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TREAS.
HJ
10
.Al3P4
v.310
u.s.
Department of the Treasury
PRESS RELEASES
TREASUR¥lwNEWS
~.lIartm.nt of the Traa.u" • W_ .... tdn,OJ~
• Te.ellhone SII-2G4!
FOR RELEASE UPON DELIVERY
EXPECTED AT 10:00 A.M.
statement of
The Honorable Robert R. Glauber
Under Secretary of the Treasury for Finance
Before the
Committee on Agriculture
u.S. House of Representatives
September 11, 1991
Good morning Chairman de la Garza, Mr. Coleman, and Members of
the Committee:
I am pleased to appear before you today to discuss the
pressing need to strengthen and modernize our nation's banking
and financial services laws. At your request, my testimony will
concentrate on the potential effects of the "Financial
Institutions Safety and Consumer Choice Act of 1991" (H.R. 6) on
the nation's commodities exchanges and commodity futures markets
over which this Committee has jurisdiction. Before discussing
these issues, let me take a minute to discuss the need for
comprehensive legislation and how it might address the concerns
of state and local communities.
Need for Comprehensive Reform
Last winter the Administration proposed H.R. 1505 as a
comprehensive approach to modernize our outdated banking laws to
make our banking system stronger and safer. Our proposal was the
legislative CUlmination of an 18-month study by the Treasury
Department of the banking system, as mandated by the Financial
Institutions Reform, Recovery, and Enforcement Act of 1989. We
believe this comprehensive approach to banking reform is the only
way to truly resolve the underlying problems in the banking
system -- merely recapitalizing the Bank Insurance Fund, as some
have suggested, will only put off the day of reckoning and
increase the exposure of the taxpayer. As Secretary Brady has
said many times, we need to fix the banking problem, not just
fund it.
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We believe that comprehensive reform must accomplish three
fundamental objectives:
First, we must make deposit insurance safe for
taxpayers and depositors. That means stronger
supervision, better capitalized banks, and the return
of deposit insurance to its original purpose of
protecting average depositors. It also means a better
capitalized Bank Insurance Fund.
Second, it is time to modernize archaic laws to let
banks catch up with their customers to deliver products
more efficiently to consumers across the country -which translates into greater convenience, lower
interest rates and transaction fees for consumers, and
more bank capital.
Third, we need to restore the preeminent international
position of our banking industry. Our economy is twice
the size of our nearest competitor's, and a world class
economy requires a world class banking system.
We believe that our legislation will help accomplish each of
these objectives.
The plain fact is that the laws on the books no longer
reflect the way financial companies do business. until we
recognize this and act, our financial system will be exposed to
further decay. Our financial companies will become weaker; and
taxpayers will face the prospect of losses as weak financial
concerns turn to the government for help.
We must instead find ways to tap voluntary private capital
from the marketplace to stand ahead of the taxpayer. That is the
strategy at the heart of comprehensive banking and financial
reform. It is the strategy behind H.R. 1505, and it is the
strategy behind H.R. 6, which is now before this committee for
its consideration.
Taken as a whole, H.R. 1505 addresses the fundamental
problems of the banking system -- rather than just funding them.
We believe it is a carefully balanced, integrated approach, which
is essential to meaningful reform. By contrast, a thin,
piecemeal approach is likely to push our most pressing problems
into the future and could well defeat the very purpose of the
legislation -- to strengthen the banking and financial system and
better serve consumers.
In short, Mr. Chairman, comprehensive reform will serve the
public well -- consumers, financial service providers, and each
of us who benefits from a strong and competitive banking system.
3
Impact on states and Local communities
At the same time, both H.R. 1505 and H.R. 6 recognize and
address the legitimate concerns of states and rural communities
that arise with any significant change to our banking laws. The
issues of particular concern to the states include: (1)
interstate branching, with its related issues of community
reinvestment and state taxing authority; (2) preservation of the
dual banking system; and (3) the implications of the so-called
"too-big-to-fail" policy that today results in the routine
protection of uninsured depositors in large banks.
Interstate Banking and Branching. Any legislation that
authorizes nationwide banking and branching must recognize
legitimate state and rural concerns, and the legislative
proposals before Congress do just this. For example, although an
Iowa bank could establish an initial branch inside Illinois,
Illinois would retain the right to restrict further branching
inside its own borders, regardless of whether the Iowa bank was
state chartered or nationally chartered. Illinois would also
retain control over the ability of its own state banks to branch
into other states. Finally, a host state would have the right to
limit the activities of in-state branches of banks chartered in
other states to the activities permitted for its own in-state
banks -- a bank that obtained a charter from a state that permits
expanded activities could not "export" these activities into a
different state that prohibits these same activities for its own
state banks.
Of course, the activities of national banks would not be so
limited since Congress, not the states, has always maintained the
exclusive authority to determine the scope of activities of
national banks. Nevertheless, all of the proposals appear to
require branches of out-of-state national banks to comply with a
state's laws to the same extent as a national bank located in
that state. This would specifically apply to state taxation and
community reinvestment laws.
There is a popular misconception that the legislation's
authorization of interstate branching will deprive states of the
ability to tax local banking activities to the same extent they
are taxed today. This is just not true. states will have broad
authority to tax branches of interstate banks, just as they have
broad authority to tax separately incorporated banks operating in
that state. This goal is strongly shared by both the
Administration and Congress, and to the extent that technical
language in any bill does not accomplish this goal, it should be
changed. In clarifying this point, however, it is critical to
avoid any inference that any other taxing ability of the states
is called into question.
