A Quiet Windfall For U.S. Banks
With Attention on Bailout Debate, Treasury Made Change to Tax Policyhttp://www.washingtonpost.com/wp-dyn/content/article/2008/11/09/AR2008110902155.html
By Amit R. Paley
Washington Post Staff Writer
Monday, November 10, 2008; Page A01
"Did the Treasury Department have the authority to do this? I think almost every tax expert would agree that the answer is no," said George K. Yin, the former chief of staff of the Joint Committee on Taxation, the nonpartisan congressional authority on taxes. "They basically repealed a 22-year-old law that Congress passed as a backdoor way of providing aid to banks."
The change to Section 382 of the tax code -- a provision that limited a kind of tax shelter arising in corporate mergers -- came after a two-decade effort by conservative economists and Republican administration officials to eliminate or overhaul the law, which is so little-known that even influential tax experts sometimes draw a blank at its mention. Until the financial meltdown, its opponents thought it would be nearly impossible to revamp the section because this would look like a corporate giveaway, according to lobbyists.
Andrew C. DeSouza, a Treasury spokesman, said the administration had the legal authority to issue the notice as part of its power to interpret the tax code and provide legal guidance to companies. He described the Sept. 30 notice, which allows some banks to keep more money by lowering their taxes, as a way to help financial institutions during a time of economic crisis. "This is part of our overall effort to provide relief," he said.
The Treasury itself did not estimate how much the tax change would cost, DeSouza said.
A Tax Law 'Shock'
The guidance issued from the IRS caught even some of the closest followers of tax law off guard because it seemed to come out of the blue when Treasury's work seemed focused almost exclusively on the bailout.
"It was a shock to most of the tax law community. It was one of those things where it pops up on your screen and your jaw drops," said Candace A. Ridgway, a partner at Jones Day, a law firm that represents banks that could benefit from the notice. "I've been in tax law for 20 years, and I've never seen anything like this."
More than a dozen tax lawyers interviewed for this story -- including several representing banks that stand to reap billions from the change -- said the Treasury had no authority to issue the notice.
Several other tax lawyers, all of whom represent banks, said the change was legal. Like DeSouza, they said the legal authority came from Section 382 itself, which says the secretary can write regulations to "carry out the purposes of this section."
But from the beginning, some conservative economists and Republican administration officials criticized the new law as unwieldy and unnecessary meddling by the government in the business world.
"This has never been a good economic policy," said Kenneth W. Gideon, an assistant Treasury secretary for tax policy under President George H.W. Bush and now a partner at Skadden, Arps, Slate, Meagher & Flom, a law firm that represents banks.
The opposition to Section 382 is part of a broader ideological battle over how the tax code deals with a company's losses. Some conservative economists argue that not only should a firm be able to use losses to offset gains, but that in a year when a company only loses money, it should be entitled to a cash refund from the government.
During the current Bush administration, senior officials considered ways to implement some version of the policy. A Treasury paper in December 2007 -- issued under the names of Eric Solomon, the top tax policy official in the department, and his deputy, Robert Carroll -- criticized limits on the use of losses and suggested that they be relaxed. A logical extension of that argument would be an overhaul of 382, according to Carroll, who left his position as deputy assistant secretary in the Treasury's office of tax policy earlier this year.
Yet lobbyists trying to modify the obscure section found that they could get no traction in Congress or with the Treasury.
"It's really been the third rail of tax policy to touch 382," said Kevin A. Hassett, director of economic policy studies at the American Enterprise Institute.
Senior executives from the banking industry told top Treasury officials at the beginning of the year that Section 382 was bad for businesses because it was preventing mergers, according to Scott E. Talbott, senior vice president for the Financial Services Roundtable, which lobbies for some of the country's largest financial institutions. He declined to identify the executives and said the discussions were not a concerted lobbying effort. Lobbyists for the biotechnology industry also raised concerns about the provision at an April meeting with Solomon, the assistant secretary for tax policy, according to talking points prepared for the session.
DeSouza, the Treasury spokesman, said department officials in August began internal discussions about the tax change. "We received absolutely no requests from any bank or financial institution to do this," he said.
The tax world, meanwhile, was rushing to figure out the full impact of the notice and who was responsible for the change.
Jones Day released a widely circulated commentary that concluded that the change could cost taxpayers about $140 billion. Robert L. Willens, a prominent corporate tax expert in New York City, said the price is more likely to be $105 billion to $110 billion.
Congress Looks for Answers
No one in the Treasury informed the tax-writing committees of Congress about this move, which could reduce revenue by tens of billions of dollars. Legislators learned about the notice only days later.
DeSouza, the Treasury spokesman, said Congress is not normally consulted about administrative guidance.
Sen. Charles E. Grassley (R-Iowa), ranking member on the Finance Committee, was particularly outraged and had his staff push for an explanation from the Bush administration, according to congressional aides.
In an off-the-record conference call on Oct. 7, nearly a dozen Capitol Hill staffers demanded answers from Solomon for about an hour. Several of the participants left the call even more convinced that the administration had overstepped its authority, according to people familiar with the conversation.
But lawmakers worried about discussing their concerns publicly. The staff of Sen. Max Baucus (D-Mont.), chairman of the Finance Committee, had asked that the entire conference call be kept secret, according to a person with knowledge of the call.
Carol Guthrie, spokeswoman for the Democrats on the Finance Committee, said it is in frequent contact with the Treasury about the financial rescue efforts, including how it exercises authority over tax policy.
Lawmakers are considering legislation to undo the change. According to tax attorneys, no one would have legal standing to file a lawsuit challenging the Treasury notice, so only Congress or Treasury could reverse it. Such action could undo the notice going forward or make it clear that it was never legal, a move that experts say would be unlikely.
But several aides said they were still torn between their belief that the change is illegal and fear of further destabilizing the economy.
"None of us wants to be blamed for ruining these mergers and creating a new Great Depression," one said.
Some legal experts said these under-the-radar objections mirror the objections to the congressional resolution authorizing the war in Iraq.