toDecember 31. Expenses and income are measuredwithin these semiannual windows. The 20%-of-time test appears to apply to a rolling six monthperiod for purposes of determining whether anindividual is a lobbyist, thereby potentiallytriggering the registration requirement. However,

according to Guidance issued by the Clerk of theHouse and the Secretary of the Senate on February12, 1996 ("February 12 Guidance"), if the 20%-of-time threshold is not satisfied during thesemiannual reporting period, no report would berequired. The February 12 Guidance alsoindicates that the semiannual window does notrestrict the period for determining when more thanone lobbying contact has been made. Lobbyingcontacts are calculated over the course of servicesprovided to a client even if the second contactoccurs in a later semiannual period.

Lobbying Contacts

Congress tried to include virtually anycommunication with a covered official within thedefinition of lobbying contact. A lobbying contactis a communication, either oral or written, onbehalf of an employer or client to a covered officialregarding the administration or execution of afederal program or policy. Lobbying contactsinclude communications to covered officialsseeking to affect legislation, rules, regulations,Executive Orders, or any other program, policy, orposition of the United States Government.

There are 19 specific exceptions from thedefinitions of lobbying contacts. The most relevantare the following:

* communications made by a public officialacting in the public official's official capac-ity. "Public official" is broadly definedand includes most elected or appointedofficials and employees of Federal, State,and local units of government other thanemployees of colleges or universities andcertain other government agencies orenterprises. A lawyer lobbying on behalfof his or her public official client does notenjoy the exemption;

* requests for meetings, for the status of anaction, or similar administrative requests,as long as no attempt is made to influencea covered official;

* testimony given before a congressionalcommittee or submitted for the record;


* information provided in writing inresponse to a request by a covered official;

* communications required by subpoena,civil investigative demand, statute orregulation;

* responses to notices in the FederalRegister, Commerce Business Daily, orsimilar publications;

* communications regarding a judicial pro-ceeding or a criminal or civil law enforce-ment inquiry, investigation, or proceeding;

* filings or proceedings that the governmentis specifically required to maintain orconduct on a confidential basis;

* communications made on the record in apublic proceeding; and

* written petitions for agency action on thepublic record.

Covered Officials

Covered legislative branch officials includeMembers of Congress and all congressionalstaffers. Covered executive branch officialsinclude all employees in the Executive Office ofthe President, statutorily-designated positions inLevels I–V of the Executive Schedule, Schedule Cemployees, and Generals and Admirals in theuniformed services. For most agencies, only alimited number of employees are covered. Theytend to be the senior officials in appointedpositions, but can also include personal assistantswho are Schedule C employees. The prudentapproach is to check with the agency itself todetermine who is covered.

Lobbying Activities

For the registration requirement to betriggered, 20% of an individual employee's time inthe service of his or her employer or client duringa six month period must be engaged in lobbyingactivities. The Act defines lobbying activities toinclude activities in support of a lobbying contact,which includes planning, preparation, research andcoordination with the lobbying activities of others.If an individual knowingly performs activities insupport of a lobbying contact, and then makesmore than one lobbying contact, all the previoustime spent on preparation counts against thatindividual's 20% threshold. On the other hand, ifsomeone other than the individual who makes thelobbying contact, whether a co-worker or someonefrom outside the organization, performs thesupport activities, the support time does not counttoward the contacting individual's 20% threshold.

Expense and Income Thresholds

When calculating the $20,000 threshold for anorganization whose employee-lobbyist is lobbyingon behalf of the organization itself, all expendituresfor lobbying activities incurred by the organizationare included. This includes any payments to otherswho are engaged in lobbying activities on behalf ofthe organization. For example, if another entityprepares a document or does research in support ofa lobbying contact made by the organization'semployee-lobbyist, the payment to the other entitycounts toward the organization's $20,000threshold. While there has been some debateabout including the value of employees' time in thecalculation of "total expenses," the prudentinterpretation is to include an estimate of themonetary value of time spent by employees inlobbying activities.

In the case of firms with employees lobbyingon behalf of clients, the question arises whether the$5,000 of income that triggers the registrationrequirement must actually be


received during the semiannual period. Accordingto the February 12 Guidance, the determinationshould be based on an estimate of income expectedto be received with respect to services performedin the semiannual period, rather than incomeactually received during the period.

Registration and Reporting

A registration form is required to be filed by anorganization within 45 days after an employee-lobbyist first makes a lobbying contact or isretained to do so. Clearly, registration may berequired even though the requirements forreporting are never met with respect to asemiannual reporting period. Each registrationmust identify the organization, its client, ifapplicable, the lobbyists, general issue areas and,to the extent practicable, specific issues likely to beaddressed by lobbying activities.

Semiannual reports are due on August 14 andFebruary 14 that identify the particular House ofCongress and the federal agencies that werecontacted by lobbyists. A good faith estimate ofthe amount spent, or income received, asapplicable, by the organization in connection withlobbying activities during the relevant semiannualreporting period must be provided. § 501(c)(3)organizations that file tax reports pursuant to §6033(b)(8) of the Internal Revenue Code may electto use these same figures when reporting under theAct. That provision allows those organizations tokeep only one set of records.

Conclusion

If you or your clients are having multiplecontacts with federal officials, you need todetermine whether they are "covered officials"under the Act. The Act is new and clarification isneeded on several points, but this article shouldhelp you decide whether registration is required.

Theodore M. HesterKing & SpaldingWashington, D.C.

IOWA SUPREME COURT BOARDOPINES ON BOND COUNSEL/UNDERWRITER COUNSELQUESTIONS

Editor's Note: The following advisory opinion ofthe Board of Professional Ethics and Conduct ofthe Iowa Supreme Court was provided onFebruary 22, 1996, to Ahlers, Cooney, Dorweiler,Haynie, Smith & Allbee, P.C., of Des Moines.

Gentlemen:

You have requested an opinion involving threequestions arising out of public financing. They areanswered seriatim:

Involved here are ECs 5-1, 14, 15, 16 and 17,and DR 5-105 of the Iowa Code of ProfessionalResponsibility for Lawyers.

Question 1: "Can a law firm represent anissuer as bond counsel in a negotiatedissuer debt financing with an underwriterif another lawyer in the firm is currentlyrepresenting the same underwriter in otherunrelated financings or legal matters? Isthe answer any different if there is nosimultaneous representation, but the firmnonetheless regularly represents the under-writer in other financing transactions?"

Answer: The interests of the issuer and theunderwriter-purchaser are differing interests. Asyou have pointed out, the issuer seeks the bestterms and most favorable interest rate possible andthe purchaser seeks the most marketable lendingarrangements for the longest possible term. Theseare nonconsentable differing interests. See,Wolfram, Modern Legal Ethics, Chapter 7.2.2,page 340 and Chapter 7.2.3 page 341.

The interests of the bond counsel and issuercoincide and this, together with the functions ofbond counsel and counsel's relationship with theissuer, result in an attorney-client relationshipbetween bond counsel and the issuer. It is theopinion of the Board that it would be improper foran Iowa law firm to represent an issuer as bond


counsel in a negotiated issuer debt financing with Answer: You have requested the Board to assumean underwriter if another lawyer in the firm is that it may ordinarily be appropriate to act as bondcurrently representing the same underwriter in counsel and to represent others in municipalother, unrelated financing or legal matters. financings upon notice to and consent of the af-

This also would be true if there were nosimultaneous representation, but the firmnonetheless regularly represents the underwriter inother financing transactions.

Question 2: "Can a law firm represent anissuer as bond counsel in an issuer debtfinancing involving the competitive sale ofbonds where the low bidder for the bonds(an underwriter) is represented in othermatters or transactions by a member of thefirm? Is the answer any different if thereis no simultaneous representation, but thefirm nonetheless regularly represents theunderwriter in other financing transac-tions?

Answer: The differing interests present inquestion one, above, do not exist in your secondquestion concerning a competitive sale of bonds.Acceptance of a bid, as you point out, creates acontract between the issuer and the bidder.Therefore it is the opinion of the Board that itwould not be improper for an Iowa law firm torepresent an issuer as bond counsel in an issuerdebt financing involving the competitive sale ofbonds where the low bidder for the bonds (anunderwriter) is represented in other matters ortransactions by a member of the firm, providingDR 2-105(D) [DR 5-105(D)] is complied with.

This also would be true if there were nosimultaneous representation, but the firmnonetheless regularly represents the underwriter inother financing transactions.

Question 3: "Assuming that it may ordi-narily be appropriate to act as bondcounsel and to represent other parties inmunicipal financings upon notice to andconsent of the affected parties, does theIowa Code of Professional Responsibilityfor Lawyers in any way preclude orotherwise limit the consent of agovernmental issuer?"

fected parties and you have provided variousauthorities on the legal issue, which this Boarddoes not have jurisdiction to determine. Assumingthe proper consents can be and are obtained fromthe municipality (governmental body) andprovided the differing interests are consentable, theBoard is not aware of anything presently in theIowa Code of Professional Responsibility forLawyers to preclude or otherwise limit the consentof a governmental issuer.

COMMITTEE ON GENERAL TAX MATTERSRECOMMENDS RE-PROPOSINGPRIVATE ACTIVITY REGULATIONSEditor's Note: The following letter, dated Decem-ber 22, 1995, was dispatched to Leslie B.Samuels, Assistant Secretary of the Treasury (TaxPolicy); Margaret Milner Richardson, IRSCommissioner; and Stuart L. Brown, ChiefCounsel of the IRS, by the Association'sCommittee on General Tax Matters, chaired byJohn J. Cross III.

Re: Recommendation to re-propose the private activity bond regulationsunder Section 141 (FI-72-88).