4
Another popular myth is that interstate branching will
undermine community reinvestment and lead to a "siphoning off" of
funds from rural and local markets. Again, this is just not the
case. First, the Community Reinvestment Act, a federal law, will
continue to apply to the expansion of all interstate branches.
Second, state community reinvestment and consumer protection laws
will apply to interstate branches of state and national banks to
the same extent that they apply to state and national banks
today. Third, and most important, there is simply no evidence
that interstate branching will siphon off funds from rural
communities. To the contrary, numerous studies have shown that
banks in states with liberal intrastate branching laws have
provided more loans to local customers than banks in states with
restrictive branching laws. At the same time, the movement
toward interstate banking through holding companies has not
resulted in any decline in local credit: there is simply no
reason to believe that interstate branching would create any
different result. The plain fact is that a bank or branch that
does not serve the local community will not prosper, no matter
who owns it.
The Dual Banking System. Another general area of concern
for the states is the continued viability of the dual banking
system, which has provided important benefits to consumers of
banking services over the years. critics claim that banking
legislation will spell the end of the dual banking system, but
again, the facts just do not support this assertion.
All versions of the legislation continue to permit states to
authorize their banks to engage in a broader range of activities
than national banks. This is the key ingredient of the dual
banking system. For example, there are absolutely no federal
limits on the types of agency activities in which state banks
would be permitted to engage within their state borders: this is
a matter left entirely up to the states.
There are, however, some new federal limitations on other
types of state bank activities because of the direct risk to the
u.S. taxpayer through federal deposit insurance. with one
exception, these are not rigid statutory prohibitions but rather
a grant of flexible safety and soundness authority to the FDIC.
The general rule is that a state bank may engage in non-agency
activities that are prohibited for national banks, but only if it
meets its capital requirements and gets permission from the FDIC.
This modest and prudent federal authority is appropriate, given
the massive federal exposure to the taxpayer that has been
painfully experienced with savings and loans.
The only exception to the general rule is the flat
prohibition on direct equity investments by state banks in real
estate and other commercial enterprises
investments not
permissible for national banks. Again, as was evidenced only too
5
well from the S&L experience, these risky ventures are simply
inappropriate for federally insured deposits. The risk of loss
to every taxpayer is just too great.
Rollback of the "Too Big To Fail" Policy. Finally, the
states as well as many others have raised strong concerns about
the current FDIC policy of routinely protecting uninsured
depositors in bank failures, particularly large bank failures
the so-called "too big to fail" policy. This practice has
sometimes been magnified by the Federal Reserve's occasional
practice of extended lending to troubled institutions through its
discount window.
The Administration's original proposal to address the FDIC's
too-big-to-fail policy has been improved by amendments in H.R. 6
that address the related Federal Reserve issue. The final
legislative product should eliminate the routine protection of
uninsured deposits, and, with certain exceptions noted below, we
believe this outcome merits strong support.
First, the legislation for the first time will require the
FDIC to adopt the failed bank resolution method that is least
costly to the deposit insurance fund. This will result in fewer
instances of protection for uninsured depositors.
Second, in order for the Federal Reserve to lend to
undercapitalized institutions for a period exceeding 60 days, it
must obtain a "certificate of viability" from the primary
regulator of that institution. Furthermore, the Federal Reserve
must reimburse the FDIC for certain costs attributable to
withdrawals of uninsured deposits if it lends to undercapitalized
institutions without a certificate of viability. While this
provision goes too far -- it shifts too much cost from the FDIC
to the taxpayer -- it is a sound idea to discourage routine
discount window lending to troubled banks.
Third, while the government will and should retain the
flexibility to protect even uninsured depositors in cases of
systemic risk, the legislation ensures that the systemic risk
must be genuine. This exception could only be invoked if the
highest levels of government determine that systemic risk
exists -- creating true and fair accountability for such
extraordinary determinations.
Fourth, the legislation includes several proposals that will
directly decrease the likelihood that the failure of a bank, even
a large bank, will create the kind of systemic risk that forces
protection of uninsured depositors. New provisions relating to
the strength of correspondent banks, the interbank clearing
system, and improved liquidity mechanisms will all help reduce
the occasions of systemic risk.
6
In the end, however, the best way to eliminate even the rare
instances of systemic risk is to fix the underlying system.
Other countries rarely confront the "too big to fail" problem
because they rarely have bank failures that raise the issue.
There simply must be fewer costly bank failures and fewer threats
to the economy.
Other Provisions Favorable to Community and Rural Banks
Other provisions of H.R. 1505 and H.R. 6 would clearly serve
to bolster the community banks that are the backbone of the dual
banking system. These provisions include the implementation of
risk-related premiums, capital-based supervision, the removal of
insurance for brokered deposits, reduced regulatory burdens, and
certain miscellaneous provisions.
Risk-related Premiums. Premiums based on the degree of risk
an institution poses to the deposit insurance fund will reward
generally smaller banks for their typically higher levels of
capital. Both the Administration's proposal and H.R. 6 would
authorize the FDIC to develop an assessment system based on the
ratio of capital to risk-weighted assets. Because small banks
typically engage in less risky activities and have a higher
percentage of capital than larger institutions, risk-related
premiums will benefit these banks by creating a more equitable
and relatively less costly assessment system.
