The Internal Revenue Service disagrees with four major banks over structured transactions done a decade ago with Barclays Plc, which the IRS lacks "Economic Substance."

In the first STARS case to go to trial, the U.S. Tax Court ruled that the transactions lacked "economic substance," meaning they were done solely for tax purposes. A judge called them "a subterfuge for generating, monetizing and transferring the value of foreign tax credits."

The U.S. Tax Court held Feb. 11 in a case of first impression that a structured trust advantaged repackaged securities (STARS) transaction lacked economic substance and the taxpayers were not entitled to claim foreign tax credits (Bank of New York Mellon Corp. v. Commissioner, T.C., No. 26683-09, 140 T.C. No. 2, 2/11/13).

Judge Diane L. Kroupa determined that, while the STARS transaction was structured to meet the relevant tax code requirements and the regulations for claiming the disputed foreign tax credits, the STARS transaction was in essence “an elaborate series of pre-arranged steps designed as a subterfuge for generating, monetizing and transferring the value of foreign tax credits among the STARS participants.”

An affiliated group composed of Bank of New York Mellon Corp. and its subsidiaries entered into a structured trust advantaged repackaged securities (STARS) transaction with Barclays Bank in London.

As part of the STARS transaction, Bank of New York transferred income-producing assets to a trust with a U.K. trustee, and the trust was subject to U.K. tax on its income. The STARS transaction generated $199 million in foreign tax credits. Bank of New York had claimed foreign tax credits and expense deductions on its 2001 and 2002 federal consolidated tax returns. It also reported income from assets transferred to the trust as foreign source income.  

Three other banks - BB&T Corp, Santander Holdings and Wells Fargo - are challenging the IRS in separate STARS disputes.

Source:

Reuters