UNITED STATES OF AMERICA Before the SECURITIES AND EXCHANGE COMMISSION Securities Act of 1933 Release No. 7554 / July 13, 1998 Securities Exchange Act of 1934 Release No. 40194 / July 13, 1998 Administrative Proceedings File No. 3-9650 : In the Matter of : : Coahoma County, MS., : Greene County, MS., : ORDER INSTITUTING PUBLIC Jefferson County, MS., : CEASE-AND-DESIST PROCEEDINGS Jefferson Davis County, MS., : PURSUANT TO SECTION 8A OF THE Hancock County, MS., : SECURITIES ACT OF 1933 AND SECTION Leake County, MS., : 21C OF THE SECURITIES EXCHANGE ACT Montgomery County, MS., : OF 1934, MAKING FINDINGS, AND Panola County, MS., : IMPOSING CEASE-AND-DESIST Pearl River County, MS., : ORDER Quitman County, MS., : Simpson County, MS., : Smith County, MS., : Town of Crenshaw, MS., : Stone County, MS., : Town of Friars Point, MS., : Wayne County, MS., : Town of Coffeeville, MS., : Clarke County, MS., : Town of Bay Springs, MS., : City of Carthage, MS., : City of Clarksdale, MS., : Town of Coldwater, MS., : Town of Como, MS., : Town of Edwards, MS., : City of Mendenhall, MS., : City of Picayune, MS., : City of Itta Bena, MS., : City of Purvis, MS., : Town of Jonestown, MS., : Town of Raleigh, MS., : Town of Lambert, MS., : City of Sardis, MS., : Town of Leakesville, MS., : Town of Marks, MS., : City of Shaw, MS., : City of Magee, MS., : City of Tchula, MS., : City of Winona, MS., : : : Respondents. : I. The Commission deems it appropriate and in the public interest that public cease-and-desist proceedings pursuant to Section 8A of the Securities Act of 1933 ("Securities Act") and Section 21C of the Securities Exchange Act of 1934 ("Exchange Act") be, and they hereby are, institituted against 38 Mississippi counties, cities and towns ("the Respondents") identified in the caption to this Order. II. In anticipation of the institution of these cease-and- desist proceedings, the Respondents have each submitted Offers of Settlement which the Commission has determined to accept. Solely for the purpose of these proceedings and any other proceeding brought by or on behalf of the Commission or to which the Commission is a party, the Respondents, without admitting or denying the findings set forth herein, except as contained in Section III. B., below, and as to the jurisdiction of the Commission over the Respondents and over the subject matter of these proceedings, which are admitted, consent to the entry of this Order Instituting Public Cease- and-Desist Proceedings Pursuant to Section 8A of the Securities Act of 1933 and Section 21C of the Securities Exchange Act of 1934, Making Findings, and Imposing Cease- and-Desist Order ("Order"). III. Based on this Order and the Respondents' Offers, the Commission finds the following.[1]1 A. Summary This matter involves 38 Mississippi political subdivisions, including Counties, Cities and Towns, which issued and sold urban renewal revenue notes ("notes") to the public in 73 separate offerings. The offerings occurred from 1987 through April 1996, and raised a total of approximately $282,800,000; however, while each offering produced arbitrage profit to the respective Respondent involved and others, the Respondents did not intend to use the offering proceeds, other than the arbitrage, on public projects. In each offering, the notes were sold based upon a representation that bond counsel had concluded that interest on the notes would be excludable from gross income for federal income tax purposes. The disclosure documents used in connection with the note offerings represented that the note proceeds would be utilized within three years on various public projects. In fact, the Respondents had no intention of spending more than a small percentage of the proceeds on public projects. That percentage, generally close to one percent of the proceeds, was received by the Respondent as a "premium" or "fee" for issuing the notes. The remaining proceeds were invested in instruments yielding a higher rate of return than the notes. Those instruments provided the cash flows to pay the debt service required by the notes. This financing structure resulted in a significant and undisclosed risk to the tax exempt status of interest on the notes. B. Respondents Each of the Respondents is a political and legal subdivision of the State of Mississippi and a body corporate and politic. Each Respondent conducted one or more note offerings as individually specified in the Appendix to this order. C. The Urban Renewal Revenue Note Offerings