Capital-based Supervision. Capital-based supervision will
also reward small banks for their high capital levels. Under
H.R. 1505, well-capitalized banks would be permitted to expand
their financial activities to include insurance, securities, and
mutual funds through the formation of financial services holding
companies. state banks, in particular, would be permitted to
engage in any agency activity permitted by the states, including
distribution of mutual funds; and well-capitalized state banks
would be permitted to engage in non-agency activities beyond
those permitted national banks subject to FDIC approval. Under
H.R. 6, these new financial activities would be limited to wellcapitalized institutions, and insurance activities would have to
be conducted under the diversified holding company rather than
the financial services holding company.
Brokered Deposits. Small banks will benefit from the
elimination or reduction of deposit insurance coverage for
brokered deposits. Insured broke red deposits compete with local
bank deposit rates in ways that can hurt community lending
institutions.
Reduced Reporting Burdens. The exemption from the reporting
requirements of the Home Mortgage Disclosure Act would apply to
banks with less than $50 million in assets. Currently, only
banks with assets of less than $10 million are exempt.
7
A regulatory burden study would examine the feasibility of
reducinq the number of items required to be disclosed on the
Report of Condition by banks with less than $50 million in
assets. The requlatory burden study would also examine the
impact of the Regulatory Flexibility Act and the Paperwork
Reduction Act on banks. And, the reportinq burdens under the
Fair Housinq Act and the notification burdens of the Expedited
Funds Availability Act would be reduced.
Both Houses of Conqress have additional helpful provisions
to reduce the burden on community banks.
Effects on Futures Markets and Exchanges
I would like to focus now on some relatively technical
issues involvinq the bill's effects on futures markets and
futures exchanqes. The Commodity Futures Tradinq Commission has
expressed concern about three specific issues. Let me beqin with
the nettinq provisions in Title VI, Subtitle A, about which you
have expressed particular interest.
1.
Netting Arrangements and Definition of "Futures Commission
Merchant"
The bill's nettinq provisions are designed to reduce risk to
the payment system by promotinq more efficient processing of
financial transactions through netting and clarifyinq the
validity of netting procedures in the event of the closinq of a
financial institution participatinq in such nettinq.
Financial institutions and members of clearinq orqanizations
are orqanized under the laws of numerous jurisdictions, which may
differ. These laws may establish a variety of preferences and
priorities amonq creditors in the event of bankruptcy,
receivership, or insolvency, many of which are not codified and
the implications of which are not fully developed.
Consequently, it cannot be determined with certainty whether
the nettinq procedures provided in private contracts would be
honored under these various laws. Because certainty of
settlement on a net basis is essential to the safety and
soundness of the bankinq system and financial markets, section
605 of H.R. 6 preempts any injunction or similar order issued by
a court or aqency that would interfere with the nettinq
procedures qoverned by the Act. This preemption is, however,
explicitly limited to orders that are inconsistent with the
nettinq procedures and are not intended to affect any other
priorities or preferences established by other laws.
In addition, section 603 pr.ovides with respect to bilateral
nettinq that, in accordance with the terms of the contractual
arranqements between two financial institutions, the mutual
8
obligations of such institutions shall be netted and set off,
without regard to whether the obligations are matured or
unmatured. Although it is believed that a similar result would
occur under existing law, some uncertainty exists. The daily
volume of trillions of dollars of payments through clearing
organizations requires that this uncertainty be eliminated.
Section 604 addresses the additional concern that, in the
event of a clearing member's bankruptcy, its receiver or
liquidator might attempt to negate the multilateral settlement
rules of the clearing organizations. This section provides
statutory validation of netting to the extent provided by the
clearing organization rules. If a member fails, its claim with
respect to payment orders received through the clearing
organization would be limited to the excess, if any, of the
amount of payment orders transmitted.
The CFTC has expressed concern that these three provisions
might validate netting arrangements otherwise prohibited under
the Commodity Exchange Act (or other laws). For example, the
CFTC views the Commodity Exchange Act as prohibiting netting of
proprietary and customer obligations. In addition, futures
clearing organization rules, which may constitute netting
contracts under section 602(14) of the bill, are generally
subject to CFTC review under the Commodity Exchange Act. Among
other things, these rules could affect how such net payments are
calculated, and the CFTC is concerned that the rules might be
superseded. To remedy this problem, the CFTC has suggested
including language to make it clear that the bill's new netting
provisions are subject to and are not intended to supersede other
applicable legal requirements of the Federal banking, securities,
or commodities laws.
We understand the Senate Banking Committee version of the
bill would fix this problem by excluding netting contracts that
are precluded by Federal banking, securities, or commodities
laws. We have no objection to this language in the Senate bill.
If it is not acceptable to the Committee, we will work with CFTC
and Committee staff to develop other, mutually agreeable
language.
The CFTC also has pointed out a technical problem with the
definition of "futures commission merchant" (FCM). H.R. 6
defines an FCM to mean a company that is registered or licensed
under "Federal or state" law to engage in the business of selling
futures and options in commodities. We concur with the CFTC's
suggestion to delete reference to state law, inasmuch as an FCM
would not be able to conduct business unless registered under
federal law.
9
2.