Dear Commissioner Richardson and Gentlemen:

We are writing on behalf of the NationalAssociation of Bond Lawyers whose membersinclude more than 3,000 attorneys who specializein the tax-exempt bond area. We respectfullyrecommend that you re-propose the private activitybond regulations issued under Section 141 and anNPRM published on December 30, 1994 (FI-72-88) (the “Proposed Regulations”) in their entirety.The Proposed Regulations propose to amend theIncome Tax Regulations to provide comprehensiveguidance on the private business use restrictions,


the private security and payment restrictions, and permitted private business threshold in tax-exemptrelated matters applicable to tax-exempt bonds bond financings from 25% to 10% and even 5% inissued by States and local governments. For some cases.reasons more fully discussed in this letter, includ-ing the significance of this regulatory project andits widespread impact on State and local govern-ments, we believe that re-proposing the ProposedRegulations with modifications and amendmentswould be the most prudent way to proceed withthis project. We also re-affirm our detailed writtencomments made in our earlier submission, datedApril 28, 1995.

The re-proposal process need not delay unduly temporary regulations which were criticizedthe issuance of final regulations. We recommend severely for undue complexity; a June 1989 noticethat you provide a brief public comment period on to address immediate identified problems; Aprilthe re-proposed regulations and announce a priori- 1991 simplifying amendments; January 1992 pro-ty goal to finalize those regulations within six posed regulations on allocation and accountingmonths of the re-proposal. rules; February 1992 proposed regulations on

We emphasize that Treasury and the IRS havemade significant, commendable, and largely under-appreciated advances in the state of guidance onvery difficult issues in the Proposed Regulations.To the credit of Treasury and the IRS, the Pro-posed Regulations squarely address many of thetough issues in this area.

Still, on balance, we believe that a number ofreasons favor affording another opportunity forpublic comment before finalizing the ProposedRegulations. First, the scope and significance ofthe issues involved in the Proposed Regulationssupport further review of and public comment onthe revised regulations. We and others previouslyhave recommended re-consideration of significantissues, including some fundamental assumptionsthat underlie the approach taken in the ProposedRegulations to define and measure private businessuse. Moreover, the number of issues addressed inthese regulations is daunting. The Proposed Regu-lations represent the first major effort to addressthis area since 1972 final regulations. The Pro-posed Regulations address a host of financingstructure developments and legislative changes,including the significant changes made by the TaxReform Act of 1986 (the “1986 Tax Act”). The1986 Tax Act placed increased pressure on clearboundaries for this area through its reduction in the

To put this into perspective, it is worth com-paring the Proposed Regulations to the 1993arbitrage regulations under Section 148. Thearbitrage regulations are relatively similar in scopeand significance. The 1986 Tax Act extended anarbitrage rebate requirement to apply generally totax-exempt bonds issued by States and local gov-ernments. The regulatory process to implementthe arbitrage provisions included May 1989

rebate spending exceptions; February 1992proposed regulations on refundings; May 1992interim final regulations to avoid a regulatorysunset; November 1992 comprehensive re-proposed regulations to carry out a commitment tosimplify the area; June 1993 final regulations; andMay 1994 technical amendments. While we donot advocate a comparable eight-year process herefor the private activity bond regulations, we dobelieve that, as was the case in the arbitrage area,a re-proposal of the private activity bond ruleswould be well-justified to achieve simpler andmore workable final rules.

Second, the widespread and varying impacts ofthe private activity bond regulations on State andlocal governments support further publiccomment. There are over 50,000 State and localgovernmental issuers. Their financing practicesrange widely. Should Treasury and the IRS beconsidering making substantial revisions to theProposed Regulations, a re-proposal should reducesignificantly the risks of controversy fromunintended consequences. Every effort should bemade to reduce the risks of unanticipated effectssuch as those illustrated by one provision of theProposed Regulations which generated a firestormof comment about its effects on a common land-based tax assessment financing practice prevalent


in many states, particularly California. It is The proposed qualified private managementdifficult to assess the impact of substantial contract rules under Section 1.141-3(c) have beenregulatory revisions without the benefit of the tested adequately in practice. In 1993, the IRSmany perspectives afforded by the public comment issued management contract safe harbors underprocess. Rev. Proc. 93-19, 1993-2 C.B. 526, which updat-

Third, the over 500 public comment letters onthe Proposed Regulations is almost unprecedentedin the tax-exempt bond area. We know of twoprevious instances which generated comparablepublic comment in this area (the original proposedarbitrage regulations in the early 1970's and theproposal to change the arbitrage treatment of short-term tax and revenue anticipation notes or“TRANs” in 1982). In the first instance, theregulations were not finalized for about sevenyears. In the second instance, the regulations wereeventually withdrawn. The volume of publiccomment here should serve as a justification fortaking all precautions possible in proceeding tofinalize the Proposed Regulations.

Fourth, and of real concern to those whounderstand the practical constraints of the taxregulatory process, the serious difficulties associat-ed with getting Treasury and the IRS to devotetheir limited resources to making needed changesonce final regulations have been issued in a spe-cialized area like tax-exempt bonds supports adeliberate approach before taking the major step ofissuing final regulations. To cite just one recentexample, the process for issuing needed technicalamendments to the 1993 arbitrage regulations tooka full year. Furthermore, it is almost inconceivablethat the Proposed Regulations could be finalizednow without further modifications.

Should you be considering a hybrid approachto re-propose some portions and to finalize otherportions of the Proposed Regulations, the bestcandidates for potential final regulations may beprovisions which have been tested successfully inpractice already, are discrete, or have generatedthe least amount of public comment. We want tocomment on two discrete candidates for potentialfinalization which we believe raise different con-siderations -- the qualified management contractrules and the change of use rules.

ed safe harbors published more than 10 yearsearlier. The proposed rules largely follow these1993 safe harbors, with refinements on someissues which arose in practice and liberalizationson the maximum term of permitted contracts.These rules probably are in the best shape forpotential finalization of any in the Proposed Regu-lations. These are the only rules in the ProposedRegulations on which there is any reasonable con-sensus among our members that final regulationssafely could be adopted. Many of our memberswould like to be able to rely on the longer-termpermitted for management contracts in theProposed Regulations. The broader set of rules inwhich the qualified management contract rules fit(including the general definition of private businessuse, the distinction between agents and managers,and the treatment of qualified management con-tracts as exclusive rather than safe harbors),however, would benefit from re-proposal. As analternative to finalizing in part the portion of theProposed Regulations relating to qualifiedmanagement contracts, you could consider amend-ing Rev. Proc. 93-19 in the interim to reflectprinciples of the qualified management contractrules in the Proposed Regulations.

The proposed change of use rules under Sec-tions 1.141-1(c) and 1.141-13 also have beentested to a lesser extent in practice. In 1993, theIRS issued change of use safe harbors in Rev.Proc. 93-17, 1993-2 C.B. 507. The proposedchange of use rules, however, break considerablenew ground and raise many technical and policyissues. Although these proposed rules advance thelaw with some constructive new principles andliberalize the existing rules in some respects, webelieve that significant further revisions are stillnecessary. Thus, we believe it would be impru-dent to finalize them at this point. You couldconsider amending the existing safe harbors toreflect the principles of the Proposed Regulations


(with further refinements based on public com- known by their acronym as "SLGS." The intent ofments received), as an interim measure to test how these suggestions is to help make the SLGSthe latest change of use rules work in practice program a more workable one for municipalwhile re-proposed regulations are pending. issuers of debt obligations subject to the arbitrage

We also note that prompt publication of re-proposed private activity bond regulations by mid-January 1996 would enable a number of interestedState and local government groups to considerthem thoroughly at scheduled winter meetings. This memorandum is the outgrowth of a meeting

In conclusion, we urge you to re-propose theProposed Regulations to best serve the purposes ofthe tax regulatory process for the benefit of Trea-sury, the IRS, and affected State and local govern-ments alike. We further urge you to continueworking to implement your announced goals ofclearer, simpler, and more administrable taxguidance as you proceed with the private activitybond regulation project. Thank you very much foryour consideration. We would be pleased todiscuss any of the recommendations made hereinat your convenience.

SUGGESTED CHANGES TO THE REGULATIONS GOVERNING UNITED STATESTREASURY CERTIFICATES OF INDEBTEDNESS, NOTES ANDBONDS - STATE AND LOCAL GOVERNMENT SERIES

Editor's Note: The following memorandum wastransmitted on January 12, 1996, to Darcy E.Bradbury, Assistant Secretary-Financial Markets,Department of the Treasury, by Arthur M. Miller,Vice President of Goldman, Sachs & Co., onbehalf of the members of the ad hoc committeeidentified at the foot of the memorandum.

The purpose of this memorandum is to suggestchanges to the existing regulations of the UnitedStates Department of the Treasury regarding thepurchase and redemption of United StatesTreasury Certificates of Indebtedness, Notes andBonds - State and Local Government Series,

and rebate rules of the Internal Revenue Code of1986 (the "Code"), while recognizing and preserv-ing the U.S. Treasury's interest in administering itsown debt program in a cost-effective manner.

held December 1, 1995 among certain of thesignatories and various representatives of the U.S.Treasury and the Bureau of Public Debt. At theconclusion of that meeting, the Treasury repre-sentatives requested comments on the SLGSregulations and how they might be improved. Thismemorandum is the response to that request.

I. General Considerations

We preface our proposals with some preliminarycomments. First, we believe that the arbitrageyield restriction rules and rebate rules have thesame general tax policy purposes, namely assuringthat tax-exempt bonds are not issued for a primarypurpose of generating investment income in excessof an issuer's bond yield. This policy is largely(although not completely) reflected in the newarbitrage and rebate regulations. Thus, in ourview, SLGS should be available for rebate compli-ance as well as yield restriction. In addition, yieldreduction payment procedures currently embodiedin the arbitrage and rebate rules should beextended to all yield restriction situations as wellas rebate (including in particular advancerefunding escrows).

