Harvard sketched the outlines of a payment deal with Watertown yesterday in an attempt to quell fears that the University's tax-exempt status would cost the town millions in vital revenue if Harvard purchases Arsenal on the Charles, a Watertown business complex.

The University agreed to waive tax-exemption on the property until 2003, and offered to offset lost revenue--at least in part--if it put the site to tax-exempt use.

The offer came in a letter from Paul S. Grogan, Harvard's vice president for government, community and public affairs, to Watertown Town Manager Michael K. Driscoll. The letter responded to a town meeting last week during which Watertown residents voiced concerns about the financial impact of the deal.

Driscoll says Watertown depends on revenues from the Arsenal site for $3.5 of its $15 million annual budget, and will be unable to proceed with many capital projects--such as school and library renovations and road repairs--if the site becomes tax-exempt.

"This is a big hit for a small community," said John S. Airasian, chair of the civic group that developed the Arsenal from a 200-year-old military base into a corporate campus for high-tech and consulting firms.

Watertown spent 12 years rebuilding the Arsenal to broaden its tax base, according to Airasian.

"Watertown has a lot of its hopes and dreams hung on the revenues from this site," Airasian said.

Grogan acknowledged that the revenues were vital to the town.