Deposit Insurance Coverage of FCM and Clearing organization
Accounts
The CFTC has expressed particular concern that the bill's
deposit insurance provisions, if applied broadly, may supersede
the current practice of "passing-through" deposit insurance
coverage to funds of individual customers maintained in accounts
with futures commission merchants and deposited on an omnibus
basis in FDIC-insured institutions. The CFTC is seeking report
language to the effect that any modification of deposit insurance
coverage would not affect coverage of segregated customer
accounts carried on an omnibus basis.
Coverage of Brokered Deposits. BICs. and Pension Plans.
section 101 of H.R. 1505 provides that deposit insurance would no
longer apply to deposits obtained directly or indirectly from socalled "deposit brokers." H.R. 6 would permit broke red deposit
coverage only for the best-capitalized institutions.
In addition, section 101 of our bill eliminates "passthrough" insurance coverage of deposits of certain defined
benefit and defined contribution pension plans that are not
"self-directed." Currently, the FDIC provides insurance coverage
on a "pass-through" basis to certain fiduciary accounts
maintained for the benefit of others
This means that despite
the explicit $100,000 limit on federal deposit insurance for any
gng deposit account, a single fiduciary account well in excess of
$100,000 may be fully protected by passing through coverage to
each of the beneficiaries.
The CFTC is concerned that if these sections are read
broadly, they may prohibit pass-through treatment of FCM
segregated accounts that the FDIC has permitted as a matter of
practice since 1984. More specifically, the CFTC is seeking
report language clarifying that FCMs do not fall within the
definition of "deposit broker" -- to avoid triggering the
elimination of insurance coverage for deposits made by FCMs.
Although the bill's definition of "deposit broker" is identical
to the current definition in the Federal Deposit Insurance Act,
we would be willing to explore with CFTC staff the possibility of
adding report language to the effect that FeMs are not intended
to be covered. We note that the FDIC has not allowed passthrough coverage of clearing organization accounts, as indicated
in a 1986 FDIC Advisory Opinion.
Pass-Through Coverage. The CFTC also is concerned about the
bill's new rules for determining pass-through insurance coverage.
The Administration's bill, but not H.R. 6, establishes new rules
for determining pass-through treatment. They specifically allow
pass-through coverage if each of four conditions are met,
including that the account not be maintained for investment
10
purposes. The CFTC is concerned that this "non-investment" test
may be difficult to meet in the case of FCM customer accounts.
Pursuant to CFTC interpretation FCMs can deposit customer
funds in depository institutions only in non-interest bearing
demand deposit accounts without withdrawal restrictions (to
ensure liquidity)-. Therefore, it does not appear to us that the
"non-investment purpose" test is a problem.
We recognize that this is a complex subject, and new rules
always raise the possibility of unintended consequences and
interpretations. Thus, the CFTC's concerns are understandable.
The Treasury Department did not intend the deposit insurance
provisions of the bill to change existing practice with respect
to segregated customer accounts deposited in insured institutions
on an omnibus basis for other than investment reasons. To the
extent there is any ambiguity in this regard, we will work with
the CFTC and committee staff to develop mutually agreeable report
language to resolve these concerns.
H.R. 6 also authorizes the FDIC to adopt rules clarifying
deposit insurance coverage. In the spirit of interagency
cooperation, we support the CFTC's suggestion that language be
included in the legislative history of this provision directing
the FDIC to consult with the CFTC, SEC, and other appropriate
federal agencies with respect to any rulemaking concerning passthough insurance coverage.
3.
Definition of "Functional Regulator"
Finally, the CFTC has noted that various sections of the
bills provide for coordination with or notice to the "functional
regulator" -- the federal or state agency that has supervisory
authority over a diversified holding company, financial services
holding company, or nonbank subsidiary (section 401(a) (5) of H.R.
6). Because report language for H.R. 1505 and H.R. 6 refer to
the Securities and Exchange Commission, the Federal Reserve Board
and state insurance commissioners as examples of a "functional
regulator", there is concern that the CFTC and other agencies not
specifically mentioned were intended to be excluded from the
definition. This certainly was not our intent, and we would be
happy to support report language clarifying that the CFTC is a
"functional regulator" of firms registered under the Commodity
Exchange Act that are engaged in futures-related activities.
Conclusion
In conclusion, let me emphasize once again the need for
comprehensive legislation. Congress has an historic opportunity
to address the reality of the modern financial marketplace and
create a u.s. banking and financial system that is
11
internationally competitive, that will protect depositors and
taxpayers, serve consumers, and strengthen the economy. We hope
the committee will join us in seeking enactment of this farreaching legislation this year.
*
*
*
Mr. Chairman, that concludes by prepared remarks. I would
be pleased to answer any questions the Committee may have.
D811artm8nt of th. Tr.asury • WV~~I!.\t,.t-i •. C.
•
Telephone S&&-204t
) EPT. 0 r T ~ 1E H{ tJ. SU,\ Y
For Release Upon Delivery
Expected at 10 a.m.
September 11, 1991
STATEMENT OF
MICHAEL J. GRAETZ
DEPUTY ASSISTANT SECRETARY (TAX POLICY)
DEPARTMENT OF THE TREASURY
BEFORE THE
SUBCOMMITTEE ON SELECT REVENUE MEASURES
COMMITTEE ON WAYS AND MEANS
UNITED STATES HOUSE OF REPRESENTATIVES
Mr. Chairman and Members of the Committee:
I am pleased to be here today to discuss the recent
withdrawal of proposed regulations concerning the treatment under
State ratemaking proceedings of consolidated tax savings under
the normalization provisions of the Internal Revenue Code (the
"Code"). These proposed regulations, which were published in
November 1990 and withdrawn in April 1991, attempted to address
the question whether the Internal Revenue Code should be
interpreted to restrict the ability of State regulators to take
into account certain tax savings realized by an affiliated group
of corporations ("consolidated tax savings") in setting the rates
that they permit public utilities to charge their customers.
