Although the Internal Revenue Code makes bondholders ultimately responsible for uncollected taxes if a tax-free bond is deemed taxable, the IRS rarely does so.
As stated in Section E of an
Introduction to IRS Audits of Tax-Exempt Bonds, it is the stated policy of the (IRS) TEB program to attempt to resolve violations of the Code without taxing bondholders.
This is done for a couple of reasons:
- Trying to track down each bondholder including those that only own a minute fraction that is part of a muni fund would be an enormous task.
- The bond issuers (the two special CDDs) would have to recall or reissue the bonds anyway to cover the taxable status in the coming years until the bonds maturity.
- The negative press as exemplified by Ms. Ritchie’s articles would be detrimental in an already recessed real estate economy.
If the IRS were to prevail through all of the likely appeals processes, a settlement similar to the example outlined in Section E of the above referenced document is most likely.