WASHINGTON A federal judge slammed Congress this week for withdrawing tax breaks in the early 1990s that regulators had used to woo companies into purchasing failing thrifts during the savings and loan crisis.
U.S. Federal Claims Court Judge Eric G. Bruggink ruled in related cases brought by Centex Corp. and First Nationwide Bank that the federal government is liable for damages which could reach hundreds of millions of dollars.
His strongly worded opinion concluded that Congress clearly had passed the original tax breaks in hopes of encouraging Centex and other companies in the late 1980s to purchase damaged thrifts to save itself money, and that it had acted in bad faith when it later revoked the breaks.
Tax benefits were essential to the success of this plan, he wrote. It is remarkable, therefore, that the ink was barely dry on the agreements before Congress announced its surprise that Centex and others were profiting from the tax aspects of the deal. Congress reaction to the 1988 deals calls to mind Captain Renaults announcement in Casablanca that he is Shocked, shocked! to discover illegal gambling at Ricks that, in the past, he has tolerated.
At least eight companies have sued the government in separate cases as a result of the 1993 law that canceled the tax breaks. The companies all had struck agreements with federal regulators to purchase dying institutions and were allowed to deduct the thrifts losses from their taxes, though the now-defunct Federal Savings and Loan Insurance Corp. reimbursed them.
Regulators had repeatedly played up the advantages of tax incentives in trying to lure buyers. The companies argued that when Congress passed legislation a few years later that targeted only these tax breaks for elimination, lawmakers had breached their agreement with the buyers.
The judge agreed, and said such moves could harm the governments reputation.
In enacting targeted, retroactive legislation that deprived plaintiffs of the very benefits for which they had contracted, the United States breached the contracts implied covenant of good faith and fair dealing, Judge Bruggink wrote. In a government contract, the implied covenant of good faith and fair dealing requires that the government not use its unique position as sovereign to target the legitimate expectations of its contracting partners.
The judge issued two separate rulings on July 6 for Centex and First Nationwide Bank (which is now owned by California Federal Bank of San Francisco), though the decisions were not released until Wednesday. Those companies must file the amount they are seeking in restitution by Aug. 3. The other tax-break cases are still pending. Though the loss of the tax break did not appear to cause any of the thrifts bought under the plan to fail, sources close to the litigation say it could end up costing the government hundreds of millions of dollars.
The cases parallel the so-called regulatory-goodwill litigation, in which more than 100 institutions sued the government over agreements made to buy dying savings and loans. In those cases, the government said healthy thrifts that bought failing ones could write off negative net worth for up to 40 years. But in 1989, a provision of the thrift bailout law discontinued this goodwill, forcing the buyers to quickly recognize the losses.
The Supreme Court ruled in 1996 that the government was liable for damages, but nearly all of those cases are still tied up in federal courts. Indeed, apart from a handful of cases that were settled early on, no case has successfully made its way through.
Representatives for Centex and First Nationwide said the judges ruling strengthened the goodwill cases and was a critical victory against the government.
The ruling means the government has to play by the same rules the rest of us do, said Howard N. Cayne, a partner with Arnold & Porter who represented Centex, a Dallas-based real estate development company. The government as contractor cannot use its legislative power to walk away from a binding contract.
Representatives of California Federal Bank, who are also embroiled in one of the most prominent goodwill cases, agreed.
It definitely should send a message that you dont try to target legislation to take away something that you promised, general counsel Christie Flanagan said.
A Justice Department spokesman declined to comment.