Background
Public utility rates generally are set under State law to
compensate the utility for the costs of providing utility
services and to provide the utility's bondholders and
shareholders with a fair return on the capital they invest in
utility assets. The "cost of service" component of rates is
based on the operating costs incurred by the utility during the
year (such as fuel, salaries, postage, etc.), the depreciation of
fixed assets during the year (generally allowed on a straightline basis over a 25 to 40 year life), and Federal and State
income tax expense for the year. The "return on capital"
component of rates is based on the product of the "rate base"
NB-1447
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(generally the regulatory book value of assets employed to
provide utility services) and a weighted average rate of return
on debt and equity capital that bondholders and shareholders have
invested in those assets.
Since 1969 the Internal Revenue Code has conditioned a
public utility's ability to use accelerated depreciation for
public utility property on specified ratemaking treatment of the
tax savings due to the utility's use of accelerated methods of
depreciation or shortened depreciation lives. In general, the
Code provides that a public utility may not use accelerated
depreciation for public utility property in computing its Federal
income tax liability unless the regulators use a "normalization
method of accounting" in calculating the utility's tax expense
for ratemaking purposes.
There are two general ways a utility regulatory commission
can account for the benefits of accelerated depreciation, shorter
depreciation lives, and investment credits for public utility
property in setting utility rates. One way, flowthrough
accounting, treats these benefits as a current reduction in
Federal income tax expense in computing the utility's cost of
service. Under this method, current operating expenses are
reduced, and the Federal tax benefit is immediately flowed
through to current utility customers. A second way,
normalization accounting, treats these benefits as a reduction in
the utility's capital costs.
In general, normalization accounting requires a utility to
compute its tax expense in determining its cost of service for
ratemaking purposes as though it used the same method and period
of depreciation that it uses in calculating its depreciation
expense for purposes of setting its rates. This typically will
be the straight-line method over a much longer life than is used
for tax purposes. Thus, under this method, which the Code
requires for a utility to be able to use accelerated depreciation
on public utility property, regulators must calculate the
utility's cost of service in a manner that permits the utility to
collect from customers an amount for tax expense that exceeds the
utility's actual current tax liability by the amount of the tax
savings from accelerated depreciation.
Under normalization accounting, however, regulators may
treat the tax savings as cost-free capital.
It is not a
violation of the normalization rules of the Code for regulators
to reduce a utility's "rate base" -- generally the total amount
of capital invested in the utility on which stockholders and
bondholders are allowed to earn a return -- by the cumulative tax
savings from using accelerated depreciation. A utility using
normalization accounting may be thought of as treating the
reduction in its current tax liability that results from using
accelerated depreciation as an interest-free loan from the
Treasury; this is accomplished by treating the utility as though
it were required to pay to the Treasury the tax that would be due
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if accelerated depreciation were not allowed, and the Treasury
loaned back to the utility -- without interest -- the excess of
this amount over the utility's actual tax liability calculated
using accelerated depreciation. In effect, normalization
accounting operates to determine a utility's rate of return on a
reduced rate base, thereby flowing through to customers over the
service life of the asset the benefits of reduced capital
expenses due to accelerated depreciation. The normalization
rules are intended to ensure that the Federal tax savings
provided through accelerated depreciation provide cost-free
capital to utilities to promote investment and are not used to
subsidize current consumption.
The History of the Normalization Requirement
A requirement that utilities use the normalization method of
accounting was first added to the Internal Revenue Code in 1969.
In 1964, congress had foreshadowed the 1969 normalization rules
by prohibiting Federal regulatory agencies from flowing through
the 3 percent investment tax credit then available on public
utility property more rapidly than ratably over the useful life
of the asset and prohibiting Federal regulators from flowing
through any part of the 7 percent investment credit on nonpublic
utility property.l The Tax Reform Act of 1969 added section
167(1) to the Code to limit the use of flowthrough accounting,
and, in general, to require utilities that claimed accelerated
tax depreciation to use a normalization method of accounting.
Congress did not completely prohibit flowthrough accounting
in 1969, however. At that time, about half of all state
ratemaking authorities were requiring utilities to flow through
to current customers the benefits of accelerated tax
depreciation. 2
Congress was concerned about causing a
widespread increase in rates paid by customers of those
lpub. L. No. 88-272, § 203(e) (1964). When Congress enacted
a 7 percent investment tax credit (ITC) in 1962, regulated
utilities were granted a credit of only 3 percent. The reduced
rate was a compromise between those who argued that utilities
should receive the same investment incentives as other businesses
and those who argued that, because of their monopoly status,
utilities did not need incentives to invest and that flowthrough
accounting by ratemakers would defeat the purpose of making
investment incentives available to utilities.
2Indeed, some ratemakers were insisting that utilities, such
as the major telephone companies, which had been claiming
straight-line depreciation, claim accelerated tax depreciation so
that the Federal tax savings could be flowed through to
ratepayers. certain ratemakers were reducing rates by the
available Federal tax savings even if a utility did not claim
accelerated tax depreciation.
