naked capitalism

fred55 says:

Yves

As a tax lawyer and corporations litigator I must be very careful about commenting without all the facts, however:

Apparently Paulson/Treasury issued a Temporary Regulation rewriting Section 382 to exclude banks.

Section 382 prohibits purchasing Net Operating Losses (oversimiplified, but accurate enough). The language is absolutely clear.

The “regulation” says that Section 382 does not apply in the case where the acquired corporation with NOLs is a bank.

I presume you understand this is outrageous and ultra vires; the executive branch does not have the authority to rewrite a statute.

It LITERALLY is no different than Treasury rewriting the code section specifying tax rates to say, “the following rates shall however apply to XYZ.”

Frankly, as disgusted as I am by the bailout bill, at least that had the patina of Congressional approval and normal legislative process and separation of powers.

Don’t you think it’s heinous and criminal for the executive branch to purport to be able to legislate?

Incidentally, if you check the NOLs of Wachovia you can estimate the value of the tax breaks. I presume Wells has earnings to offset that Citi does not.

Also, there are sure to be state taxing authorities whose income taxes track the federal income tax system and will be deprived of revenue as a result.

Is this truly so esoteric that no one expresses outrage?

Again, do you realize this is literally no different than Treasury by fiat simply telling favored entities that they don’t have to pay this tax or that?

Richard B says:

Fred55,

This is very distressing news. Who has standing to object and in what forum?

fred55 says:

Notice 2008-83, dated 8/30/08 I believe, provides that

For purposes of Code Sec. 382(h), any deduction properly allowed after an ownership change of a corporation that is a bank with respect to losses on loans or bad debts, including any deduction for a reasonable addition to a reserve for bad debts, shall not be treated as a built-in loss or a deduction attributable to periods before the change date. This guidance does not affect the application of any provision of the IRC except
Code Sec. 382. Banks may rely on this guidance until further guidance is issued.

I am not aware of any recent legislation that would permit this regulation.

Although I don’t do constitutional litigation, I believe a private citizen would lack standing to sue.

I merely make this point because I don’t understand why people throw around the term “socialism.”

This is fascism (kleptocratic corporatism).

If some legislation slipped through Congress that allowed this, let me know. I can’t imagine why that would have happened rather than just chaning the code.

Anonymous says:

Don’t the shareholders have to hold a vote on this? The Citi bid in total costs 14.4 Billion, not too far from the Wells Fargo deal, but most of that goes to the government. If they don’t match the Wells Fargo deal, can’t the shareholders just tell Citi to go pound sand?

Also, won’t this be a PR nightmare for Citi anyways? Why not just hope to get a settlement of sorts (I am not at all a lawyer)?

Yves Smith says:

Anon of 12:53 AM,

I am just going on the initial press reports (and who knows if they interviewed the right legal experts) that Citi was deemed unlikely to prevail. But one of my good buddies said that litigation is a crap shoot, and any attorney who tried to give odds was kidding himself and the client. That said, as we both know, they have to get past summary judgement, If you think they have a good shot, this is an entirely different matter.

I’m used to deals with clear break-up fees, so the lack of one threw me.

Perhaps more important, it may be the regulators who were of the now-looking-not-so-correct view that Citi did not have a case for keeping the first deal alive. They may have presumed that Citi dare not cross/embarrass them. It is very bad for them to have Wachovia twisting in the breeze, both for practical reasons and what it does to their image.

Yves Smith says:

As alluded to in the post, it isn’t clear if the difference in effective cost to the government is as great as it appears. Citi wants an explicit backstop. Wells instead reduces its tax bill. That is an actual, hard cost that one could probably calculate. The total cost of the Citi deal is ess certain.

But the cost of the Wells deal is hidden, so it make it more attractive to the regulators. Lower tax receipts are a cost to taxpayers too….

Anonymous says:

Ahh ok, thanks for clearing that up for me. These are some interesting times we live in.

Anonymous says:

Here is the actual exclusivity agreement…

http://dealbook.blogs.nytimes.com/2008/10/03/the-citi-wachovia-exclusivity-agreement/

fred55 says:

Technically, it’s a notice that there will be a regulation. It provides that “it may be relied on” but, while that would almost surely be grounds to avoid penalty, it cannot allow executive change to legislation.

