Analysts Say S&L; Lost Out on Tax Credits

Downey Savings & Loan has long had untapped value in dozens of neighborhood shopping centers and other real estate it developed in California and Arizona, and it wanted to reap the profits by selling much of those holdings.

So it was little wonder that it coveted the $241 million in tax credits held by the failed Butterfield Savings & Loan. Those credits could shelter an equal amount of earnings from taxes.

But the financial bonanza that Downey saw in Butterfield’s tax credits hasn’t quite materialized, industry analysts said. They are disappointed that Downey hasn’t sold enough of its own real estate stockpile to take full advantage of the credits.

“I believe they missed an opportunity,” said Campbell Chaney, an analyst with Sutro & Co. in San Francisco. “I was disappointed that they did not dispose of more properties to take advantage of the tax credits.”

The thrift lost the use of $16 million in tax credits in 1988 and 1989. Last year, when $104 million in tax credits expired, Downey reported annual net income of $42 million, and half of that came from the tax-free interest on the Butterfield deal. The thrift has $121 million in benefits left, with $20 million expiring next year and the rest in 2001 and 2002.

But Downey accounting executives said that determining when tax credits expire is a slippery call. They also pointed out that the amount of tax credits used for purposes of the thrift’s income tax returns don’t show up the same way in its financial statements.

Of last year’s $104 million in benefits, for instance, Downey actually used $80 million and can still use the remaining amount on future tax returns, said Richard Silver, a Downey executive. And the thrift didn’t need the $16 million in credits that previously expired because it had other tax advantages to use, he said.

But while the 1988 acquisition of Butterfield was driven by tax considerations, Downey also picked up a branch in Bakersfield with $38 million in deposits and the opportunity to earn more money by managing and disposing of Butterfield’s bad assets, said James F. Wilson, an analyst with Montgomery Securities in San Francisco.

Like most other 1988 deals, Downey’s acquisition of Butterfield came with plenty of federal help. The help--all of it tax-free--is primarily in three areas:

* Promissory note and interest. In selling Butterfield, the government had to make up the thrift’s negative net worth--the amount by which its debts exceeded its assets. With Downey’s $20-million purchase price and certain adjustments, the note for that difference came to $259.4 million, payable with interest over seven years. Through the end of December, Downey has received $52 million in interest and $64 million in principal.

* Capital losses. The government pays Downey for any losses in selling or refinancing $239.2 million in bad assets. Downey’s own capital is at risk for remaining Butterfield assets of $302 million. Through the end of November, Downey estimates that it has received $20 million to cover losses.

* Guaranteed yield. The government makes up any difference between what Downey earns or loses in managing those bad assets and what the thrift should have received had the assets been producing a normal income. Through the end of December, Downey estimates that it has received more than $4 million in so-called yield maintenance payments. Such provisions in most of the 1988 deals sparked heavy congressional criticism because many buyers were simply sitting on bad assets and continuing to collect yield maintenance payments instead of disposing of the assets.