Second, we believe that it will be beneficial to boththe U.S. Treasury and municipal bond issuers tomake SLGS as attractive as open market in-vestments. For most issuers, this means the issuermust receive an investment return from SLGScomparable to an open market portfolio. In thatregard, the current pricing practices of theTreasury for SLGS result in SLGS pricing beinganywhere from 13-17 or more basis points lowerin yield than comparable open market Treasuryportfolios. In addition, other constraints, both inthe purchase of SLGS and their redemption, make


SLGS a less attractive alternative to open market Treasuries most recently issued as part ofinvestments. Thus, we urge the Treas-ury to the government's financing process: theclosely examine the regulations regarding the 90-, 180-, and 360-day Treasury Bills, thepurchase and redemption of SLGS and, wherever 2-, 5-, and 10-year notes, and the 30-yearpossible, eliminate any and all rules that do not bonds) yield curve provided by the Federalserve substantial Treasury policies. Reserve Bank, and subtracting 1/8% (12.5

Third, in the long run, the best incentive to ensurefull compliance with the arbitrage and rebate rulesis to give issuers an incentive to maximize the rateof return on yield-restricted/ rebatable investments; First, the use of the "on the run" yieldmoreover, any amounts kept by issuers should be curve creates a yield curve that is lowermeaningful. We recognize that such a structure than the Treasury market as a whole: theprobably would require legislative changes. We "on the run" Treasuries, as the most re-would welcome the opportunity to work with the cently issued and therefore most liquidTreas-ury to develop such a legislative proposal. Treasury securities, tend to trade in theirIn the meantime, however, the objective of the own world at yield levels lower than themanagement of the SLGS program should be to rest of the Treasury market. For example,make it as attractive to municipal issuers as as of January 5, 1996, the "on the run" 30-possible, so as to facilitate compliance with the year Treasury (the 8/15/25 6.875% bond)arbitrage and rebate rules. traded 5 basis points lower yield than the

Fourth, we believe that improving the SLGSprogram would benefit the Treasury, in two ways.First, broadening participation in the programwould help to defray the expenses ofadministration and development of the SLGSprogram over a larger base; and second, theinvestment of tax-exempt bond proceeds in SLGSprovides the Treasury with a low cost source ofborrowing.

Finally, we recognize that any expansion/liberalization of the SLGS program will raiseTreasury cash management concerns; the keyquestion is the degree of increased concerns for agiven alternative and finding the appropriatebalance of these competing interests. Many ofthese cash management concerns may beresolvable with greater advance notice; we believethat the comments herein would mitigate most, ifnot all, of those cash management concerns.

II. Specific Suggested ChangesA. Make SLGS Pricing More Consistent with

Open Market Treasury Pricing. As weunderstand the pricing process for SLGS,the Treasury establishes SLGS rates bytaking the "on the run" Treasury (i.e., the

basis points) from the interpolated yields.This approach cre-ates two problems forthe Treasury's pricing off SLGS.

"old" long bond (the 2/15/25 7.625%bond); similar, if smaller, yield discrepan-cies can be found in the 1-, 3-, 5-, and 10-year "on the run" Treasury yields com-pared to the "old" "on the run" Treasuries.One way for the Treasury to eliminate thisdiscrepancy would be for the Treasury touse the "old" "on the run" Treasuries (i.e.,the Treasuries that last constituted the "onthe run" yield curve before the issuance ofthe existing "on the run" Treasuries) incalculating its yield curve.

Second, the subtraction of 12.5 basispoints represents a significant charge thatalmost certainly does not reflect theTreasury's true cost of running the SLGSprogram, and as a general rule is morethan normally would be charged forcomparable open market Treasuries. Forexample, 12.5 basis points on a 10-yearTreasury equates to a price differential ofabout .947%. As a measure ofcomparison, the typical "bid/ask" spreadquoted by the Federal Reserve Bank ofNew York for a 10-year Treasury in the


amount of $1 million for regular way remain unspent beyond the permittedsettlement is about 1 basis point, or a price temporary period.differential of about .094%. The 12.5basis point charge is particularly importantfor maturities of ten years or less; thesematurities are the dominant SLGS boughtfor escrow purposes. If the Treasury is tomake the SLGS program more attractiveto municipal issuers, and in particularthose issuers whose investment yieldwould be too high with open marketTreasuries and too low under the currentSLGS program, the 1/8% yield reductionshould be considerably reduced to levelsreflecting market bid/ask spreads forcomparable maturities.

B. Allow SLGS to be Purchased and Owned reinvestment thereafter, too high), but theSimultaneously with Open Markets. The price on the next shorter Treasury iscurrent SLGS regulations require that all significantly higher and would result in ayield restricted investments be either larger escrow cost.100% invested in SLGS or 100% in openmarket securities. For many municipalissuers (and in particular those issuers forwhom SLGS produce a yield too lowwhile open market Treasuries produce ayield that is in excess of the permittedarbitrage yield), this "all or none" ruleforces the municipal investment into astructure or series of structures wherebythe initial investment is entirely in openmarket securities, and then at some futuretime the open market securities are sold ormature in their entirety and the proceedsused to purchase SLGS. This dramaticshifting of investments or targeting of aspecific maturity date produces investmentstructures that are less than optimal andthe pricing of which is less transparentthan would be the case absent the "all ornone" rule. Moreover, the "all or none"rule is particularly cumbersome for yieldrestricted investments that are not investedin refunding escrows, such as debt servicereserve funds in excess of the permitted10% amount and construction funds that

Elimination of the "all or none" rule wouldreduce use of float contracts for refundingescrows, which as a rule have less pricetransparency. Moreover, elimination ofthe "all or none" rule would reduceincentives to impose artificial constraints(such as overcollateralization require-ments) within yield restricted guaranteedinvestment contracts ("GICs"), and wouldreduce incentives to abuse the marketpricing rules in "rounding" situations,where the price of a later maturity ofTreasuries is slightly too low (and theyield, together with a zero percent

C. Shorten the Notice and Maturity Limita-tions. We would suggest that the mini-mum time between the date of sub-scription and the date of delivery of SLGSbe shortened from the current 15 days to 7calendar days (or, if possible, as little as 3days). This would be con-sistent with thegeneral trends in the financial markets ofproviding shorter times between sale anddelivery of securities. In addition, theminimum maturity should be shortenedfrom the current one month to 15 days.We un-derstand that improved systemsavailable to the Bureau of the Public Debtshould make these changes possible.

The Treasury may with to considerallowing principal amounts in incrementsof less than $100 above the minimum$1,000 maturity amount.

The Treasury also should consider thedesirability of receiving nonbinding ad-vance notice of larger subscriptions forSLGS in order to facilitate its cashmanagement. In addition, it would be


worthwhile to provide that the notice 1. Transferability. If the Treasury shouldperiods can be waived if, in the sole decide to make SLGS transferable, somejudgment of the Treasury, the granting of suggested approaches would be:the waiver does not create any cash a. Allowing SLGS to be registered in themanagement problems to the government. name of Cede & Co. for book entry

Finally, we would suggest that, with ade-quate advance notice (e.g., 7 to 15 days ormore), the Treasury should allow the pur-chase of SLGS bearing no interest with nominimum maturity constraints, allowingautomatic overnight reinvestment if possi-ble. Implementation of this rule wouldeliminate the necessity for maintaining theSpecial Zero Interest SLGS program.

D. Allow SLGS to be Purchased with FundsSubject to Rebate as well as Yield Restric-tion. Given that the tax policies behind therebate rules are very much the same asthose relating to yield restriction, and thatthe market pricing issues are exactly thesame, compliance with the rebate ruleswould be facilitated by allowing thepurchase of Time Deposit SLGS withfunds that are not subject to yield restric-tion, but are subject to rebate.

In addition, we suggest that the currentprovisions in the arbitrage and rebate rulesallowing yield reduction payments be ex-panded to all yield restriction situations.

E. Facilitate the Sale or Redemption ofSLGS. Consistent with the premise that akey element in making SLGS more attrac-tive to issuers is to make them as similarto open market Treasuries as possible, theconstraints on the sale and redemption ofSLGS should be eliminated to the maxi-mum extent possible. This is particularlyimportant for funds that are yield restrictedbut are not part of advance refundingescrows. To that end, it would be desir-able to either make SLGS fullytransferable or, failing that, substantiallyreducing the redemption penalties imposedin order to more closely reflect marketpricing.

transfer via a private system.b. Explicitly allowing the sale of SLGS,

so long as the trustee bank continuesto be the owner of record on the booksof the Bureau of Public Debt.

c. Allowing the "stripping" of SLGS,either directly or by the trustee bank,in order to facilitate the defeasance ofzero coupon bonds and convertiblezero coupon bonds.

2. Redemption. If the Treasury shoulddecide not to make SLGS transferable,some suggested improvements in theregulations regarding redemption provi-sions would be:a. Allowing SLGS to be redeemed at

prices above par, to reflect their truemarket value.

b. Calculating the redemption penaltybased upon the assumption that theSLGS purchased bears the maximumSLGS rate available at the time ofsubscription rather than the actual ratepurchased. The reason for thissuggestion is that a SLGS purchasedat a rate less than the maximum rateavailable is nothing more than acombination of the maximum rateSLGS and a zero interest rate SLGSwhich then could be "rolled" every sixmonths. Rather than forcing issuersinto this mechanical process ofseparating the SLGS into its twocomponents and rolling the zero ratecomponent, the rules should recognizethe economic reality of less than maxi-mum rate SLGS and treat the SLGSpurchased accordingly.

c. Allowing "STRIPS" SLGS (zerointerest SLGS purchased at a dis-count), in order to facilitate the


defeasance of zero coupon bonds andconvertible zero coupon bonds.

