How Bank of America Benefits From a $16 Billion Settlement

Bank of America protester
A woman is arrested after occupying a Bank of America branch during a "Make Wall Street Banks Pay" protest march in Los Angeles, California October 6, 2011. Lucy Nicholson/Reuters

Bank of America's projected $16 billion settlement for selling toxic mortgages is expected to be the largest in the history of corporate America, but it's also likely to include some hidden, and significant, financial benefits for the giant bank.

With some $7 billion of the total likely to come in the form of relief measures for homeowners, such as loan forgiveness, reduction of principal and rebates, the bank will likely be allowed under federal income tax rules to deduct that $7 billion as a business expense. Such a deduction translates into money in the bank's pocket, and reduces significantly the bottom-line impact of the total fine, especially because the bank has already written down losses on a lot of soured mortgages, according to its filings with the Securities and Exchange Commission.

"There's no question they will get this deduction and that it will help" them, Robert Willens, a tax and accounting expert in New York, told Newsweek on Friday.

J.P. Morgan Chase got the same sweet deal when it reached a similar settlement with the Justice Department last November over its own sales of shoddy mortgages. The Wall Street bank told investors on the day of the deal that it could deduct $7 billion of the total $13 billion fine it agreed to pay, effectively halving the financial impact of the settlement.

The remaining $9 billion or so that Bank of America is expected to pay in cash to the federal government will likely not be tax-deductible, due to laws governing the payment of fines to the federal government for violations of laws. The bank, America's second largest by assets, was in final negotiations on Friday with federal authorities to fine-tune the language of the settlement, with a deal expected to be announced as soon as late Friday afternoon.

The details of that settlement will provide further clues to potential tax-related benefits. Still, there is another possible way that the bank could find relief from the pain of that $9 billion in cash: its extensive offshore workings. Bank of America has some 264 subsidiaries in offshore tax havens, including the Cayman Islands, the Netherlands and Singapore, according to a joint report last June by the Citizens for Tax Justice, a progressive think tank in Washington, D.C., and U.S. PIRG Education Fund, a left-leaning public interest research group, also in Washington. The subsidiaries help hoard some $17 billion, according to the report, which is based on SEC filings, adding that the money is kept offshore because bringing it back to the United States, or repatriating it, would trigger a federal income tax bill to the bank of $4.3 billion.

If Bank of America's final settlement includes (or overlooks) provisions that would allow the company to pay that non-deductible $9 billion from an offshore subsidiary, it could then potentially deduct that payment from the foreign profits of that subsidiary, in turn reducing its foreign tax bill and boosting its bottom line. "If B of A has to make a potentially non-deductible fine payment to the U.S. government, it will prefer to have the obligation formally the responsibility of an affiliate in a foreign country," James Hines, an expert on corporate taxation and a professor of law and economics at the University of Michigan's law school, in Ann Arbor, told Newsweek.

Losses from soured mortgages have already produced a silver lining for the bank, in the form of lower taxable income that has generated future tax deductions. Bank of America has some $30 billion in those future tax deductions, known as deferred tax assets. While that $30 billion can't be converted directly into cash, it has allowed the bank to boost its dividends to investors without triggering for the bank ordinary tax bills on those dividends. The bank said Wednesday that it would raise its ordinary dividend to five cents a share from 1 cent, an increase of 400 percent.