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utilities, and the 1969 legislation was designed to stop the
spread of flowthrough accounting to utilities not already using
it; utilities using flowthrough were "grandfathered."
In structuring the 1969 prohibition, Congress did not
attempt directly to prohibit state ratemaking authorities from
using flowthrough accounting.
Because of federalism concerns and
suggestions that such a direct prohibition would raise
constitutional issues, Congress instead conditioned a utility's
abili ty to use accelerat-ed depreciation on its use of
normalization accounting. 3 The 1969 Act granted Treasury broad
authority in section 167(1) (5) to issue regulations as needed to
carry out the purposes of the normalization rules.
In 1971, Congress increased the investment tax credit on
public utility property to 4 percent and required utilities to
use a normalization method of accounting for the credit as a
condition of claiming it with respect to public utility
property. 4 In 1981, in connection with the adoption of the ACRS
system of depreciation, Congress extended the normalization rules
to all utilities by repealing the 1969 grandfather rules.
In
1982, Congress expanded Treasury's regulatory authority to
prevent the use of ratemaking techniques that are inconsistent
3The 1969 normalization requirement grew out of H.R. 6659,
which would have prohibited flowthrough accounting by state
ratemakers. This direct prohibition was rejected in favor of
imposing a loss of accelerated depreciation on utilities because
the bill's opponents raised doubts about the constitutionality of
prohibiting state regulators from using flowthrough accounting.
See, e.g., Statement of Fred P. Morrissey, commissioner,
California Public utilities Commission, before the Committee on
Ways and Means on March 27, 1969, summarized in Summary of
Testimony on Treatment of Tax Depreciation by Regulated
utilities, JCS 47-69 at 8 (July 11, 1969). The Treasury
Department opined on May 5, 1969, that the direct prohibition was
constitutional.
See letter from Paul W. Eggers, General Counsel
of the Treasury, submitted in response to a question from
Congressman utt to Assistant Secretary Cohen and reprinted in
Hearings before the Committee on Ways and means. Ninety-first
Congress. First Session on the Subject of Tax Reform, Part 15 of
15 at 5672 (April 24, 1969).
4Although the new ITC normalization rules in section 46(e)
(which later became section 46(f»
allowed ratemakers to "share"
part of the credit with current and future ratepayers, the rules
were not identical to the section 167(1) normalization rules that
were prescribed for accelerated depreciation in 1969. Under the
1971 rules, ratemakers were permitted to reduce the rate base by
the amount of the investment tax credit or to flow through the
credit over the life of the property.
- 5 -
with the statutory normalization requirement. s In 1986, Congress
extended normalization accounting to cover the ratemaking
treatment of the reduction in corporate income tax rates. 6
Notice 87-82, 1987-2 C.B. 389, 391, requires normalization of
contributions in aid of construction (CIACs) received subsequent
to the 1986 Act's changes in the method of tax accounting for
most CIACs. 7
5The California regulatory commission had created a
technique called the Average Annual Adjustment ("AAA") method,
which creatively used certain "estimates and projections" to
mimic the effects of a flowthrough method in a way that arguably
did not violate the statutory normalization rules. In sections
168(e) (3) (C) (which later became section 168(i) (9) (B» and
46(f) (10), Congress stated that the normalization requirements
are not met if the taxpayer uses procedures and adjustments that
are inconsistent with the normalization rules. Congress
described the AAA method as one procedure or adjustment that
violated the new statutory "consistency requirement," and
authorized Treasury to prescribe by regulation other procedures
and adjustments that would be treated as inconsistent with the
normalization rules. See H.R. Rep. No. 97-827, 97th Congo 2d
Sess. at 7-10 (1982). The 1982 legislation also granted relief
to eliminate the SUbstantial tax liability of several California
utilities that would have been assessed for prior years due to
the disallowance of accelerated depreciation and investment
credits on the grounds that the State regulatory commission's
rules violated the Code's normalization requirements.
6By lowering the top marginal income tax rate for
corporations from 46 percent to 34 percent, the 1986 Act produced
an "excess deferred tax reserve" because the deferred tax reserve
for accelerated depreciation that was set aside at a rate of 46
percent could now be paid back at the 34 percent rate. section
203(e) of the 1986 Act provided that under a normalization
method, the excess deferred tax reserve could not be flowed
through to reduce the cost of service component of current rates
more rapidly than over the remaining regulatory lives of the
utility's assets. In 1987 and again in 1989, this Committee
revisited the decision to require normalization of the effect of
the 1986 change in income tax rates, and on both occasions
Congress left in place its 1986 decision that the excess deferred·
tax reserves should be normalized.
7A typical CIAC is a utility line that a customer constructs
and contributes to the utility, or pays the utility to construct,
as a condition of receiving utility services. Prior to 1986,
CIACs were generally excluded from the utility's income as
nonshareholder contributions to capital under Code section
118(a). The 1986 Act added section 118(b), which provides that
CIACs received from a customer or potential customer are not
covered by section 118(a). Thus, these CIACs must be included
currently in the utility's gross income under section 61.
-
6 -
In summary, Congress has enacted normalization requirements
with respect to the regulatory treatment of three tax benefits:
accelerated depreciation and investment tax credits claimed for
public utility property and the 1986 reduction in corporate tax
rates. Prior to the publication of the proposed regulations
concerning consolidated tax savings -- which are the subject of
this hearing -- the Internal Revenue had published normalization
requirements for only one additional item: post-1986 CIACs.