In all events, the Treasury should allow allzero interest rate SLGS to be redeemed atpar, with appropriate notice. Again, thissuggestion recognizes the economic realitythat zero interest rate SLGS could be"rolled" on a periodic basis with the sameeconomic effect, and would reduce theneed for period subscriptions to handle therolls.

F. Delete the Unnecessary Issuer Certifi-cations. The provisions that govern thepurchase of SLGS contain a number ofcertifications that are not germane to theirpurchase. These include:1. The prohibition against using the

proceeds of redeemed SLGS topurchase new SLGS (this affectsmainly pre-1976 SLGS).

2. The prohibition against using theproceeds from the sale of open marketrefunding escrows to purchase SLGSunless the yield on the SLGS does notexceed the yield on the open marketsecurities, regardless of the relativematurities of the SLGS as comparedto the open markets. The daily pricingof SLGS has addressed most of thefear of the Treasury that issuers couldtake advantage of price movements toearn a higher than market return onSLGS.

3. The prohibition against investingrestricted proceeds in a SLGS with amaturity greater than the period ofyield restriction.

All of these restrictions should be deleted.


G. Other Changes. Public Securities Association

We would suggest that the DemandDeposit SLGS program be closed to Arthur M. Millerfuture municipal issuers. Given its Vice Presidentextremely limited use and usefulness, we Goldman, Sachs & Co.do not believe that it is a program worth 212-902-6491retaining in its present form.

Finally, on a more prosaic note, we also Partnersuggest that SLGS subscriptions be Palmer & Dodgeallowed on a single form, rather than the 617-573-0267separate forms for Certificates ofIndebtedness, Notes and Bonds.

Taken together, the changes suggested above Public Resources Advisorywould substantially improve the attractiveness of Groupthe SLGS program, without increasing the 212-566-7800administrative burden of its management to anysignificant degree. In turn, improving theattractiveness of the SLGS program would helpthe SLGS program meet its legislative mandate tohelp issuers comply with the arbitrage and rebaterules. Perhaps the current suspension of the SLGSprogram can provide an opportunity to make theserecommended changes without any disruption ortransition problems.

We hope that the foregoing is of assistance. TheCommittee would welcome any questions or com-ments that the Treasury may have, and would behappy to provide the Treasury with any additionalinformation it may find useful.

A l a n L . A n d e r s

Director of Financing Policy and CoordinationOffice of Management & BudgetCity of New York212-788-5875

Margaret C. HenryTax CounselOffice of Management & BudgetCity of New York212-788-5843

George BrakatselosVice President

212-440-9415

Robert W. Buck

J. David RushPresident

Amy K. DunbarDirector of Governmental AffairsNational Association of Bond Lawyers202-778-2244

Catherine L. SpainDirector, Federal Liaison CenterGovernment Finance Officers Association202-429-2750

Laura B. FitzpatrickDirector, Intergovernmental RelationsPublic Securities Association202-434-8400

David A. WaltonPartnerJones Hall Hill & White415-391-5780

Arthur HeilmanDirector, Revenue Cash Flow & Debt BureauCommonwealth of Pennsylvania717-783-3086

The above comments were prepared by thepersons listed above and do not necessarilyrepresent the position of the governments or


* Reprinted from Government Finance Re-

view, December, 1995, with permission.©Government Finance Officers Associa-tion

organizations they represent. The governments federal tax law removed incentives for banks toand organizations listed above are for identification invest in municipals. As a result, bank holdingspurposes only. have dropped substantially and individuals now

MUNICIPAL BONDPRICE TRANSPARENCY:WHAT IT MEANS FOR ISSUERS*

The municipal bond market is undergoingdramatic changes today. A wave of informationabout bond prices and the financial condition ofissuers is rolling into the traditionally calm watersof tax-exempt finance and investing. Much of thechange is generated by industry-supported regula-tions on disclosure in the secondary market. Asmarket participants scramble to get ahead of thewave, many observers foresee a strongersecondary market for tax-exempt bonds, increasedliquidity and potentially lower financing costs forissuers.

Although much of the recent attention amongmarket professionals has focused on the new SECrule 15c2-12 enhancing secondary market disclo-sure, parallel developments related to “price trans-parency,” may have an equally profound impact.“Price transparency” includes a number ofindependent initiatives, one led by the MSRB, theindustry self regulatory organization, while theother two are sponsored by the municipalsecurities dealer through the Public SecuritiesAssociation (PSA).

INDIVIDUAL INVESTOR MARKET

What makes price transparency so important?The answer is only apparent if one understands theunique nature of the municipal bond market. Itbegins with individual investors, who make up thelargest portion of muni bond holders. Until themid 1980s, commercial banks represented thelion’s share of bond purchasers, but changes in

constitute the largest group of bond investors,holding almost 70 percent of municipal debtdirectly or through bond funds and unit investmenttrusts. The Federal Reserve calculates that directholdings of tax-exempt bonds by “U.S. house-holds” (versus funds, banks, insurance companiesor other entities) account for $370.3 billion of the$1.16 trillion market.

In the past, these individual investors have hadlittle direct access to information about bondmarket values. When the time came to buy or sella muni bond, they obtained most of their informa-tion, including daily price quotes and yields, fromone or more brokers. But investors who sought tofollow the changes in prices and yields of a singlebond or a portfolio of bonds, just as they mightfollow their stock portfolios, usually couldn’t --without going to a broker. Why? Unlike ex-change-traded markets which report a single dailyprice for each security, the municipal bond marketis an over-the-counter (OTC) exchange withmarket-makers competing with each other toobtain the best price for themselves and for theircustomers. Different brokers may quote a slightlydifferent price for the same bond, depending partlyon a complex set of valuation factors to bediscussed below.

Another distinctive feature of the municipalbond market: there are no newspaper listings ofindividual prices. That’s no great surprise whenyou consider that a complete table of all 1.5 millionoutstanding municipal bonds would fill approx-imately 90 full pages in a newspaper. Unfortu-nately, the absence of muni market data instatistical listings carries over into the editorialcoverage. Despite the empirical evidence thatmany newspaper readers probably own muni-cipals, most personal finance and investmentstories tend to ignore tax-exempt investing. In arecent sampling of the 20 largest metropolitannewspapers, only seven publish muni yield tableswhile only one, The Columbus Dispatch, featuresa weekly column devoted to the muni market.


The municipal market has another unique may be particularly acute for investors who,characteristic that has made it difficult for investors although they purchased munis initially with theto obtain price information: comparatively low intent to hold to maturity, may unexpectedly findtrading volume. Most investors buy munis and they need to liquidate.hold them until maturity. As a result, estimateddaily trading volume is $3 billion, versus $10billion for equities and $10 to $15 billion forcorporate bonds. And in a market that has rela-tively few transactions, as well as a vast number ofsecurities that trade only rarely, the most definitiveindication of current value -- a current or recenttransaction -- simply may not exist.

PRICING INFORMATION SOURCES

Traditionally, the retail brokers who quoteprices and yields have helped investors resolve thisdilemma by sorting through the myriad of profes-sionally available information sources to obtain theindications of market value. Among the mostwidely utilized sources include the Blue List, adaily list of muni bond offerings with descriptionsand prices available daily in print or electronically.Other sources are outside municipal bond pricingservices, the bid and offer lists on electronicscreens operated by brokers’ brokers, variousindices of bond prices for selected maturities, andyield curves and generic scales for various seg-ments of the market.

Using these sources, each bond dealer offers abond at a price that takes into consideration theprevailing level of interest rates, the bond’s maturi-ty, size of the order, creditworthiness of the issuer,supply and demand for the bond, investor aware-ness of the issuer and whether it is a frequentissuer, and level of service being provided to thecustomer. Also included is the broker dealer’sown evaluation of market supply and demand.

REGULATORY AND INDUSTRY ACTION

This sometimes complex evaluation process bybrokers has not always been clear to individualinvestors, especially those who are familiar with anexchange-traded market. Many bond dealers areaware that some investors, who may prefer asingle price environment, are frustrated and con-fused by the municipal market. That frustration

Over the years, discussions among brokersfocused on price transparency as a potential solu-tion to these problems. It was generally agreedthat if investors were better informed, overallconfidence in the market would be enhanced.Progress was stymied, however, by the lack of acentral reporting system for transaction prices. Inthe summer of 1994, the discussions intensified inresponse to an SEC proposal that dealers disclosetheir mark-up on certain types of muni transac-tions. The idea was to stimulate comparisonshopping for the best price and thereby improveretail investors’ understanding of the value of themunicipal bonds they own or seek to buy. Dealersreadily accepted the objective; but argued thatinvestors were better off comparison shopping toseek the best price, rather than the most favorablemark-up, which might not result in the best price.

MSRB FORMS THE FOUNDATION

Convinced that price transparency was a betterway to achieve the SEC’s objective and improveinvestor confidence in the market, dealers turned toa plan emerging from the MSRB. This proposaladdressed the central problem: lack of publictransaction price reporting. In a formal pricetransparency pledge accepted by the SEC, theindustry fully incorporated the MSRB’s program.


