Premium Debt Swaps, Tax-Timing Arbitrage, and Debt Service Parity
Journal of Applied Finance, Vol. 11, 2001
Posted: 19 Nov 2001
A premium debt swap involves exchanging a new issue of high-coupon bonds for similar outstanding high-coupon debt. The swap achieves a tax-timing arbitrage. By reissuing premium bonds, the borrower preserves debt service parity and realizes a net-present-value benefit equal to the difference between the immediate tax deduction of the bond-retirement premium and the present-value tax cost of amortizing the identical original issue premium on the new bonds. The net advantage of refunding is the same as for a cash repurchase but without the undesirable accounting impact.
JEL Classification: G32
Suggested Citation: Suggested Citation