Between 1987 and April, 1996, the Respondents individually issued, offered and sold 73 separate urban renewal revenue note issues in amounts ranging from $2 million to $5 million, totalling approximately $282,800,000. The notes were issued pursuant to the Mississippi Urban Renewal Law, Miss. Code Ann. 43-35-21. The notes were sold based upon unqualified opinions from bond counsel which concluded that interest on the notes would be exempt from federal income tax. The Respondents were approached and asked to issue the notes by bond counsel or by representatives of the underwriter. The same bond counsel and underwriter were involved in all of the offerings. Following the initial contact, bond counsel or a representative of the underwriter would meet with an individual Respondent's governing body and describe the proposed offering. The proposed offering was generally described to the Respondents' representatives as a mechanism by which the Respondent could receive a modest amount of funds, generally $30,000 to $50,000, as a "premium" or "fee" in exchange for serving as the issuer, without impairing the Respondent's tax base or creating a pay-back obligation. The Respondents considered this premium or fee a substantial benefit. After issuance, the bulk of the offering proceeds from each offering was used to purchase a certificate of deposit ("CD") or a guaranteed investment contract ("GIC") through the underwriter. The CD or GIC had a three year term and a sufficient rate of interest to pay both periodic interest and the principal on the notes at the end of a three year period. The remaining proceeds were used to pay the premium or fee paid to the issuer, the fees and expenses of bond counsel, the underwriter, the trustee, and other miscellaneous costs of issuance, including the fees and expenses of various third party professionals. The CDs and GICs provided a higher yield than the notes sold in the offerings. Internal Revenue Code ("IRC") Section 103(b) provides that gross income includes interest on any state or local bond which is an "arbitrage bond" as that term is defined by IRC Section 148. IRC Section 148 (a) defines an arbitrage bond as "any bond issued as part of an issue any portion of the proceeds of which are reasonably expected (at the time of issuance of the bond) to be used directly or indirectly (1) to acquire higher yielding investments..." IRC Section 148(c)(1) allows the proceeds of certain issues to be invested in higher yielding investments for a reasonable temporary period until such proceeds are needed for the purpose for which the bonds were issued. This provision is known as the "temporary period exception." It provides that the bonds will not be treated as taxable arbitrage bonds if the net sale proceeds and investment proceeds of an issue are reasonably expected to be allocated to expenditures for capital projects within specified time periods. Treas. Reg. Sec. 1.148-2(b)(1) and 2(e)(2)(i)(1993); Treas. Reg. Sec. 1.103-13(a)(2) (1979). When statements regarding reasonable expectations with respect to the amount and use of the proceeds are not made in good faith, the notes are deemed to be taxable arbitrage bonds. Revenue Ruling 85-182, 1985-2 C.B. 39. Although all the note offerings issued by the Respondents were purportedly structured to comply with the requirements of the temporary period exception, at the time of the offerings, none of the Respondents had the resources, intent or expectation to utilize any proceeds from the offerings, other than the premium or fee, for capital projects. Subsequent to the offerings, none of the Respondents has utilized any of the offering proceeds, other than the premium or fee, for any capital project. The lack of a reasonable expectation to utilize more than a small portion of the proceeds for capital projects would violate the reasonable expectation requirements of IRC Section 148(c)(1) and Treas. Reg. 1.148-2(e)(2). Therefore, a substantial risk exists that the issuers would not be able to rely on the temporary period exception, making the structure of these transactions a prohibited arbitrage device that violates IRC Sections 103(b) and 148(a)(1). The violation of these sections could cause the IRS to declare interest on the notes subject to the federal income tax. The substantial risk to the tax exempt status of interest on the notes was not disclosed to investors or prospective investors in any of the offerings. The respective official statements and arbitrage