Since its launch in January 1995, the program taxable equivalent yield at a 31 percent tax rate.has significantly increased the amount of actual Bloomberg computes the table from quotestransaction data available to the marketplace. The reported by brokers, analysts, portfolio managersfirst phase of the program captures internal trades and from new offerings. Versions of the tablethat are collected from the National Securities appear daily in USA Today and occasionally inClearing Corporation (NSCC). The daily MSRB The LA Times. In late October, The Philadelphiareports include prices of bonds that trade four or Inquirer and The Rocky Mountain News beganmore times that day. The data includes the high, running the table with yields from local issuers.low and average transaction price of the bond, as In addition, The Rocky Mountain News addedwell as the name of the issuer, the date of issuance MSRB transaction prices for Colorado bonds.and its maturity.

In its second phase, tentatively scheduled tobegin in late 1995, the MSRB will also reporttransactions between dealers and institutionalinvestors. Retail-to-dealer transactions are sched-uled to be reported in phase three; while phasefour will report transactions on a same-day basisrather than the current one day delay.

MUNI INDUSTRY PRODUCTS

Industry professionals believe the MSRB datawill trigger improvements in price analysisthroughout the industry. For example, the pricingservices on which brokers and mutual funds relywill now have more precise data on which to basetheir evaluations. As a result, portfolio valuationsand periodic investor statements are also expectedto improve.

Throughout the second half of 1994, and mostof the early months of '95, industry leaders fash-ioned their own contribution to price transparency.While the MSRB plan focused on data collection,the industry effort recognized the need to distributethe information in a handy, easy-to-access form tothose long-frustrated retail customers. Theiranswer: two pricing sources that bridged the gapbetween the professional community and theindividual investor.

The first, the PSA/Bloomberg AAA InsuredRevenue Yields table, is designed to show inves-tors how muni yields change on a daily basis. Abenchmark for the municipal market at large, thetable shows yields of insured triple A-rated reve-nue bonds in maturities of two, five, seven, 10, 15,20 and 30 years with comparisons for the Federal

The second industry initiative provides pricinginformation on specific bonds and uses the widelypopular method of an 800 telephone number. Thisservice, the Standard & Poor’s/ PSA MunicipalBond Service, provides estimates as well astransaction prices on over 700,000 bonds. Thecost is $9.95 for 25 quotes. Since its launch inMay 1995, the service has provided over 2,500bond prices -- actual transactions and estimatedprices -- to more than 900 callers. In a survey,Standard and Poor’s found that callers have specif-ic goals in mind for their municipal bond invest-ments. Current income was mentioned by 48% ofrespondents while 26% cited retirement planning;another 4% said they invest in munis for collegefunding. The remaining 7% had a variety of otherreasons. In addition, more than half hold theirbonds to maturity, while 45% sell before maturity.

Both industry initiatives -- the telephoneservice and the yield table -- bring price data,particularly the MSRB transaction information,another step closer to the individual investor.Individually and together they offer an opportunityfor investors to obtain a reasonably accurateindication of the resale value of bonds and bondportfolios. For those who may be confused whentalking with a broker or “shopping around,” theservices constitute a reference point against whichto compare brokers’ quotes for the same or similarbonds.

GOOD NEWS FOR ISSUERS

The development of price transparency is goodnews not only for investors, but for the issuers oftax-exempt municipal bonds too. Currently,


finance officers, treasurers, elected and appointed want to compare daily price changes againstofficials can know more than ever about the movements in the general market reflected in thetrading patterns of their bonds in the secondary PSA/Bloomberg AAA Insured Yield Table.market. Information indicating current market Prices generally should move in the samevalues can help issuers evaluate and anticipate direction. Also, keep track of the size of trades.potential investor interest and pricing levels for Large transactions may indicate whether yourfuture offerings. Knowing your “market” can bonds are traded by large or small broker dealerrepresent a significant competitive advantage. firms.

“We are more aware now than ever beforeabout the importance of the secondary market,”says Lynn Hampton, CFO, Metro WashingtonAirports Authority. “We think it makes sense tocommunicate with current investors in order tokeep them apprised of the status of their invest-ments. And we are also interested in findingpotential investors for upcoming offerings. Wehope price transparency will help us do both.”

Price information can be especially handy forthose issuers who actively promote their bondofferings in written materials and presentations toinvestor groups and sales professionals. A consis-tent record of transaction prices can be a sellingpoint. It indicates a degree of liquidity that may bea legitimate selling point to some investors,particularly those who do not intend to hold thebond to maturity. Those investors may be willingto pay more for bonds from an issuer that “trades”more actively in the market. Assuming the issuercan attract a large enough pool of such investors,financing costs could be reduced, sometimessignificantly. This is a classic investor relationsstrategy that corporations pursue and more publicbond issuers are following. As any corporateinvestor relations professional will attest, the morean issuer knows about the buyer’s market for anentity’s outstanding securities, the moresuccessfully new capital can be raised in thefuture.

Issuers who want to take advantage of priceinformation use the same sources that investorsaccess. For example, interdealer trading in yourmunicipality's bond is available in 3 accessiblevenues: by checking MSRB listings in The BondBuyer or on Bloomberg Business News Service orby calling 1 800 BOND INFO. You may also

Issuers may also want to check transactionprices in the days and weeks following a newoffering. In fairly quiet markets, prices shouldremain relatively stable, while sudden changes intrading activity and prices should reflect overallmarket volatility. Issuers may use this as one wayto confirm that an underwriter correctly anticipatedmarket demand and that the municipality obtainedfinancing at the lowest cost at that time.

PRICE TRANSPARENCY HAS LIMITS

Some issuers may also want to leverage theadvantages of price transparency in connectionwith their financial reporting obligations under theSEC’s new secondary market disclosure rules. Itmay be reasonable to assume that material eventsreported by an issuer, should generate a market“response,” i.e., unusual price changes, increasedtransactions, or both. Thus far, the direct causeand effect between a material event -- such as aratings downgrade-- and changes in tradingactivity or prices is nearly impossible to confirm.

In the interdealer market, where blocks of oneto ten million dollars are traded in a single transac-tion, trades don’t always occur immediately aftera dealer expresses interest. Buy or sell ordersposted by brokers’ brokers, for example, may waitfor several days, even weeks before a broker findsthe other side of the trade, especially if the bondcomes from a relatively small or unknown issuer.A “bid wanted” put out by a dealer may come andgo and never draw a single response. This mea-sured pace of trading in today’s interdealer marketmay not change dramatically when the MSRBbegins collecting data on retail transactions. Mostprofessionals expect to see more of the same,unless and until individual investors begin to lookfor value and capital gains -- perhaps stimulated by


changes in the tax code. Currently, however, price prices on a mere 1.5 million bonds could be a meregains on tax-exempt muni bonds are taxable. “point and click” away.

THE FUTURE

What’s ahead for the municipal market andissuers looking for greater advantages from pricetransparency? More transaction information fromthe MSRB will lead to improvements everywhere.Today’s collection of interdealer trades probablyreflects only one-third to two-thirds of the overallactivity. With the addition of retail transactionsand institutional (i.e., mutual funds) trades, we canexpect to see a more complete picture of marketactivity. Others have suggested improvements to In addition to connecting more investors to thethe MSRB reports, such as the addition of yield to secondary market, electronic systems could be amaturity or yield to first call. As for the yield boon to the primary market as well. For example,table, Bloomberg is already developing customized First Chicago Capital Markets, a muni bond firm,versions for newspapers that would carry informa- recently created a mini database on its Internettion on bonds from issuers within the paper’s home page with investor information about a newcoverage region. While it currently serves 150 offering it was underwriting. The database, thepapers, Bloomberg hopes the yield table will be first of its kind, featured access to a summary ofpublished in each of the top 20 major markets in the bond issue, information about the issuer, andthe future. Meanwhile, Standard & Poor’s may an e-mail box to post requests for a copy of theadd features to its 1800-BOND INFO service that official statement. In addition, a more widebetter serve its emerging audience, many of whom ranging directory of new bond offerings is avail-have shown an unexpected degree of sophistica- able through BONDS ON-LINE. Users maytion. The majority, for example, know their bond’s access information on all 50 states by clicking onCUSIP number, the nine digit-identification selected areas of a US map displayed on theirnumber assigned to each security. With this in screen.hand, the caller might prefer to enter the CUSIP onthe telephone touch-tone pad, rather than speakwith operators, who currently handle each callindividually.

Computer technology may offer an even moreexciting potential than the newspaper media or thetelephone system. PCs could make the marketmore price transparent than even the most optimis-tic forecasters thought possible. Indeed, theintroduction of computers into the home blurs thedistinction between individual investor and profes-sional. Depending on mass-market demand andthe efficiencies of data processing, huge advancesmay only be a matter of time. As millions ofAmericans launch themselves into “the Web,”armed with vast reserves of electronic memory andlightning-fast data processing capability, checking

In fact, on-line products are already appearing.Among the first is BONDS ON-LINE, a systemfrom Twenty-First Century Municipals, Inc., thatprovides access to transaction prices and priceestimates through the Microsoft’s Windows 95.The system is designed for individuals as well assmall institutional investors and it taps many of thewell-established professional sources.