To be precise, we have an executive branch giving notice to the world that they intend to ignore Section 382 in the case of a bank. I am afraid other than congressional impeachment of the Treasury Secretary, which even if it exists as a concept would almost surely require “high crimes and misdemeanors” (felonies), you’re really asking, “What can anyone do if the executive branch refuses to enforce the law?”

Actually, nothing. The judiciary can order them to, but I really don’t think anyone has standing to pursue that. The legislative branch can cut off funding in retailiation. That’ll happen.

There may be confusion here. A month earlier Section 382 was “rewritten” for the Fannie/Freddie takeover to preserve the status quo of their NOLs.

This is similarly ultra vires and dictatorial, but is a second, separate, action.

EvilHenryPaulson says:

fred55,
I checked the text of the bill just in case, the recording losses on preferred stock of FNMA/FRE/FHLC can be treated as against regular income, for a certain time period, and for certain financial institutions.

There is nothing about the Wells Fargo tax holiday for buying losses. It’s also too big of a loophole for Paulson to pressure anyone at the IRS to creatively interpret an existing statute — people would be setting up money losing businesses left and right to turn a profit when a profitable company buys their tax credits

Good info, thanks

fred55 says:

The notice is online. Seriously. See 2008-83. CCH has commentary. This is entirely separate from the FNMA thingie, which basically said that a “change date” is not a “change date.” ARGUABLY, thats conceviably defensible as a GSE is a strange bird and sui generis, as is the takeover. Realistically, what’s happening there is that Treasury is saying that “We don’t want to shoot ourselves in the foot, so even though we’re taking control, we don’t want the GSEs themselves to lose their NOLs”

This is NOT the case with Wells, because there its saying, “We’re rewriting a code section to exclude an entire industy”

Really.

Anonymous says:

One more thing for all of you to chew on. You are all focusing on the tax code. Did anyone notice this in the WSJ article today? It’s cryptic and unexplained but quite germane. Here is the quote.

Later on Friday, Congress, too, appeared to weigh in on the fate of Wachovia. The $700 billion federal bailout bill passed by the House of Representatives on Friday and signed into law immediately by President George W. Bush appeared to give Wachovia wiggle room in its takeover bid. A provision of that new law suggests that contracts relating to pending acquisitions in which the FDIC is involved might not “be enforceable.”

Wachovia signed an agreement with Wells Fargo in part because it knew of the language in the bill, according to a person close to Wachovia. Citigroup, on the other hand, could argue that the bill’s language could be used to invalidate a Wachovia-Wells Fargo deal. Lawyers not involved in the matter believe the language could be used to support either Citigroup’s or Wells Fargo’s position and the matter would likely need to be decided in court.

Parse that one and I will check back in the morning to see if you all figured it out.

Anonymous says:

This should probably go under The Lehman story, hope you don't mind, but these global structured derivatives are unwinding for all these crooks caught in this web IMHO:

Structured product investors hurt by Lehman
http://www.citywire.co.uk/adviser/-/features/other/content.aspx?ID=315796&Page=1

The amounts from private banks will dwarf investments by advisers and direct investors, noted structured product provider Blue Sky Asset Management. Blue Sky product development director Mark Dickson (pictured) estimated £10 billion from retail and £25 billion from private banks had been invested in the structured product sector this year.
‘There will be a lot more Lehman paper out there in the private banking sector,’ said Dickson. ‘Lehman Brothers will have been a significant issuer into that market.’
Investors put money into structured products because they wanted the performance of equities but also a guarantee they would not lose capital. The role of structured product providers was to collect client money and place it with a counterparty, in this case Lehman Brothers. The bank invested the cash in options and zero coupon bonds, which provided the returns and capital protection.

doc holiday says:

As usual, I often wonder why FTC is missing in action during this financial terrorism event/circus?

> The antitrust chief at the Federal Trade Commission is leaving after a 2-1/2 year period that saw the agency open a formal investigation into Intel and try to stop the merger of two organic grocery chains.

Jeffrey Schmidt, the director of the FTC’s Bureau of Competition, is joining law firm Linklaters in New York as an antitrust partner, the firm announced on Thursday.

David Wales has been named acting director of the bureau, said a statement by the F.T.C., which shares antitrust enforcement with the Justice Department. Mr. Wales has been serving as a deputy director.

