Lincoln Sav. & Loan Ass'n v. Wall - 743 F. Supp. 901 (1990)

Rule:

While all tax-sharing agreements between a parent and an insured savings and loan association must be closely scrutinized to assure the savings and loan association (S & L) is not being disadvantaged by its parent, under no circumstances can such agreements be justified other than on the basis of tax accounting principles. Unless the S & L in fact owes taxes, it is not appropriate for it to remit payments to its parent. The test is a simple one: Would the S & L on a stand-alone basis owe taxes? If it would not, no payments are legally justified.

Facts:

Plaintiff American Continental Corporation ("ACC") is an Ohio corporation with its principal place of business in Phoenix, Arizona. Plaintiff Lincoln Savings and Loan Association ("Lincoln") is a California corporation chartered as a savings and loan institution by the State of California Department of Savings and Loans. Lincoln is a wholly owned subsidiary of ACC. The deposits in Lincoln were insured by the Federal Savings and Loan Insurance Corporation ("FSLIC"). Defendant Office of Thrift Supervision is the successor agency of the Federal Home Loan Bank Board ("FHLBB" or "Bank Board"). On April 14, 1989, the Bank Board pursuant to its statutory authority appointed a conservator to take over the management of Lincoln. On August 2, 1989, the Bank Board replaced the conservator with a receiver.

Plaintiffs challenged the decisions of the Bank Board to appoint a conservator and a receiver for Lincoln. Specifically, plaintiffs sought an order requiring the Office of Thrift Supervision, successor to the Bank Board, to remove the conservator that was appointed on April 14, 1989, and the receiver that was appointed on August 2, 1989. The Bank Board possesses the authority to appoint a conservator or a receiver once it makes certain findings. The decision to appoint a conservator for Lincoln was made after the FHLBB concluded that Lincoln was "in an unsafe and unsound condition to transact business," and that there had been a "substantial dissipation of assets or earnings due to . . . violations of law, rules, or regulations, or to any unsafe or unsound . . . practices." Later, these findings coupled with the Board's conclusion that Lincoln was insolvent resulted in the appointment of a receiver. Plaintiffs here contended that they at all times managed and operated Lincoln on a sound financial basis. Plaintiffs alleged that defendant was not justified in seeking and obtaining their removal from control of Lincoln which was effectuated by the Bank Board's appointment of a conservator and ultimately a receiver for Lincoln. Plaintiffs claim that the Bank Board's actions were arbitrary and capricious and that these actions were so ill founded that they precipitated Lincoln's severe financial crisis. Plaintiffs further asserted that Lincoln would be solvent and operating today if the Bank Board had not taken the precipitous action of placing Lincoln in a conservatorship and then in receivership. It was defendant's contention that plaintiffs engaged in numerous unsafe and unsound banking practices and that as a result of these and other improper practices there had been a substantial dissipation of the thrift's assets. The Bank Board asserted that it was these practices that led to Lincoln's downfall.

Issue:

Did the Bank Board act properly in placing Lincoln first in conservatorship and then in receivership?

Answer:

Yes.

Conclusion:

According to the Board, Lincoln and its parent, ACC engaged in unsafe and unsound banking practices that put Lincoln in hot water, most pertinent of which is a tax agreement between Lincoln and ACC. Under the agreement entered into on March 14, 1986, as implemented, Lincoln was required to remit to ACC on a quarterly basis the amount of tax it would ostensibly owe to the Internal Revenue Service on the basis of its net profits, calculated pursuant to the application of "Generally Accepted Accounting Principles" ("GAAP"). What made this tax agreement advantageous to ACC was that ACC had many millions of dollars of stored-up net operating loss carry forwards. This meant that since ACC owned Lincoln and was responsible for the payment of taxes for the entire ACC consolidated group, including profits generated by Lincoln, it could keep the actual "tax" monies remitted by Lincoln without having to forward them to the Treasury of the United States. Under the tax sharing agreement, Lincoln transferred to ACC over $ 94 million in so-called tax sharing payments when in fact Lincoln on a stand-alone basis essentially owed no taxes. Plaintiffs used the concept of tax sharing as a way of dipping into Lincoln's coffers and taking money which under no circumstances were plaintiffs entitled to have. Although ACC owned 100% of the stock of Lincoln, this did not give ACC license to strip Lincoln of its funds, particularly because the funds upstreamed emanated from the savings of individual investors which were insured up to $ 100,000 per account by the Federal Government. It is not clear from the record how plaintiffs came up with this dishonest scheme. The record does show that while the tax sharing agreement was formalized in 1986, it was in fact made retroactive to 1984, the year ACC acquired Lincoln, and payments covering the years 1984, 1985 were immediately made by Lincoln to ACC, even though Lincoln essentially owed no taxes for those years. Plaintiffs make the point that the payments were based upon profits made by Lincoln pursuant to the application of GAAP; but, as every accountant knows, GAAP and tax accounting are not the same. This case clearly proves this point. It is absolutely undisputed that under the application of tax accounting principles essentially no taxes were owed by Lincoln on a stand-alone basis for the years 1984, 1985, 1986, or 1987. There is simply no legal justification for these payments. Moreover, since ACC filed for bankruptcy on April 13, 1989, it is unable to repay Lincoln any part of the $ 94 million ACC received from Lincoln. It was inconceivable how the Board of Directors of a savings and loan institution could agree to remit payments that were not due and owing. The entire Board of Directors, in addition to Keating and the others that controlled and operated Lincoln, must be held strictly accountable for this flat-out dissipation of Lincoln's assets. The directors of Lincoln completely abdicated their duties to Lincoln by making the so-called tax sharing payments to ACC. This is a clear example of the conflicts that exist where you have a holding company operating a regulated entity that involves the management of large amounts investor funds. Based upon what transpired at Lincoln it would seem that prior to acquiring a savings and loan, holding companies should be required to post a fidelity bond that would assure the honest operation of the institution. Thus, the upstreaming of $ 94 million from Lincoln to ACC on the basis of a contrived tax sharing agreement was an unsafe and unsound practice that led to a substantial dissipation of Lincoln's assets and by itself fully justified the actions taken by Bank Board first to impose a conservatorship and later to place Lincoln in receivership. This is particularly so since ACC went into bankruptcy and was not able to repay the funds it had misappropriated from Lincoln. That the so-called tax sharing agreement was a pretext for improperly stripping Lincoln of its funds was most clearly demonstrated by ACC's practice of directing Lincoln to remit such payments before any such payments were in fact due under the terms of the agreement itself.