PRIMARY MARKET BENEFITS

CONCLUSION

All the evidence indicates that the future ofprice transparency is very bright indeed. Priceinformation services have a multiplier effect, asdifferent presentations from various reportingservices trigger demand from a broader audienceof current and potential investors. Joe Mysak,editor of Grant’s Municipal Bond Observer,predicts that the size of the municipal market willdouble by the year 2000, in part because “priceinformation” will lead ineluctably “... to moretrading and higher volume, and to more liquidity.”That’s a bold prediction, but quite possible ifinvestors change their current habits and begin tobuy and sell municipal bonds more frequently,investing for value as well as income. Nothing


could be better for municipalities looking for the taxed by the state. The second group is states withmost efficient methods of financing desperately a state income tax that exempts all municipal bondneeded new roads, bridges, schools, sewers and interest from state taxation regardless of state ofother infrastructure projects. issue. That is, if New Mexico exempts all

Heather L. RuthPresidentPublic Securities Association

STATE TAX CODESAND MUNICIPAL BONDINTEREST RATES

Many state and local governments continue toface the need to issue municipal bonds to financethe repair of decaying infrastructure in addition toother financing needs for new projects. The costof such financing is mostly determined by eventsand institutions beyond the control of state andlocal governments. The actions of the FederalReserve and aggregate supply and demand forcredit in the U.S. economy largely determine theinterest rate at which municipal bonds have to beissued. Still, individual states may have thepotential for affecting interest costs of bond issueswithin their borders by designing their tax codes totheir advantage. The purposes of this article are toexplain how state tax codes theoretically influencemunicipal bond interest costs and to summarizethe empirical findings of studies attempting todetermine whether the theoretical impact does infact occur. These studies have shown the impactcan be significant, and is stronger under certainconditions than others. This issue is timely due torecent challenges to the right of states to exemptin-state bonds from state income taxes. Successfulchallenges will likely increase the interest costs onbonds issued in affected states.

State Tax Laws and Municipal Bonds: Income Tax, Property Tax, and Deductions

State tax codes concerning taxation of munici-pal bond interest income can be divided into fourgroups. The first group is that of states without astate income tax where, of course, interest on mu-nicipal bonds, regardless of state of issuance, is not

municipal bond interest from state taxation, then aNew Mexico resident will not have to pay tax onhis Oklahoma bonds. The third category is that ofstates which exempt all in-state municipal bondsbut tax all municipals issued out of state. Thus, anArizona resident would not pay taxes on a bondissued by a Phoenix school district but would paystate tax on a bond issued by Los Angeles. Thefourth group is comprised of states that exemptsome but not all in-state bonds and tax all out-of-state bonds. Thus an Oklahoma resident will paytax on a bond issued by the cities of Tulsa,Oklahoma, and Los Angeles, California, but willnot pay state tax on bonds issued by the Universityof Oklahoma, a state university whose bonds arestate tax-exempt.

In addition to taxing income on municipalbonds, some states apply a personal property tax tothe market value of bonds. That is, if a state has a0.40% personal property tax, a bond holder maypay $4 tax on an out-of-state bond with a marketvalue of $1,000 and no tax on an in-state bond.

Finally, states vary with respect to state orFederal deductions applicable to a given tax. Inthe first group, "one-way deductible states," theonly deduction is that from Federal tax of state andlocal taxes. This deductibility is common to allstates. In the second group, "cross-deductiblestates," Federal taxes paid are deductible fromstate income taxes. The third group is "cross-de-ductible" with "add back," which is like the secondbut requires the taxpayer to "add back" to the stateincome tax base all state and local taxes paidwhich were deducted from Federal taxableincome. The fourth group is "piggyback" stateswhere taxpayers deduct state and local taxes fromFederal taxable income and state income tax is apercentage of Federal tax liability. The fifth andlast group is a "double deductible" state, wherestate taxes are deducted from Federal taxableincome and also from the state income tax base.These groups of deductibility treatments also apply


to personal property tax and any applicable capital Second, more bids on competitive issues maygains in addition to ordinary interest income. reflect greater competition and result in lower

The particular calculation of any tax advantageto in-state bonds becomes complex in light of theabove conditions. To simplify, the most importantfeature of any effective difference in taxationbetween in-state and out-of-state bonds is theattitude toward income taxation of interest and thelevel of the state income tax. Assume anindividual lives in a state with a top marginal stateincome tax rate of 16% and the state taxes intereston all out-of-state bonds but not in-state bonds. A5% out-of-state bond selling at par will then yieldapproximately only 4.2% after tax while a 5% in-state bond will yield the full 5% after tax. If thesame state had only a 2.5% income tax, the out-of-state bond would yield approximately 4.875% after In addition to the foregoing, a group of factorstax and the in-state, again, the full 5%. Thus a that affect municipal interest costs is calledgreater state tax rate of course increases the "regional segmentation." That is, unique featureseffective after-tax yield spread in states that favor of the local market, where the state may be used toin-state bonds. Note that a 10% bond will double approximate the local market, may affect interestthe theoretical after-tax yield spread. The obvious costs. Of course, one of these is varying degreesresult of the above analysis is that preferential of favorable taxation on in-state bonds comparedtreatment of in-state bonds creates advantageous to out-of-state bonds. A second regionalafter-tax yields and should enhance relative segmentation variable is relative supply ofdemand for in-state bonds. In turn, this greater municipal issues by a region (state). That is, ademand may lead to in-state bond issuers being state wherein issuers issue a disproportionatelyable to issue bonds at lower interest costs than large amount of municipal bonds compared tostates not providing such an advantage to in-state other states of similar population may saturate thebonds. In the first example, in-state par coupons local market. Thus, in-state purchasers may findcould theoretically decline to 4.2% and in-state it difficult to purchase all the available new issuesissuers would still find them competitive with out- and out-of-state purchasers requiring yieldof-state bonds. premiums may be needed to purchase the

Summary of Study Results

The analysis immediately above is necessarilysimplified to illustrate the potential impact ofdifferential tax rates on municipal bond interestcosts. In reality, numerous factors which cannotbe held precisely comparable for both in-state andout-of-state bonds affect interest costs of municipalbonds. First, greater issue size may reduce interestcosts per dollar of issue, because, up to a point,greater size increases marketability. On the otherhand, very large issues, past perhaps $25 million,may be more difficult for a local market to absorb,thus increasing interest costs per dollar of issue.

interest costs. Third, debt of lower credit qualityobviously requires a higher interest rate tocompensate the purchaser for greater default risk.Fourth, bonds which are callable by the issuerrequire higher interest rates to compensate thebondholder for the issuer potentially exercising theoption to purchase the bonds at the call price wheninterest rates decline. Fifth, the longer the maturityof the issue, the greater the required interest rate tocompensate the bondholder for lesser liquidity andgreater price volatility. Sixth, greater volatility ofinterest rates at time of issuance frequently inducesunderwriters to raise the coupon rate to com-pensate for greater underwriting risk.

remainder. A third regional variable is the publicdeposit pledging requirements of that state. Highpledging requirements mean that banks arerequired to purchase a lot of municipal bondswhen they accept deposits of state and localgovernments. If pledging requirements are high,this will increase demand for in-state bonds bybanks and will tend to lower interest costs.

The results of statistical tests measuring theimpacts of all the above variables have shownthem to be significant in numerous studies. Withrespect to state tax codes, greater differences ineffective tax rates on in-state versus out-of-state


issues has been found to reduce net interest costsby 0.036 times the effective tax differential. Thus,if a state has a 4% effective tax differential, thenin-state issues will have a 14 basis points lower netinterest cost attributable to the tax differential.

Using this estimate, the impact of taxdifferentials on the total interest costs of theaverage municipal bond issue in each state may becomputed. Total interest costs are the sum of allcoupon payments for the bond issue. Of course,this total will be greater for larger bond issues,greater tax differentials, and longer maturities.Given Minnesota's high income tax rate, it hasbeen estimated that it has the greatest taxdifferential at 9.9%. The gross interest savings onthe 1980 average ($1.2 million) issue with a twen-ty year maturity was estimated at almost $45,000.Maryland, where the tax differential is only 3.8%but the average bond issue was $4.5 million, thegross interest savings was over $64,000. Thus, thepotential savings from a favorable state tax code isconsiderable.

The above results must be qualified in at leasttwo ways. First, differential taxation has beenfound to have little or no significant impact oninterest costs associated with bonds of shortmaturities. This is probably due to relatively largeproportions of short-term bonds being purchasedby banks where the differ-ences in personalincome taxation are not applicable. Second,differential taxation has not been found tosignificantly affect large issues (those over $15million) because these are typically sold in anational market because local demand may not beadequate to sell the whole issue in-state. If theissue is mainly purchased by out-of-state pur-chasers, the tax differential will not apply to themajority of the purchasers of the issue and thuswill not affect the rate paid by the issuer; in-statepurchasers may get a small windfall.

Duane Robert Stock, Ph.D.Director of Finance Division and Professor of FinanceUniversity of Oklahoma

COMMITTEE ONGENERAL TAX MATTERSRECOMMENDS 1996 TREASURY-IRS BUSINESS PLANPRIORITIES FOR TAX-EXEMPTS

Editor's Note: The following letter was dis-patched on February 23, 1996, by John J. CrossIII, Chair of the Association's Committee onGeneral Tax Matters. Copies were provided toother Treasury and IRS officials.

The Honorable Leslie B. SamuelsAssistant Secretary (Tax Policy)Department of the Treasury1500 Pennsylvania Avenue, N.W., Room 3120 MTWashington, D.C. 20220

The Honorable Margaret Milner RichardsonCommissioner of Internal RevenueInternal Revenue Service1111 Constitution Avenue, N.W., Room 3000, CWashington, D.C. 20224

Mr. Stuart L. BrownChief CounselInternal Revenue Service1111 Constitution Avenue, N.W., Room 3026, CCWashington, D.C. 20224

Re: Recommendations for 1996Treasury-IRS Business Plan Prioritiesin the Tax-exempt Bond Area.

