City National to Reverse Tax Gains
City National Corp. said Wednesday it would reverse certain tax gains that it recorded in the first three quarters of 2003 and forgo taking similar gains in the fourth quarter, as the result of a Franchise Tax Board decision.
The bank company still expects to report a record annual profit of about $186 million, or $3.71 a share, in 2003, Chief Financial Officer Frank Pekny said during a conference call with analysts and investors. The Beverly Hills-based firm will report earnings Wednesday.
City National’s decision was prompted by an FTB ruling that it planned to disallow tax benefits related to real estate investment trusts and regulated investment companies as the result of two California laws signed late last year.
Many banks, including City National and Charlotte, N.C.-based Bank of America Corp., have used so-called RICs and REITs to shelter income from state tax. The shelter, which state auditors say costs California tens of millions of dollars each year, works like this: Banks transfer property or investments to these newly formed subsidiaries, which operate under special securities laws aimed at helping small investors. The subsidiaries then pay dividends back to the parent company.
The transaction saves state income taxes because, although dividends are normally deductible to the payer and taxable to the recipient, an exception under state law allowed dividends paid from one corporate entity to another not to be taxed under certain circumstances.
Two identical laws were passed late last year to close the loophole. The laws are not retroactive, but the FTB said at the end of last year that it planned to disallow RIC and REIT deals in audits of all open tax years.
“We believe these tax transactions remain entirely appropriate,” said City National’s Pekny. “We are going to contest the FTB’s position.”
Until the bank can press its case in court, however, City National thought it prudent to stop recognizing the economic benefit of the deals on its financial statements, Pekny said.