Mr. Schmidt, in a statement issued by Linklaters, said it was “the right time for me to return to private practice.”

Also see: On Monday, the Federal Trade Commission's reaction to a Justice Department policy statement on antitrust law proved that neither federal agency has a monopoly on antitrust enforcement, even though they held extensive joint hearings on the topic with the goal of issuing a joint report.
To make matters more convoluted, the FTC itself didn't speak with a sole voice, but issued two distinct responses.

DOJ's antitrust chief, Assistant Attorney General Tom Barnett (pictured far right) issued a policy statement on federal enforcement in monopolization cases: cases where dominant companies use unfair methods to increase or exploit their market power.

Barnett's view is that consumers, companies and lawyers at the agencies "are best served if section 2 standards are sound, clear, objective, effective and administrable." However, the report notes, a century after the Sherman Act became law, those standards "have not entirely achieved these goals." The report is intended to bridge the gap.
http://www.thedeal.com/dealscape/2008/09/ftc_opposes_dojs_antitrust_vie.php

>> Totally corrupt fascist Bush coup; every department of governmnet, every agency, senate, congress, DOJ, SEC, FBI, DOL, EPA … well shit, list me one agency not corrupted!

Anonymous says:

Its kind of like a country, why buy a bank when they will just give it to you if you make them scared enough

Anonymous says:

So very, very confused.

If the FDIC did not actually seize the bank, who is asking them anything? Why are they involved? Why are they all of the sudden able to “absorb” losses? What gives them the authority to do that, especially if they did not seize the bank?

This is like going to war without actually having to declare war.

If you are “in talks” with the fdic, your institution has failed, it should be seized.

If there is any quesiton if your bank has failed, your bank has failed, and should be seized.

The only thing worse than a bank that failed is a bank that might have failed. There need to be clear lines drawn.

The whole point behind deposit insurance is to head off bank runs, you do that by moving quickly, and in a manner that is prescribed under the law.

Anonymous says:

Here is the text of the section in the Bailout Bill which the attorneys will be fighting over. It is on Pages 82-83 (out of 451 pages) of the Senate Bill (cite-Division A, SEC. 126. FDIC AUTHORITY. subsection (c):

(c) UNENFORCEABILITY OF CERTAIN AGREEMENTS.— Section 13(c) of the Federal Deposit Insurance Act (12 U.S.C. 1823(c)) is amended by adding at the end the following new paragraph:

‘‘(11) UNENFORCEABILITY OF CERTAIN AGREEMENTS.—No provision contained in any existing or future standstill, confidentiality, or other agreement that, directly or indirectly —

‘‘(A) affects, restricts, or limits the ability of any person to offer to acquire or acquire,
‘‘(B) prohibits any person from offering to acquire or acquiring, or
‘‘(C) prohibits any person from using any previously disclosed information in connection with any such offer to acquire or acquisition of, all or part of any insured depository institution, including any liabilities, assets, or interest therein, in connection with any transaction in which the Corporation exercises its authority under section 11 or 13, shall be enforceable against or impose any liability on such person, as such enforcement or liability shall be contrary to public policy.’’.

My Comment: New Section 12 U.S.C. 1823(c)(11)(A)- (C) supports Citibank's argument because the Wachovia-Wells Fargo merger agreement "affects" Citibank's ability to complete the FDIC approved transaction (I am assuming the FDIC's involvment in last weekend's (Sept 27-29) sale to Citibank was under its authority under Section 11 and/or 13). Assuming the FDIC was not involved in the October 3 Wells Fargo-Wachovia merger agreement, the merger agreement would appear to be invalid.

New Section 12 U.S.C. 1823(c)(11)(A)-(C) supports Wells Fargo's interpretation that Citibank's exclusivity agreement is void because it "interferes" with Wells Fargo's ability to acquire Wachovia.

The problem for Wells Fargo is that the statute appears to only operate upon transactions where the FDIC has exercised its authority under Section 11 and/or 13. Thus the alleged politically positive aspect of the Wells Fargo deal, no FDIC involvement or backstop, works against it legally. That is, the FDIC backstop is evidence that the FDIC was exercising its emergency authority in the Citibank transaction and therefore the Wells Fargo transaction is outside the protection of the statute.