Consolidated Tax Savings
In recent years, the Treasury and Internal Revenue Service
have been asked whether the normalization requirements of the
Code apply to restrict the regulatory treatment of the reduction
in Federal income taxes resulting from utilities filing a
consolidated return with unregulated affiliates. utilities, like
other corporate taxpayers, are permitted to file a consolidated
tax return with other commonly controlled corporations. When a
consolidated return is filed, the tax liability of the affiliated
group generally is determined as if the members of the group were
a single corporation. A utility, for example, may thereby
shelter its income from current taxation by offsetting tax losses
(or excess credits) of other affiliated corporations engaged in
unregulated businesses (for example, leasing and gas
exploration).
If the affiliated corporations did not file a
consolidated return, the losses of the unregulated companies
generally would not be used to reduce taxes until the later years
in which the loss companies become profitable.
State ratemaking authorities generally have used two
different approaches to determine the tax expense of a utility
that files a consolidated return. Under an "actual taxes paid"
approach, the tax savings that result from filing a consolidated
return are flowed through to utility customers through lower
rates that result from including only the utility's share of
actual taxes paid in the utility's cost of service. The united
States Supreme Court upheld the Federal Power Commission's use of
such an "actual taxes paid" approach in 1967, two years before
the depreciation normalization rules were first added to the
However, notwithstanding the 1986 change in the tax law, most
utilities disregard the receipt of a CIAC for ratemaking
purposes. Thus, the 1986 Act created a timing difference between
ratemaking and tax accounting for CIACs, and Notice 87-82
required that difference to be normalized so that the prepayment
of tax on CIACs would be shared between current and future
ratepayers. The Notice requires a utility to increase its rate
base by the amount of the CIAC or treat the CIAC as a loss of
zero-cost capital in computing the return on capital component of
current rates. We are not aware of any utilities or ratemakers
who have complained about Notice 87-82.·
- 7 -
Internal Revenue Code. Federal Power Commission v. united Gas
Pipe Line Co., 386 U.S. 237 (1967).
Under an alternative "stand-alone" approach, the ratemaking
authority determines the utility's tax expense for purposes of
setting rates as if the utility had filed a separate return.
Thus, for example, under stand-alone accounting, if a utility
that has taxable income files a consolidated return with an
affiliate whose losses completely shelter that income from
current taxation, the utility's cost of service for ratemaking
purposes reflects the tax that the utility would have paid if it
had filed a separate return. The united States Court of Appeals
for the District of Columbia Circuit upheld the Federal Energy
Regulatory Commission's use of such an approach in City of
Charlottesville v. Federal Energy Regulatory Commission, 774 F.2d
1205 (D.C. Cir. 1985), cert. denied, 475 U.S. 1108 (1986).8
In the 1980s, the Internal Revenue Service issued several
private letter rulings holding that the normalization provisions
of the Code require regulatory authorities to use a stand-alone
approach. One of these rulings was issued to Contel, a utility
doing business in Pennsylvania. Notwithstanding this ruling, the
Pennsylvania Public Utility Commission set Contel's rates using
an "actual taxes paid" approach. Contel then appealed the
Commission's decision to the Commonwealth Court of Pennsylvania,
which affirmed the Commission's position. continental Telephone
Company of Pennsylvania v. Pennsylvania Public utility
Commission, 548 A.2d 344 (Pa. Commw. 1988), appeal denied, 557
A.2d 345 (Pa. 1989). The Pennsylvania court rejected the
conclusion of the private letter ruling that Contel would be in
violation of the normalization rules if it followed the
Commission's rate order. 9
8The Federal Power Commission (FERC's predecessor) decided
in 1972 to abandon consolidated tax savings adjustments in favor
of a stand-alone approach. Dismissing as dicta the Supreme
Court's statements in united Gas Pipeline about FPC's "duty" to
limit the cost of service component of rates to real expenses,
Judge Scalia rejected Charlottesville's argument that the "actual
taxes paid" doctrine prevented FERC from using a stand-alone
method. 774 F. 2d at 1216. In essence, the court held that it
was within FERC's ratemaking authority to require either a
flowthrough or stand-alone method of accounting for consolidated
tax savings.
9According to the Pennsylvania court, the letter ruling did
not rest upon compelling law or logic, and "in itself cannot
provide a legal basis for invalidation of a PUC order." 548 A.2d
at 351. The court relied instead upon the holdings of the
Pennsylvania supreme Court in Barasch v. Pennsylvania Public
utility Commission, 493 A.2d 653 (Pa. 1985) (the commission was
not entitled to include in rates "hypothetical" Federal and State
income taxes that were not actually incurred), and in Barasch v.
- 8 -
Following the Pennsylvania Court's decision, decisionmakers
at the Internal Revenue Service were forced to consider whether
to maintain the position taken in the private letter ruling,
which would have treated Contel as violating the normalization
requirement, thereby requiring disallowance of accelerated
depreciation on its public utility property that would produce
large tax deficiencies against Contel.
In May 1989, the Service
published Notice 89-63, 1989-1 C.B. 720, to inform utilities and
ratemakers that it was developing proposed regulations to address
whether the use of consolidated tax adjustments violates the
normalization requirements of the Code. At that time, the
Service also withdrew two of the private rulings -- including the
one issued to Contel -- that had addressed the issue.
