IRS Probing Advisors on Interest Rate Swaps

The Internal Revenue Service is investigating whether financial advisors to states and municipal governments made excessive fees on interest-rate swap contracts or allowed banks to make inflated commissions.

The investigation was reported by the Bond Buyer newspaper Thursday. In an interview, the IRS’ Charles Anderson said the agency was examining 20 to 30 transactions across the U.S.

The IRS wants to see whether advisors negotiated swaps with banks, making deals that deprived the federal government of money it was due, said Anderson, manager of field operations for the IRS’ tax-exempt-bond office.

Anderson said the probe was looking at advisors and the investment bankers who frequently do business with them. He declined to identify the advisors being investigated.

A growing number of U.S. municipalities are arranging swaps, in which two parties agree to exchange interest payments. More than $400 billion of such municipal contracts are outstanding. Swap advisors are hired by local officials to ensure that the terms of the contract are in line with market rates.

Swaps are a type of financial contract whose value is derived from an underlying asset such as a bond. The contracts aren’t regulated by the Securities and Exchange Commission.

“In most cases, the real corruption is excessive fees coming out of the taxpayers’ pockets,” Anderson said.