Wells Fargo got less than it wanted in a federal tax-refund lawsuit, yet the bank's partial victory may spur billions of dollars in similar refund claims from companies that have done repeated mergers and acquisitions, tax lawyers say.
The bank had sought refunds — valued at about $350 million as of 2011 — tied mostly to interest on tax bills over decades. The June 29 decision by a federal appeals court in Washington allowed some, but not all, of the claims to stand.
At the same time, the ruling effectively allows companies that have grown through acquisitions to tap certain tax benefits held by the companies they acquired — widening access to refunds based on such interest calculations, according to tax specialists.
"We're talking about a lot of money," said Todd Reinstein, a tax lawyer at Pepper Hamilton LLP in Washington — "probably in the tens of billions of dollars."
The financial-services and health-care industries may be particularly affected by the ruling, since both have seen large numbers of recent mergers, said Robert Willens, a tax and accounting specialist in New York. The case "will likely pave the way for some substantial refund claims," he said.
Ancel Martinez, a Wells Fargo spokesman, declined to comment on the decision or to discuss how much the bank can expect to recover.
The ruling highlights a little-known revenue center in the world of corporate tax planning. Multinationals claiming interest-related refunds from the Internal Revenue Service "is a big deal," said Steven Dixon, a tax litigation lawyer at Miller & Chevalier Chartered in Washington. "Overlapping underpayments and overpayments — there are big claims out there, and it's real money."
Corporations' federal tax bills include levies on their earnings and employment, as well as excise taxes and others. It's not unusual for a company to pay too little of one and too much of another — meaning it owes the IRS money, with interest, while the IRS owes it money, also with interest. Though the interest rates can vary by as much as 4 1/2 percentage points, in 1998 Congress approved legislation to allow corporations in that situation to equalize the rates on each side. Such "interest netting" gives companies an effective interest rate of zero on their overlapping underpayments and overpayments.
That rule specifies that the underpayment and overpayment must belong to "the same taxpayer," but it's been less clear how the rule applies to companies involved in mergers and acquisitions. When one group of companies joins another, pre-existing group, can they all be considered the same taxpayer?
In the case of Wells Fargo, the three-judge appellate panel decided that under certain conditions, they can be — broadly, when the acquired company has made an overpayment before a merger. In reaching that decision, the judges held that CoreStates Financial Corp. overpaid its taxes in 1992, then later merged into First Union Corp., which subsequently underpaid its own taxes. (First Union merged into Wachovia Corp. in 2001, and Wachovia merged into Wells Fargo in 2008.)
Because CoreStates merged into First Union in 1998, the court considered both companies to be the same taxpayer when First Union's 1999 underpayment — the basis for the refund claim — arose, Reinstein said.
At the same time, though, the panel ruled that Wells Fargo could not seek refunds stemming from interest on underpayments and overpayments by Wachovia and First Union long before they merged with each other. The court said the two banks were separate taxpayers at the time of those payments, some of which dated to 1993, and that Wells Fargo couldn't make claims on those payments for its own tax benefit.
The difference between the two examples is that — unlike CoreStates and First Union — Wachovia and First Union "were distinct taxpayers" at the time of the underpayment and hadn't yet merged, Reinstein said. "It doesn't matter that they are later part of the same group," he said.
The ruling offers a lesson in how large companies may be able to mine tax benefits from companies they acquire to reduce their future tax bills going forward by offsetting interest, Reinstein said.
Cathy Stopyra, tax senior director at the accounting firm BDO USA LLP, said multinationals would likely begin combing through their tax returns in search of claims similar to the CoreStates-First Union example.
"I would think this ruling is a big incentive," she said. Stopyra said she knew of dozens of companies that put interest-related refund claims on hold pending the Wells Fargo ruling. Most are being hashed out directly with the IRS, she said.
The appellate panel sent Wells Fargo's case back to the U.S. Court of Federal Claims, which will apply the new guidance to the bank's complaint. It's unclear how much of a refund will be due the bank, which has grown through seven acquisitions over the last two decades.
Anny Pachner, an IRS spokeswoman, said in an e-mail that the agency had no comment on the ruling.
Wells Fargo has also claimed that it's owed money as a result of "data and computational entry errors" regarding its interest rates by the IRS.