Bank of America settlement loophole creates at least $4 billion burden for taxpayers

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Arizona PIRG Education Fund

Taxpayers will shoulder anywhere from $4 to $5.8 billion of today’s $16.65 billion Bank of America settlement with the U.S. Justice Department. The settlement, which releases the bank from charges of alleged illegal activity related to mortgage activities, specifically refuses to stop Bank of America from writing the settlement off as a tax break — which means much of the settlement cost will ultimately be shouldered by U.S. taxpayers.

“Today, the Justice Dept. failed to protect taxpayers,” said Phineas Baxandall, Senior Analyst for the Arizona PIRG Education Fund. “Their settlement with Bank of America will allow the bank to treat most of this settlement as a tax deduction, meaning that taxpayers will be burdened with at least $4 billion of the total settlement cost.”

“Every dollar in tax benefits that the bank receives from this settlement is a dollar that taxpayers will ultimately pay for in the form of higher taxes, cuts to public programs, or a higher national debt,” said Baxandall.

 The Justice Department has sometimes specified that certain settlement costs are not tax-deductible. Recent settlements with JPMorgan regarding mortgage activities, for example, specifically disallowed portions of the settlement from being used as a tax deduction.

But today, instead of disallowing part of all of the settlement from becoming a tax deduction, the settlement takes the extraordinary step of refusing to limit tax deductibility in any way. The settlement includes an apparent concession to the bank on page 26: “Nothing in this Agreement constitutes an agreement by the United States concerning the characterization of the Settlement Amount for the purposes of the Internal Revenue laws, Title 26 of the United States Code.”

Said Baxandall, “Giving tax write offs for Wall Street’s misdeeds means less deterrent against future misbehavior. It sends the wrong message to treat the costs of the settlement as a normal business expense. The Justice Department should draw a line in the sand to say this behavior just isn’t acceptable.”

While refusing to take a stand against allowing the settlement costs for business purposes, the Justice Department does specify how BoA can treat the costs for some other government purposes. The text states that the payments, and other associated costs to comply with the agreement are not allowable costs for the purpose how the bank attributes costs on its government contracts.

The $16.65 billion settlement designates $5.02 billion as a ‘civil penalty.’ Federal law has long forbidden the deduction of government fines or penalties, though companies sometimes nonetheless deduct penalties they characterize as ‘compensatory penalties,’ a maneuver affirmed in a Circuit Court ruling this month.

Assuming Bank of America does not deduct its civil penalties; the bank can still deduct $11.63 billion of the settlement as an ordinary business expense, a deduction that would be worth $4.0705 billion to the bank. If the bank succeeds in writing off the full $16.65 billion, including the civil penalties, the tax write-off would then be worth $5.8275 billion.

Recent bipartisan bills in Congress would make settlements more transparent and restrict their tax-deductibility. The Truth in Settlements Act (S. 1898) has passed through committee and would require agencies to report the expected after-tax value of settlements if they are allowed as tax deductions. The bill would also require agencies to post online a variety of details about settlements to make their true value apparent to the public. The bill is cosponsored by Sens. Warren and Coburn in the Senate, and a counterpart bill is sponsored by Representatives Cole and Cartwright in the House.

Another bipartisan bill in the Senate (S. 1654) cosponsored by Senators Jack Reed (RI-D) and Chuck Grassley (IA-R) would restrict tax deductibility for settlements and require agencies to spell out the intended tax status of settlements.

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