Restructurings of tax-exempt bonds payable by an entity experiencing financial difficulties typically feature the yin of an obligor seeking debt relief that will permit it to operate without the stigma of potential insolvency and the yang of creditors who may wish to accommodate but do not want to leave money on the table. This frequently leads to an agreement between the obligor and the bondholders to reduce or defer principal and/or reset the interest rate. It also may lead to some variant on an “A/B” structure involving a reduced amount of debt that is unconditionally payable (the “A piece”) and a balance that is deferred and often payable on a flexible schedule dictated by available cash flow (the “B piece”).
However, maintaining tax-exemption of the bonds often presents obstacles to restructurings, including A/B restructurings. If principal is deferred beyond a safe harbor period and/or the interest rate is altered, the restructured bonds may be considered “reissued” for tax purposes. A tax reissuance generally is not overly problematic for financially healthy bonds, as in most cases it merely requires the filing of an IRS tax report (Form 8038) by the issuer, some due diligence by bond counsel, and the issuance of a new tax opinion confirming that the reissued bonds are tax-exempt. In the case of a financially troubled obligor, however, a reissuance has raised vexing questions as to whether the restructured bonds continue to qualify as debt.
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