certificates for each offering, among other documents, without exception, represented that the issuers intended to spend the full amount of the offering proceeds within three years on various capital projects, such as roads, parks, a courthouse, and other projects. Each official statement also represented that the issuer/respondent was negotiating with a specified firm for "architectural services." These statements were not true. Although the investors were under no duty to independently evaluate the degree of risk to the tax exemption, the false representations dealing with the municipalities' intentions to spend the proceeds and their current negotiations for services in that regard, would have made it difficult for investors, even those with access to tax advice, to ascertain the risk to the tax exemption. Bond counsel provided the respective issuers with all of the necessary documents, including, but not limited to resolutions, official statements, and arbitrage certificates. These documents were signed by the chief executives of the respective issuers. Those chief executives signed the various documents, when they knew or were reckless in not knowing that the documents contained misrepresentations regarding the municipalities' intention to utilize the note proceeds for capital projects. Certain of the respective chief executives and other officials failed to read the documents before signing or authorizing them, relying on bond counsel to ensure that the factual representations being made by the Respondent were accurate. D. Legal Discussion Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder make it unlawful for any person, in the offer or sale or in connection with the purchase or sale of any security, by use of the means and instrumentalities of interstate commerce, the means and instruments of transportation and communication in interstate commerce or the mails: (a) to employ devices, schemes or artifices to defraud, (b) to make untrue statements of material facts or omit to state material facts necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading; (c) to engage in acts, practices or a course of business which operate as a fraud and deceit; and (d) to obtain money and property by means of untrue statements of material facts and omissions to state material facts necessary to make the statements made, in light of the circumstances under which they were made, not misleading. The notes issued by the Respondents are securities under Section 2(1) of the Securities Act and Section 3(a)(10) of the Exchange Act. Information is material if there is a substantial likelihood that a reasonable investor would consider it important to an investment decision. See Basic, Inc. v. Levinson, 485 U.S. 224, 231-32 (1988); TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438, 449 (1976). The official statements used as offering documents in connection with the sale of the notes represented that an unqualified opinion from bond counsel had concluded that interest on the notes would be exempt from gross income for federal income tax purposes, assuming continuing compliance with certain convenants made by the issuer. Although such an opinion was obtained, the offering documents failed to disclose a substantial risk to the tax exempt status of interest payments on the notes. The Respondents made it difficult for investors independently to analyze the tax exemption in that the Respondents misrepresented that they intended to use the proceeds from the note offerings on capital projects within a three year period, and that they were negotiating for architectural services in that regard. These misrepresentations and omissions were material. See In re County of Orange, California; Orange County Flood Control Dist.; and County of Orange, California Bd. of Supervisors, Exchange Act Release No. 36760, 61 S.E.C. Docket 0395 (January 24, 1996). The Respondents acted with scienter in making the above misrepresentations and omissions of material fact. For purposes of the Respondents' liability, the scienter of various officials of the Respondents may be imputed to the Respondents. See SEC v. Manor Nursing Centers, Inc., 458 F. 2d 1082, 1089 n.3 (2d Cir. 1972). Each of the note offerings was approved by the governing board of the respective Respondent. In each case, the official statements and other documents used in connection with the offering, including arbitrage certificates, were executed by the chief executive of the respective Respondent. Those