IRS, U.S. Banks at Odds Over $1 Billion in Tax Credits from Barclays Deals
By Vanessa Houlder, Megan Murphy and Jeff Gerth
Pro Publica
This story was co-published with The Financial Times.
U.S. District Judge Patrick J. Schiltz of Minnesota is an educated man. He earned his law degree from Harvard, won a coveted clerkship for Supreme Court Justice Antonin Scalia and taught the law for more than a decade before joining the bench in 2006.
But when Wells Fargo, the retail banking giant, and the U.S. Justice Department squared off in his courtroom last year over the legality of a fiendishly complicated tax scheme known as “STARS,’’ even Schiltz quickly realized he was not equipped to parse the facts.
“I fear I may finally have met my match,” the judge told the court. “We may need a translator in this case, someone who can help us to understand these complex transactions and understand the complex tax laws to put this into English for us.”
He is not alone. The growth of an arcane, intellectually demanding area of high finance that generated hundreds of millions of dollars for banks and multinational companies is being dissected from Minnesota to Washington, D.C., as the U.S. government pursues what it calls tax avoidance fueled by the use of artificial foreign-tax credits.
STARS – short for “structured trust advantaged repackaged securities” – were deals between U.S. banks and Barclays, one of the U.K.’s premier banks in London, that have come under particular scrutiny in bankruptcy, tax, district and claims courts.
At issue in the cases is whether the transactions had a legitimate business purpose or were designed specifically to generate improper U.S. tax credits.
Barclays emerged as a key player in creating strategies that worked asymmetries in tax systems. In the STARS deals in question, Barclays realized at least $800 million in tax savings from the U.K. government — benefits it shared with other parties in the deals, according to an analysis of U.S. court and Internal Revenue Service documents by the Financial Times and ProPublica.
Six U.S. banks — BB&T, Bank of New York Mellon, Sovereign (now a unit of Banco Santander), Washington Mutual, Wells Fargo and Wachovia (now a Wells Fargo subsidiary) — have been battling the government over tax credits they claimed through STARS. In one instance, government lawyers said STARS permitted BB&T to claim $1 in foreign tax credits for every 50 cents in tax, “grossly exploiting the tax laws.’’
BB&T, based in North Carolina, responded in court that it participated “to maximize profits’’ and not “to avoid or evade’’ taxes.
The U.S. banks all contend their deals had economic substance because Barclays provided them with billions in financing at below-market costs. But each arrangement involved a complex set of transactions, including creation of a trust and multiple subsidiaries, which also provided significant tax breaks.
The U.S. government, in recent court filings, contends that STARS was a highly complex tax-shelter transaction used by the U.S. banks to generate foreign tax credits. In court filings, government lawyers allege that the BB&T and Wells Fargo deals were a “sham.’’ In Wells Fargo’s case, they assert that STARS was designed so the U.S. bank’s “entire economic profit would be totally and exclusively sourced from U.S. foreign tax credits.’’
Wells Fargo says in court papers that its deal with Barclays was a lawful way to obtain reduced-cost financing for its ordinary business.
The U.S. banks involved in pending cases declined to comment. Washington Mutual has settled, agreeing in bankruptcy court last year to forgo $160 million in claimed tax credits. The other U.S. banks are seeking repayment for disallowed tax credits totaling more than $1 billion.
Barclays is not a party to the cases and declined to discuss client matters or comment on its U.K. tax savings. ``Barclays complies with taxation laws in the U.K. and all the countries where we do business,'' the bank said in a statement Sunday.
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