UPDATE 1-Bank of New York loses bid for $900 mln tax benefit

Mon Feb 11, 2013 6:30pm EST

WASHINGTON Feb 11 (Reuters) - A U.S. court on Monday rejected Bank of New York Mellon Corp's bid to keep $900 million in tax benefits, a decision that could undercut profit at the world's largest custody bank in 2013.

BNY Mellon previously had warned that it may have to book a reserve of more than $800 million if it received an adverse ruling in the high-stakes tax case. Litigation-related reserves typically hit a company's bottom line. BNY's case was the first to go to trial since the IRS accused several U.S. banks of generating artificial foreign tax credits.

BNY Mellon claimed a benefit that stemmed from a $1.5 billion loan from Barclays Plc, funding so cheap, in fact, that at one point Barclays actually paid BNY Mellon to take Barclays' money, according to court papers.

The Internal Revenue Service , however, denied Bank of New York's use of foreign tax credits, expense deductions and trust income to lower its tax bill. The company filed a lawsuit against the agency.

But the U.S. Tax Court agreed with the IRS, ruling that the transactions lacked "economic substance," meaning they were done solely for tax purposes.

"U.S. tax laws and treaties do not recognize sham transactions or transactions that have no economic substance as valid for tax purposes," the court said in its opinion.

BNY Mellon said it would appeal the decision. "We continue to believe the tax treatment of the transaction was consistent with statutory and judicial authority existing at the time," BNY Mellon said in a statement.

The banks in question used foreign tax credits, which are given to U.S. companies to prevent them from being double-taxed by two countries for the same income. The banks call it a legal funding strategy; the government calls them sham tax shelters.

The transaction "was an elaborate series of pre-arranged steps designed as a subterfuge for generating, monetizing and transferring the value of foreign tax credits," wrote Tax Court Judge Diane Kroupa in a 55-page decision.

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California state worker Albert Jagow (L) goes over his retirement options with Calpers Retirement Program Specialist JeanAnn Kirkpatrick at the Calpers regional office in Sacramento, California October 21, 2009. Calpers, the largest U.S. public pension fund, manages retirement benefits for more than 1.6 million people, with assets comparable in value to the entire GDP of Israel. The Calpers investment portfolio had a historic drop in value, going from a peak of $250 billion in the fall of 2007 to $167 billion in March 2009, a loss of about a third during that period. It is now around $200 billion. REUTERS/Max Whittaker   (UNITED STATES) - RTXPWOZ

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