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4000 - Advisory Opinions

Tax Allocation Agreement Between Bank and Bank Holding Company


September 19, 1988

Gerald J. Gervino, Senior Attorney

Recently, *** (the "Bank") was cited for a violation of Section 23A of the Federal Reserve Act, 12 U.S.C. § 371c (1982) ("Section 23A''). The matter concerns a tax allocation agreement ("Agreement'') between the bank and *** Holding Corporation, a *** ("Holding Company").

The agreement indicates, in paragraph 2, that any tax liability of the bank would be remitted to the holding company when that payment would normally be paid to the IRS. In paragraph 6, the method of payment for any tax benefits realized by the holding company because of the bank's losses is discussed. That paragraph indicates that reimbursement for the benefits realized be paid to the bank "as soon as it is practical after the filing of the consolidated return reflecting such benefits."

Bank management indicated the rationale underlying the tax allocation agreement was to put the bank in the same position as if it were dealing with the IRS on a direct basis, i.e. tax payments due or made when they would be required by the IRS, and tax refunds that are provided 60 to 90 days after the tax return would be filed on September 15, assuming a filing extension would be exercised.

While you feel that superficially, the approach appears reasonable, you think it is inequitable in that the holding company advances no funds to the bank when taxes are due, but retains for several months the cash benefits of tax losses utilized.

You feel that the provision pertaining to the payment of taxes due is reasonable. However, you feel that the provision pertaining to reimbursement for tax loss benefits is inequitable between the holding company and the bank. In your view, the holding company realizes the benefits of the tax losses either during the year when estimated tax payments are made, assuming the losses are perceived at that time, or certainly by March 15, when the final tax payment is due, even if an extension to September 15 is obtained for filing the actual return. This benefit is recognized by the smaller actual cash payment to the IRS by the parent on the above dates. In your opinion, by retaining funds that would otherwise be paid to the IRS but for the benefit obtained from the bank, the holding company has received an interest free loan for over nine months. This is the period from the time the cash benefit of the loss was realized by the holding company and reimbursement was made to the bank. In the case of the bank, the tax benefit was $1,735,000 for the tax year 1986, and $2,473,000 for the tax year 1987. You find a lost income to the bank of $94,000 based upon the average federal funds rate.

FDIC statement of policy, "Income Tax Remittance by Banks to Holding Company Affiliates", 43 F.R. 2241 (May 24, 1978), states: ". . .a bank which incurs a taxable loss shall be reimbursed in cash by the holding company to the extent that there is a tax benefit arising from these losses in the consolidated return, as determined in a manner consistent with the allocation of taxes to profitable subsidiaries." Within the meaning of this provision in the statement of policy, your position with respect to the timing of cash reimbursements for tax benefits used by the holding company appears reasonable. We agree that there is a basis for transferring the funds at the quarterly estimated tax benefit dates you have mentioned. We further agree that transfers must be made by March 15 when the final tax payment is due (regardless of extensions). While this opinion is our own, I have discussed this matter with members of the staff of the Division of Bank Supervision here in Washington.

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