A federal tax court judge Monday ruled that the Bank of New York Mellon had improperly claimed foreign tax credits through a complex deal arranged by Barclays. In the wake of the ruling, BNY Mellon said it will take a charge of $850 million but also said it would appeal.
The closely watched case was the subject of a joint investigation of tax deals in 2011 by ProPublica and the Financial Times.
The opinion was a triumph for the Internal Revenue Service which had challenged six U.S. banks over some two billion dollars of such deals, called Stars, short for Structured Trust Advantage Repackaged Securities. Barclays arranged deals for all of the banks but is not a party to any of the cases.
The cross-border deals took advantage of different countries’ tax rates and rules, effectively allowing American financial firms to minimize their total tax payments.
"The STARS transaction was a complicated scheme centered around arbitraging domestic and foreign tax law inconsistencies" and involving "pre-arranged circular cashflows" that had no economic benefit other than lowering taxes, the court stated. "We conclude that Congress did not intend to provide foreign tax credits for transactions such as Stars."
A leading international tax expert, Reuven Avi-Yonah, who heads the international tax program at the University of Michigan Law School, called the decision the "right result" in an email. "It is clearly good that this latest attempt at tax arbitrage failed," Professor Avi-Jonah added.
But he sounded a note of caution about what might happen on appeal. He cited two cases, decided in 2001, where federal appellate judges overturned opinions that had favored the IRS in cases involving foreign tax credits and arbitraged transactions.
The Stars deals being challenged by the IRS took place between 1999 and 2006. One of the cases has settled, one was being appealed administratively within the IRS, and the others remain in litigation in various federal courts.