Kmart disclosed the investigation Friday in a press release posted on its Web site. The release stated an anonymous letter had been sent to the company's board of directors, its auditors, and the SEC, purportedly by employees, that raised questions about the company's accounting practices.

The company had just filed for bankruptcy protection the previous Tuesday, defaulting on its corporate debt and leaving municipal bondholders in suspense about the extent to which their bonds will be affected.

In its press release Friday, Kmart said it referred the letter on its accounting practices to the audit committee of its board of directors, which immediately engaged outside counsel and accounting consultants to conduct an independent investigation.

The company said it also contacted the SEC, which subsequently authorized an investigation. Kmart said it is fully cooperating with the SEC.

Bondholders, already concerned about the bankruptcy filing, were alarmed to hear about the SEC action.

"If this slows down their coming out of bankruptcy or necessitates some type of court action, that will affect their stock and bond prices, including the prices of their municipal bonds," John Boudinot, a former high yield bond trader who founded One Bond Source in San Francisco, which holds some Kmart bonds.

In addition, municipal issuers and borrowers violate the securities fraud laws if they include false or materially misleading information in the their financial statements or other bond-related documents.

Roughly 95 municipal debt issues were sold by at least 76 different issuers in 17 states to finance Kmart stores, according to Thomson Financial Securities Data. The bonds -- many of them refundings -- are backed mostly by lease payments on the stores, a Kmart guaranty, and, in some cases, a first mortgage on the property. When Kmart filed for bankruptcy protection, it said it would seek court approval to terminate the leases of about 350 stores that were previously closed or re-let to other tenants. But the company did not identify those stores.

Even though the tax reform act enacted in 1986 banned the use of tax-exempt industrial revenue bonds for retail projects, transition rules allowed issuers to sell tax-exempt bonds to current refund previously-issued municipal debt, as long as the original bonds were sold prior to 1986.