Furthermore, the issue of shareholder approval may be moot because of the FDIC involvement no matter what the Citibank "exclusivity" agreement says because once the FDIC is involved in saving a regulated institution it is doubtful that courts are going to find that shareholders have rights to block FDIC approved transactions. That is, just because the FDIC did not technically take possession of Wachovia as with Washington Mutual, the net effect is the same. For a court to hold otherwise would mean that shareholders could block an FDIC seizure and sale and I know of no case that so holds.

Of course, judges and lawyers may differ but the new statute on balance would appear to strengthen Citibank's position more than Wells Fargo. In any event, there is a lot of litigation ahead because Citibank's case and the injuction was brought/obtained in New York State Court and more than likely Wells Fargo will try to have it transferred to Federal Court. Wells Fargo and/or Wachovia may also try to bring their own cases in Washington DC (involving the FDIC), North Carolina (Wachovia), California (Wells Fargo), maybe Delaware (other subsidiaries?). In short, it could be a mess. If, however, the FDIC were to support the Citibank deal, it would be hard for Wells Fargo to prevail because of the likelihood of Wachovia being taken over by the FDIC if a transaction is not completed within the next week following all of the uncertainty.

Contrary to what many legal commentators are saying, the threshold issue is not corporate fiduciary duty or M&A law. The most important issue is whether the FDIC was officially involved in either transaction. If the FDIC was involved, then the nature of its involvement on behalf of the public in a regulated entity (Wachovia) trumps all of the private interests. If the FDIC is not invovled, only then does the issue of the parties' conduct become important because it is a private matter.

Thus the FDIC's official position in this matter is hugely important and technically the FDIC is independent of the Treasury.

Anonymous says:

Once again, did they or did they not seize the bank?

And where did the investment management and retail brokerage operations end up? Seems like they should have all been part of the same transaction.

Did the FDIC end up with them? Can the FDIC acquire a brokerage or investment management business?

I knew they didn’t want any exposure to that, they wanted the cash…so did city.

Another line of thought- this would be a great time to be in the money laundering business…

Matt Dubuque says:

Matt Dubuque

I think Citi has a strong chance of prevailing here in the very short term. Two weeks from now, I think Wells comes out way ahead. Here is my view as to why:

As to Citi prevailing in the INITIAL phases of this process, irrespective of whether it it a TRO or a preliminary injunction, the judge has concluded with its ruling to day that it is more likely than not that Citi will prevail on the merits.

That ’s just a function of BOTH types of injunctive relief, TROs and preliminary injunctions. Neither is EVER granted without a clear statement that the moving party is LIKELY (not certain) to prevail on the merits.

In terms of prevailing in this INITIAL phase, it looks to me that Citi did an outstanding job drafting the signed agreement. It specifically states on page one that damages would be impossible to calculate and that SPECIFIC PERFORMANCE (i.e. a return to the status quo ante) is required in the event of any breach. The handwritten interlineation that has received so much attention in the blogosphere does NOT carry much weight here because it deals with a secondary (not a primary) term. I can explore this line of analysis further, if asked.

HOWEVER, what may well transpire for the SECOND phase is the following:

1. Wachovia is ordered to return to the negotiating table with Citi. That will last no more than 10 days.

2. Citi and Wachovia cannot come to a deal because Citi is unable to obtain the financing.

3. Wells then comes in at a much LOWER price.

Therefore, Wells wins. Wachovia and Citi lose.

I think the lawyers at Wells, some of the very best in the world, knew they were playing a very low-risk game here. Here is my view of their thinking:

1. Wells knew they would very likely not have to pay damages because the terms of the agreement between Wachovia and Citi specifically forbade such relief, instead choosing the injunctive route of specific performance in the event of a breach.

1a. Wells would argue Citi was collaterally estopped from making any damages claim against Wells. As evidence supporting this view, keep in mind that Citi did NOT go to court seeking DAMAGES here, but INSTEAD specific performance of the original deal.

2. If Citi DID manage to prevail in their request to a return to the status quo ante, Wells could come in later at a much lower price, because Wells knows that Citi’s ability to finance the deal diminishes every day.

Advantage Wells.

Matt Dubuque
mdubuque@yahoo.com