Dear Commissioner Richardson and Gentlemen:

We are writing on behalf of the NationalAssociation of Bond Lawyers whose membersinclude more than 3,000 attorneys who specializein the tax-exempt bond area. In addition tocompleting the significant 1995 carryover projects(including the private activity bond rules underSection 141, the debt reissuance rules under Sec-tion 1001, and the contingent debt rules underSection 1275), we recommend that you consider


the following tax-exempt bond priorities for the 5. Guidance on solid waste disposal facilities1996 Treasury-IRS Business Plan (listed in under Section 142(a)(6). Solid waste fi-general order of priority): nancings have become increasingly impor-

1. Further guidance, including positive safeharbors, on how to establish fair marketvalue prices for open market Treasuryinvestments in current and forward trans- 6. Guidance to provide simplified tax-exemptactions under Section 148. This difficult bond accounting methods for revolvingissue merits further guidance for several fund pooled loan programs. This areareasons, including significant current pub- affects important public programs, such aslic debate and the continuing constraints EPA-sponsored clean water programs, andon the special program for Treasury raises many accounting issues becauseObligations of the State and Local Gov- these programs depend on multiple sourc-ernment Series (so-called “Slugs”) for es of federal, state, debt, and equity fund-yield restriction purposes. This guidance ing.is needed independent of any broaderconsideration on how best to improve theSlugs program or alternatives to it.

2. Finalize the technical and proposed a- as they uniquely apply to tax-exemptmendments to the arbitrage regulations bonds.under Section 148. In these technicalamendments, we specifically recommendguidance to clarify required valuationmethods on first and last allocations ofinvestments to bond issues under Section148. This issue is fundamental to thearbitrage rules.

3. Guidance on selected qualified 501(c)(3)bond questions under Section 145, includ-ing the application of the $150 millionnonhospital bond limitation under Section145(b) generally, aggregate-versus-entitytreatment of joint arrangements, and thetreatment of reserve funds for UBIT pur-poses. The nonprofit health care area is animportant market sector and is in the midstof significant change.

4. Guidance on the manufacturing definitionunder Section 144(a)(12)(C), includingconsideration of the appropriate treatmentof technology and computer software.This issue widely affects State and localgovernments involved in economic devel-opment efforts.

tant to State and local governments andexisting guidance needs updating in vari-ous respects.

7. Guidance on the application of the originalissue discount, bond premium, bond cou-pon stripping, and market discount rules

8. Guidance to amend Rev. Proc. 96-16 tostreamline further the private letter rulingprocess in the tax-exempt bond area, par-ticularly for nonreviewable rulings ondiscrete questions.

9. Guidance on the federal guarantee defini-tion under Section 149(b). This topicaffects many public infrastructure projectswith attenuated federal support. Clearobjective boundaries will be important toaddress concerns about the theoreticalbreadth of this provision.

10. Guidance on qualified low-income single-family housing mortgage bonds underSection 143. The housing area also is animportant market sector and existing rulesare outdated.

Although we recognize that certain ofsuggested priorities entail significant undertakingsand may be longer term projects, we neverthelessrecommend that you consider working actively onthese priorities this year.

Thank you very much for your consideration.The contact persons on this matter are John J.


Cross III, Chair of the General Tax Committee, territory or possession of the United States or inwho can be reached at (202) 682-1487, and David the District of Columbia and (b) a portion ofA. Walton, Chair of the Arbitrage and Rebate whose practice (i) deals with obligations issued byCommittee, who can be reached at (415) 391- or on behalf of a state, territory or possession of5780. the United States or a political subdivision thereof,

REPORT OF THE BY-LAWS REVIEW COMMITTEE

At the February 23, 1996 Board meeting, theBy-Laws Review Committee, comprised ofDirector Robert Buck, Honorary Director FredKiel and Immediate Past President DrewKintzinger, presented a preliminary review ofissues, recommendations and potential amend-ments to the Association's By-Laws. Thefollowing summary of possible By-Laws amend-ments discussed by the Board is being shared withmembers to obtain early review and comment.The Board plans to approve an exposure draft ofAmended and Restated By-Laws at its Maymeeting, circulate the draft to members, and seekformal member comment prior to its July Boardmeeting. The Board expects to approve Amendedand Restated By-Laws at its summer meeting,subject to a vote of the membership on suchchanges at the next Annual Meeting of themembership held on September 18, 1996.Comments on the summary below or By-Lawsamendments generally should be provided toAndrew Kintzinger, j Briggs and Morgan, P.A.,2400 IDS Center, 80 South Eighth Street,Minneapolis, Minnesota 55402 prior to April 24,1996. A copy of the Association's By-Laws isreprinted in the Association's Directory.

Member Classes. The By-Laws shouldprovide for two classes of members: regularmembers (with voting power) and associatemembers (non-voting). Associate members willinclude non-lawyers and retired members;individuals who were retired members at January1, 1996, will retain voting rights. Amended By-Laws will provide that each regular member berequired to certify annually that she or he meets thequalifications for membership, i.e., (a) in goodstanding duly admitted to practice law in a state or

or the District of Columbia, and (ii) includes therendering of a legal opinion or opinions inconnection with the delivery of such obligations.This annual recertification will formalize themember representation that has been included onmembership renewal forms.

Member Actions. The By-Laws currentlydefine an act of the members as the act of themajority of the members present at a meeting atwhich a quorum is present. The By-Laws shouldbe amended to permit the members to act by anaction of a majority of members present andultimately voting. This will avoid the difficultiesthat arose at the Annual Meeting held inSeptember, 1995, when "members present" wasestablished by member check-in and ballot receipt.Several members who received ballots departedthe meeting prior to voting, causing an inability toobtain a majority in the voting.

Proxies; Voting. The By-Laws currentlyrequire attendance at a meeting to vote. TheBy-Laws Review Committee has considered theadvantages and disadvantages of balloting by mailand allowing proxy procedures, and hasrecommended that the By-Laws continue torequire attendance in order to vote. The By-LawsCommittee seriously considered permitting votingby mail, but concluded that the potential benefits ofmail balloting were outweighed by the increasedtime it would take to hold elections as well as theadded expense and administrative burden.

Executive Committee. With membershipgrowth in recent years, the substantive activitiesand services of the Association have grownsignificantly. The ongoing business of theAssociation necessitates more frequent ExecutiveCommittee meetings between quarterly Boardmeetings. The By-Laws should be amended torecognize formally an Executive Committee thatmay act between Board meetings as the Boardmay specify. The Executive Committee would


consist of the officers of the Association and such send e-mail messages to the President, theother individuals as the Board appoints. Executive Director and the Director of

Nominations. The By-Laws currently requirethat the Nominating Committee have a non-director majority. The By-Laws Committee and The NABL home page has been designed tothe Board have discussed the benefits of provide general information regarding NABL, itsbroadening the composition of the Nominating officers, committees, membership, seminars andCommittee, but it does not appear that an workshops, The Quarterly Newsletter, andadjustment to the language of the By-Laws is publications available for purchase from therequired. The By-Laws Committee has recom- NABL Press by members and nonmembers.mended that the Nominating Committee reportshould be mailed to members at least 30 days(instead of 15 days) before meeting. Notice ofintention to nominate from the floor should bedelivered 14 days (instead of 7 days) before themeeting to allow adequate time to prepare forelections.

The By-Laws Review Committee has pro-posed, and the Steering Committee of the BondAttorneys' Workshop has endorsed, certain By-Law revisions to reflect the current governancestructure of the Workshop. Financial andaccounting matters pertaining to the Workshopwould be merged with other Association financialmanagement, but the substantive independence ofthe Bond Attorneys' Workshop will be maintained.

The foregoing is a preliminary summary of Washington topics. Information on the workshopspotential By-Laws changes of import to members. and seminars, including their dates and locations,Early input from interested members is encouraged will be posted on the home page and periodicallyand will be considered by the Board at its May updated.meeting.

dealing with various aspects of the practice ofAndrew R. Kintzinger bond law. Materials from recent workshops and

"NABLNET" — NABL ON THEWORLD WIDE WEB

The Association has "launched" its own homepage which may be found at http://www.nabl.org/nabl. It is contemplated that thehome page will provide information regardingNABL, a news bulletin board for items of currentinterest and an interactive forum for users todiscuss topics of common interest. Users can also

Governmental Affairs directly from the homepage.

Persons wishing to become members, either asregular members, associate members or as legalassistants, can download application forms directlyfrom the home page which may then be mailed orfaxed to the Executive Director. NABL will notaccept any payment by credit card number over theInternet.

NABL seminars and workshops dealing withmatters of interest to the bond law communityinclude the annual Bond Attorneys' Workshop, aFundamentals of Municipal Bond Law Seminarintended for those with less than three years ofexperience in bond law and legal assistants, a TaxSeminar covering issues arising under the InternalRevenue Code, and a Washington Seminarcovering areas of securities, tax and other timely

NABL provides many publications for sale

seminars are also offered as available. The homepage contains a price list of current publicationsand ordering instructions.

Matters of immediate concern to members maybe posted by the President, the Executive Directorand the Director of Governmental Affairs on aNABL News Bulletins page. This page willprovide a vehicle for the dissemination ofinformation on a timely basis. Members may alsoobtain more detailed current information on apriority basis by providing an e-mail address to theDirector of Governmental Affairs.


The NABL website contains six general The new telephone and fax numbers are:interactive newsgroups which are available for anyuser, both members and nonmembers, to postcomments on topics of interest. These "chatgroups" cover the areas of tax law, securities law,state law, job service, legal assistants and generalinformation. Access to the website is not restrictedin any way, and posted messages are obviously notconfidential and cannot be guaranteed as toaccuracy or completeness. In order to leave acomment on a newsgroup, a user is requested toprovide a "user name," however, the true identityof those posting messages is not assured. Mes-sages will be automatically deleted thirty days afterposting and may also be removed if profane,irrelevant or otherwise inappropriate.

The NABL home page may be found by itsaddress and is also listed on a number of "searchengines," such as Yahoo, which are in the publicdomain.

The NABL home page was created with theassistance and advice of Woably Company, anInternet product and service company, which maybe reached at www.woably.com/wc/.