officials were either aware of the misrepresentations contained in the documents, or, in many instances, failed to read the documents closely enough to ascertain whether misrepresentations were being made as to the essential purposes of the offering, for example, the intended use of proceeds. Issuers may not blindly rely on professionals such as bond counsel, to ensure that factual representations being made by the issuers are accurate. In this case, the practice of executing offering documents containing factual representations, without first reading the documents to ascertain whether they were accurate as to the essential purposes of the offering, was at least reckless and therefore sufficient to establish scienter. Based on the foregoing, during the period from November 1987 through at least April 1996, the Respondents violated Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder. IV. ACCORDINGLY, IT IS HEREBY ORDERED, pursuant to Section 8A of the Securities Act and Section 21C of the Exchange Act that the Respondents cease and desist from committing or causing any violation and any future violation of Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder. By the Commission. Jonathan G. Katz Secretary **FOOTNOTES** [1]:1 The findings herein are made pursuant to the Offers of Settlement of the Respondents and are not binding on any other person or entity named as a respondent in this or any other proceeding. APPENDIX List of Respondents' Urban Renewal Revenue Note Issues Date Issuer Amount 1. 11/24/87 Jefferson County $3.0 million 2. 12/10/87 Panola County $4.8 million 3. 3/8/88 Greene County $3.4 million 4. 6/13/88 Hancock County $4.8 million 5. 7/14/88 Simpson County $3.0 million 6. 10/6/88 Coahoma County $5.0 million 7. 10/20/88 Wayne County $5.0 million 8. 11/3/88 Pearl River County $4.9 million 9. 12/22/88 Smith County $4.9 million 10. 3/13/89 City of Picayune $4.1 million 11. 4/6/89 Jefferson Davis County $4.8 million 12. 4/13/89 City of Clarksdale $3.2 million 13. 6/15/89 Leake County $4.6 million 14. 4/18/90 Stone County $4.0 million 15. 7/31/90 Quitman County $4.4 million 16. 8/2/90 Clarke County $4.8 million 17. 12/27/90 City of Magee $2.0 million 18. 2/13/91 Jefferson County $3.0 million 19. 2/27/91 City of Carthage $2.0 million 20. 2/27/91 Leake County $4.6 million 21. 3/7/91 Panola County $4.75million 22. 3/28/91 Greene County $4.2 million 23. 5/16/91 City of Mendenhall $3.5 million 24. 7/2/91 Coahoma County $4.8 million 25. 11/18/91 Town of Bay Springs $4.0 million 26. 12/18/91 Town of Marks $5.0 million 27. 1/23/92 Town of Raleigh - A $2.0 million 28. 4/1/92 Town of Raleigh - B $2.0 million 29. 8/3/92 Town of Crenshaw $4.5 million 30. 8/27/92 City of Carthage $2.0 million 31. 8/27/92 Leake County $4.6 million 32. 9/7/92 Panola County $4.75million 33. 9/28/92 Greene County $4.2 million 34. 10/12/92 Stone County $4.0 million 35. 11/16/92 City of Mendenhall $3.5 million 36. 12/15/92 Town of Leakesville $3.5 million 37. 12/27/92 City of Magee $2.0 million 38. 12/30/92 Jefferson Davis County $5.0 million 39. 2/1/93 Quitman County $4.4 million 40. 2/14/93 Jefferson County $3.0 million 41. 3/1/93 Coahoma County $4.8 million 42. 6/18/93 Town of Marks $5.0 million 43. 9/23/93 Town of Raleigh - A $2.0 million 44. 10/1/93 Town of Raleigh - B $2.0 million 45. 12/7/93 City of Magee $4.0 million 46. 12/8/93 Panola County $4.0 million 47. 12/8/93 Stone County $2.0 million 48. 2/1/94 Leake County $4.0 million 49. 2/15/94 Jefferson County $3.6 million 50. 3/1/94 City of Carthage $3.0 million 51. 3/1/94 Quitman County $4.0 million 52. 4/1/94 Greene County $4.5 million 53. 6/25/94 City of Mendenhall $4.0 million 54. 8/10/94 City of Winona $3.0 million 55. 8/24/94 Montgomery County $4.0 million 56. 9/1/94 Town of Marks $4.0 million 57. 11/1/94 City of Purvis $4.0 million 58. 12/5/94 Town of Raleigh $4.4 million 59. 12/29/94 Town of Leakesville $3.6 million 60. 12/29/94 Town of Crenshaw $3.4 million 61. 3/7/95 Town of Como $3.6 million 62. 3/7/95 Town of Coldwater $3.9 million 63. 4/24/95 Town of Lambert $4.0 million 64. 5/11/95 City of Sardis $4.3 million 65. 6/27/95 Town of Friars Point $4.2 million 66. 7/6/95 Town of Coffeeville $3.9 million 67. 7/20/95 Town of Tchula $3.9 million 68. 9/21/95 Town of Edwards $4.0 million 69. 9/28/95 Town of Jonestown $3.9 million 70. 11/30/95 City of Itta Bena $4.9 million 71. 12/28/95 City of Shaw $4.9 million 72. 2/15/96 Town of Leakesville $4.0 million 73. 4/15/96 Stone County $4.0 million