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May 22 (Bloomberg) -- The Florida city of South Miami misled investors by failing to disclose that it had used tax-exempt bond proceeds to help a developer finance a downtown parking and retail project, according to U.S. regulators.

The community in Miami-Dade County with about 11,000 residents borrowed $12 million at tax-exempt rates by selling debt through the Florida Municipal Loan Council, which raises money on behalf of cities, the Securities and Exchange Commission said today in a statement. The city failed to disclose that it loaned the proceeds to a private developer, putting the bonds’ tax-exempt status at risk, the SEC said.

“South Miami’s fraudulent conduct put bondholders in danger of incurring significant additional costs associated with their investments,” Elaine Greenberg, head of the agency’s municipal securities enforcement unit, said in the statement.

The SEC has stepped up enforcement of disclosure rules for state and local governments that borrow in the $3.7 trillion municipal-bond market. Most of the securities issued by state and local governments are held by individual investors seeking safe, tax-exempt returns. The agency has also sought greater power over issuers, whose reporting requirements are more lax than those for corporations that sell debt and equity.

Misleading Disclosures

Earlier this month, the SEC settled with Harrisburg, Pennsylvania’s capital, over allegations it made misleading statements about bond deals that pushed it into state receivership. The agency previously settled with Victorville, California, and the state of Illinois for what it said were breaches of securities laws.

“It’s pretty clear that there’s a renewed emphasis about compliance and the fact that our industry is clearly not as regulated as corporates,” William Oliver, a former AllianceBernstein Holding LP muni analyst now with the National Federation of Municipal Analysts.

“The only way they can get people to pay attention to them is enforcement action,” he said. “That’s how the SEC gets the point across to the industry.”

While South Miami didn’t pay a fine, it agreed to hire an independent consultant to conduct annual reviews of its disclosure practices for three years to settle the charges. The city neither admitted nor denied wrongdoing, the agency said.

Donald Wall, a lawyer for South Miami at Squire Sanders LLP, didn’t immediately respond to a telephone call seeking comment on the settlement.

Tax-Status Risked

In 2002, South Miami borrowed through the Florida organization, initially using $2.5 million to finance a public parking garage and retail development. Less than a month later, the city loaned the money to the developer who had leased the store space. In 2005, the city revised its lease agreement, giving the developer control of the garage as well and jeopardizing the tax-exempt status of the debt, the SEC said.

The city failed to disclose the loan or the revised lease terms, the SEC said in its settlement order. In August 2011, South Miami paid about $260,000 to the Internal Revenue Service to settle questions about the debt’s tax status and agreed to retire related bonds using a bank loan at an added cost of about $1.16 million, the agency said. The agreement let investors avoid paying taxes on income from the securities at issue.

“The tax-exempt status of municipal bonds is vitally important to bond investors,” Greenberg said in the statement. “We will closely scrutinize any conduct by issuers or others that threatens that tax exemption.”

To contact the reporters on this story: Joshua Gallu in Washington at; William Selway in Washington at

To contact the editors responsible for this story: Maura Reynolds at; Stephen Merelman at

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