Anyone with comments or suggestions regard-ing the NABL home page can contactDave Caprera, Kutak Rock, Denver, e-mailaddress [email protected].

David A. CapreraKutak RockDenver

NABL MOVES

In February, the Association's National Officestaff relocated from the original quarters inHinsdale (actually the Association was in its earlyyears operated from Rita Carlson's kitchen) tomore and better space in Wheaton, Illinois. Thenew address there is:

1761 S. Naperville RoadSuite 105Wheaton, IL 60187

Telephone: 708/690-1135Fax: 708/690-1685

To ease the transition, the former telephone andfax numbers still work, for the time being.

Why, you ask, did the Association have tomove? The building in Hinsdale had over timebecome a medical office building; the lease wasdue to expire in April; the landlord was evidentlydisinclined to renew; the new space, on a per-square-foot basis, is cheaper; and the new locationis better sited in terms of available supportservices.

Members may expect provision of the samehigh levels of personal service from the newlocation, even as the staff works out of cardboardboxes pending installation of new cabinetry andfixtures.

BOOK REVIEW

A Ship Without An Udder. Robert L. Steed,Longstreet Press, Inc., 143 pp., casebound w/dust-wrapper, $18.00 postpaid from Mercer UniversityPress, 6316 Peak Road, Macon, GA 31210-3960(or by telephone: 800-342-0841, extension 2880).Illustrations by Jack Davis, who also illustrates forMAD magazine.

This new volume, much slimmer than BrotherSteed, collects his "dilettante" Atlanta JournalConstitution columns from the last few years forthe enlightenment of those of us who do notsubscribe. It is personally vouched for and —indeed — urged upon us by bond lawyer and firstAssociation Treasurer Ruth T. West (the reviewermay have omitted a name or initial or two) whostudies Brother Steed's feet and flogs his, well, hisliterary endeavors, and who is a lot less grey andsubstantial than Brother Steed, but lives just downthe hall during daylight hours.

And terrific columns they are. With the keenand analytical perspective of the veteran bondlawyer, Brother Steed attends Prince and Bon Jovi


concerts (so we need not), excoriating attendees commercial use. "pgp" signifies "Pretty Goodand performers alike, and deals seriatim and Privacy." This is the program whose export thetrenchantly with issues like feminism, political Justice Department attempted to forestall.correctness, and infomercials.

Leavening his diatribes with well-placed the first time in many years, was not printed byFrench adverbs and West-Georgia-isms, Brother Merrill Corporation. Merrill had for several yearsSteed turns the ridiculous into the homely, and the provided the Association with printing at a heavilyhomely into the laughable. He fools around with subsidized rate, asking only a complimentary full-rock stars, wrestlers, mail order houses, cable page advertisement. Our new printer, Fenton,television, Judge Wapner, and other deserving handles printing for several other associations, andtargets (is Judge Wapner really Ted Mack, reincar- seems to understand our needs and standards. Innated?), to good effect. the early-to-mid-eighties, Northern Bank Note

Buy this book. You'll love it, and it will makeyou feel good about being a bond lawyer. If one ofus can do this, anything is possible. Or not.

EDITOR'S NOTES

The Bond Buyer says the SEC got it wrong:the zip code for The Bond Buyer's NRMSIR is10014, not 10004, which is the paper's zip code.Sorry about that.

Issuers' recent initiatives to constrain fees paidto bond counsel (New York City; New Jersey)will backfire. Issuers deserve vigorous,thoughtful, and careful representation. We knowhow to provide it. We can't do it with artificiallyconstrained budgets. Up with that our partnerswill not put. And they should not. If we can't doit right, we shouldn't do it. If we do, some of uswill get sued.

After we figure out that market share is not anend in itself, bond work for issuers which want topay, say, half of what that work is worth willgravitate to lawyers who don't understand the risksthey assume when they do only enough to bringbonds to the market. Disasters will happen,reform will ensue, and the cream will rise again, ifthere is any left in the bottle.

Aaron Grossman, writing in Lawyers WeeklyUSA (February 16) tells us that e-mail can beencrypted using a program available on the Webfor personal use (http://web.mit.edu/ network/pgp-form.html) or from ViaCrypt at 800-536-2664 for

This number of The Quarterly Newsletter, for

Company printed The Quarterly Newsletter, moreor less out of the goodness of its heart, and is stilla loyal advertiser. When we still had couponbonds, Northern also used to provide mounds ofshrimp and an open bar at the Bond Attorneys'Workshop; The Bond Buyer stepped in last year tofill that void, and we hope they will see fit to do soin 1996.

Another housekeeping matter: alert readerswill have noticed that this number of TheQuarterly Newsletter is dated March 1, not thetraditional February 1. Because a revisedpublication schedule seems to fit better withreportage on Board meetings, the dated dates ofThe Quarterly Newsletter will henceforth beMarch 1, June 1, September 1 and December 1.Copy is due your editor by the tenth day of thepreceding month. His e-mail address (which is notin the new Directory) is [email protected].

Letters to the editor are still welcome, via e-mail, or (preferably) snail mail. Snail mail getsopened daily; e-mail only once or twice a week,when the editor is slouching about the Internet,which he — remembering carbon paper and wet-process copy machines — still finds a bitpreposterous.

Larry Bodine, in an article at 96 LWUSA 249(March 11, 1996), warns that lawyers whorespond to a question on an electronic bulletinboard may (citing the Restatement (Second) ofTorts, Section 552) subject themselves to liabilityif they fail "to exercise reasonable care orcompetence in obtaining or communicating the


information." Mr. Bodine notes that ALAS, the Offers, but Regan,insurance company, disagrees, and he also cites a E., like Queeg an'Maryland Federal District Court case to the effect Them boyos, would gladly our market that a lawyer who answered a query at a CLE dismember.seminar had not thereby created an attorney-clientrelationship. Mr. Bodine may be contacted [email protected].

We were trying to send a multi-page fax to a the English language rhyme with "orange?" We'llWashington, D.C., organization. We entered all award a real orange — shipped flat — to anyonethe right numbers and got the beep to proceed, who can disprove our resident verse-maker onwhen all at once our fax machine started receiving this question.a highly confidential fax from that sameorganization, clearly addressed to an area codethousands of miles away! We promptly called thesender to tell it of the lash-up; transmission wasstopped. The few pages we received wereimprinted with the message that they were beingsent to a West Coast area code. We have no ideahow this electronic glitch occurred, but beware.

QUARTERLY LIMERICKS

I*Peeling the Orange causes pain(With orange nothing rhymes, so no gain);

They'll get sued, they'll get booed,They will suffer (less food):

They may wish they'd been hit by a train ...in the rain.

IIIn western precincts, denial:No lust for the costs of a trial;

With a dose of the statutory--And a dollop of hortatory--

They go that last consent decree mile.

IIIIn the East, there are fee caps galore,As if, somehow, less begets more

And better advice(A bone with your rice?):

RFPs routed, mayhap, to Lahore?

IVIn the Midwest, we ain't got no DenverAirport or none of them tender

Orin Macgruder

*Editor's Note: Is Orin right? Does nothing in


MEMBERSHIP SERVICESEducation Program

The Association conducts seminars and workshops dealing with matters of interest to thebond law community. Those still ahead in 1996 include:

Q April 10–12, 1996: Fundamentals of Municipal Bond Law Seminar, Boston: intendedfor those with less than three years of experience in bond law.

Q May 9–10, 1996: Washington Seminar: covering the areas of securities, tax, and othertimely Washington topics.

Q September 19–20, 1996: Bond Attorneys' Workshop, Chicago: for lawyers with morethan three years of bond experience: the preeminent annual gathering of bond lawyers,covering virtually all aspects of municipal bond law

These events offer members opportunities to exchange ideas about law and practice with fellowpractitioners. For more information, call Executive Director Patricia F. Appelhans at 708/690-1135.Law Reform: Committee Participation

Through its Committees on Arbitrage and Rebate, General Tax Matters, and Securities Lawand Disclosure, as well as ad hoc committees and task forces, the Association regularly testifiesand files written comments about proposed tax, securities and other federal legislation andregulations, and acts as an amicus curiae in judicial and administrative proceedings of generalinterest to the membership. (Amicus curiae guidelines are available from the Executive Director.)NABL members are invited to participate in committee activities. The Association works closelywith public interest groups and industry organizations on matters of mutual interest.Office of Governmental Affairs

In Washington, D.C., Director of Governmental Affairs Amy K. Dunbar represents theAssociation in federal regulatory and legislative matters. The Director cooperates with state andlocal government groups, congressional and regulatory staffs, the Association's substantivecommittees and individual members to help identify, inform and educate Congress and federalregulatory agencies about public finance issues. Members may contact the Director at 202/778-2244 (e-mail [email protected]) to discuss legislative and regulatory issues, request copiesof current public finance proposals before Congress or regulatory agencies, and obtain NABLcomments on proposed securities and tax regulations. For those with Internet access, shemaintains e-mail contact with members on timely issues.Other Membership Benefits

# Subscription to The Quarterly Newsletter# Information of immediate concern is mailed to the membership# Preferential admission to the Association's educational programs at substantially reduced

rates and reduced air fares# Discounts on many of the Association's publications, including Disclosure Roles of

Counsel in State and Local Government Securities Offerings, Second Edition; FederalTaxation of Municipal Bonds (through Aspen Law & Business); Blue Sky Regulationof Municipal Securities; and seminar course books

# Home page on World Wide Web at http://www.nabl.org/nabl# Free access to the Association's Job Bank through which members can receive job

listings and firms can seek members interested in employment opportunities# No charge for placement in The Quarterly Newsletter of brief notices of employment

opportunities available or sought

Documents

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