Democrats seek to repeal tax breaks for banks

House Democrats’ version of the $825 billion recession rescue package would end billions of dollars in tax breaks the Bush administration quietly gave to banks last fall.

Already almost exclusive beneficiaries of a $700 billion Wall Street bailout, banks are largely left out of the House stimulus package that President-elect Barack Obama wants passed quickly through Congress. Those getting financial bailout money wouldn’t even be eligible for one of the main business tax breaks aimed at priming the economic pump.

Homebuilders, manufacturers, retailers and low-income families share the bulk of the $275 billion in proposed new tax cuts.

House leaders moved this week to repeal the tax break for banks even as the Senate voted to help many of those same institutions by releasing the second $350 billion of the widely unpopular Wall Street bailout. Many lawmakers are unhappy with the results after the Bush administration spent the first $350 billion, making them wary of helping banks in the stimulus package.

To address the financial industry meltdown, the Treasury Department last fall issued a new tax rule to make it more attractive for healthy banks to buy troubled ones hit hard by the mortgage crisis. It allowed healthy banks to avoid billions of dollars in taxes by offsetting their profits with the losses of the banks they acquire.

Before, the merged bank could write off only a limited amount of the losses. Removing much of the restrictions enabled the acquiring banks to make huge reductions in their tax liabilities.

In some cases, the tax breaks exceeded the cost of acquiring the troubled banks. Wells Fargo & Co., for example, made a bid to acquire Wachovia Corp., just days after the change in tax rules was issued Sept. 30. Wells Fargo paid $14.8 billion in a stock deal to buy Wachovia, but stands to reap about $20 billion in additional tax savings from the transaction, according to analyses by private tax experts.

Pittsburgh-based PNC Financial Services Group Inc. reduced its taxes by about $5.1 billion through its takeover of National City Corp., according to the analyses.

The Treasury Department did not release an estimate of how much the tax break would cost the government. However, a widely circulated commentary by the law firm of Jones Day estimated that banks could eventually reap tax savings of up to $140 billion by acquiring banks with large losses related to the housing market downturn.

Repealing the tax break would negate those savings in future bank mergers. It would not, however, affect mergers already under way, according to a summary of the stimulus package released by the tax-writing House Ways and Means Committee.

Bank of America Corp., already the recipient of $25 billion in bailout funds, got another $20 billion infusion from the government Friday to help it absorb Merrill Lynch’s hefty losses. Bank of America took over Merrill Lynch in a deal closed earlier this year.

However, Bank of America probably wouldn’t qualify for the tax break in any case because Merrill Lynch is not designated as a bank under the tax code, said Robert Willens, a corporate tax lawyer in New York.

"Bank of America probably has enough losses of its own to tide itself over," Willens said.

Some members of Congress felt the Treasury Department overstepped its authority in issuing the notice, which had the practical effect of enacting a new tax break.

"This is Congress reasserting its rights," said Clint Stretch, managing principal of tax policy at Deloitte Tax LLP.

Many of the other tax provisions in the stimulus package mirror proposals by the incoming Obama administration, which worked with lawmakers crafting the package.

The main tax break for individuals would provide a credit of $500 per worker and $1,000 per working couple. Tax breaks for low-income families would be expanded through the child tax credit and the Earned Income Tax Credit.

Businesses posting operating losses could get tax refunds by using current losses to offset profits made in the previous five years. Under current law, they can only offset profits from the previous two years.

Struggling homebuilders, retailers and manufacturers would be eligible for the tax break, according to private tax experts. However, companies benefiting from the Wall Street bailout, known as the Troubled Asset Relief Program, or TARP, would be ineligible, according the House committee’s summary of the package.

"They’re saying that TARP is for the financial system bailout and the stimulus is for the rest of the economy, and there is a logic to that," said Mark Zandi, chief economist at Moody’s

Zandi said the stimulus package has a good mix of spending and tax cuts to spark the economy in the short-term.

"This is a good plan in terms of its size," Zandi said. "The distribution seems very reasonable."

But Bruce Josten, executive vice president for government affairs at the U.S. Chamber of Commerce, said the stimulus package doesn’t provide sufficient tax incentives to help struggling businesses restructure their debt.

"The credit markets are still frozen," Josten said. "We’re obviously disappointed."

The laborers’ union said the stimulus package shouldn’t benefit homebuilders who contributed to the housing crisis by offering risky mortgages to buyers who couldn’t afford them.

"We should not reward behavior which contributed significantly to our current crisis," Terence O’Sullivan, president of the Laborers International Union of North America, wrote in a letter to the House Ways and Means Committee.