Issuance and withdrawal of Proposed Regulations
On November 27, 1990, the Service proposed regulations
attempting to apply the general policies of the normalization
method of accounting to consolidated tax savings. These proposed
regulations would have prohibited current flowthrough of
consolidated tax savings by denying a utility the use of
accelerated depreciation on its public utility property -- the
only sanction permissible under the statute -- unless the
utility's tax expense in determining its cost of service for
ratemaking purposes is determined on a stand-alone basis. Thus,
the proposed regulations would have prohibited regulatory
commissions from taking consolidated tax savings into account in
computing ratemaking tax expense. However, the proposed
regulations would not have prohibited a commission from adjusting
the utility's rate base to treat the affiliated group's 14
tax savings from filing a consolidated return as cost-free
capital until the loss affiliate becomes profitable.
This approach generally regards the taxable income generated
by the utility as serving to permit current use of the offsetting
losses (or credits) of unregulated affiliates and treats the
benefits of filing a consolidated return as a deferral, rather
than a permanent reduction, of tax liability. The normalization
requirements of the proposed regulations were similar to those
under the Code for the tax savings from accelerated depreciation.
As with statutory normalization of accelerated depreciation, the
proposed regulations would not have required ratemakers to adjust
the rate base by a utility's share of the affiliated group's
consolidated tax savings, but would have permitted them to do so.
The proposed regulations specified a method, based on the
Pennsylvania Public utility Commission and Pennsylvania Power
Co., 491 A.2d 94, 103 (Pa. 1985) ("hypothetical" taxes could only
be included in rates if the failure to normalize would result in
the loss of accelerated depreciation deductions and leave current
ratepayers even worse off than they are under normalization).
- 9 -
consolidated return regulations, for determining the utility's
share of the affiliated group's consolidated tax savings.
Subject to specific exceptions for cases where consolidated
tax savings had previously been flowed through to customers, the
proposed regulations would not have permitted any tax savings
from prior years to be flowed through to customers or to be
treated by regulatory commissions as cost-free capital. These
provisions were intended to minimize the effect of the proposed
regulations by limiting any sudden changes in utility rates.
The Internal Revenue Service received about 100 written
comments on the proposed regulations and held a public hearing
on February 8, 1991, at which about 30 witnesses testified. Not
one commenter endorsed the basic approach of the proposed
regulations.
Representatives of public utility commissions argued that
the Service lacked authority under the normalization rules to
issue regulations to require use of a stand-alone approach in
computing cost of service, because the normalization rules of the
Code apply only to accelerated depreciation of public utility
property. Ratemakers contended that the Service exceeded its
regulatory authority by attempting to dictate the ratemaking
treatment of an item, such as consolidated tax savings, that does
not necessarily involve either accelerated depreciation or public
utility assets. The ratemakers maintained that if Congress had
intended to treat consolidated tax adjustments as a violation of
normalization, it would have done so explicitly and would have
adopted a different statutory penalty for violating normalization
-- something other than the loss of accelerated depreciation on
utility property. State regulatory authorities indicated that
they intended to challenge in court the validity of the
regulations if finalized.
I
Representatives of public utilities opposed the proposed
regulations on the grounds that the normalization rules of the
Code do not permit any reduction of rate base due to consolidated
tax savings. They argued that any reduction of rate base
inappropriately allows utility customers to enjoy the tax
benefits associated with losses of an unregulated affiliate when
the customers did not bear the burden of those losses.
On March 29, 1991, the Office of Management and Budget
("OMB") informed the Treasury Department that it had designated
any final regulations in this area as a "major rule" under
Executive order 12291. That designation requires the Department
to submit the text of the final regulations, along with a
Regulatory Impact Analysis of the costs and benefits of the rule
and of any alternative regulatory approaches, for review by OMB
- 10 -
before the final rule can be published in the Federal Register. lO
l~S
provided in section 3(d) of Executive order 12291, the
Analysis is required to contain the following information:
1.
A description of the potential benefits of the rule,
including any beneficial effects that cannot be
quantified in monetary terms, and the identification of
those likely to receive the benefits;
2.
A description of the potential costs of the rule,
including any adverse effects that cannot be quantified
in monetary terms, and the identification of those
likely to bear the costs;
3.
A determination of the potential net benefits of the
rule, including an evaluation of effects that cannot be
quantified in monetary terms;
4.
A description of alternative approaches that could
substantially achieve the same regulatory goal at lower
cost, together with an analysis of their potential
benefits and costs and a brief explanation of the legal
reasons why such alternatives, if proposed, could not
be adopted; and
5.
Unless covered by the description required under item
4. above, an explanation of any legal reason why the
rule can not satisfy the requirements set forth in
section 2 of the Executive order:
•
Administrative decisions shall be based on
adequate information concerning the need for and
consequences of regulatory action;
•
Regulatory action shall not be undertaken unless
the potential benefits to society from the
regulation outweigh the potential costs to
society;
•
Regulatory objectives shall be chosen to maximize
the net benefits to society;
•
Among alternative approaches to any given
regulatory objective, the alternative involving
the least net cost to society shall be chosen; and
•
Agencies shall set regulatory priorities with the
aim of maximizing the aggregate net benefits to
society, taking into account the condition of the
particular industries affected, the condition of
the national economy, and other regulatory actions
contemplated for the future.
- 11 Furthermore, the designation of the final regulations as a "major
rule" under Executive order 12291 automatically makes any final
regulations a "significant regulatory action" under Executive
order 12498. That designation would have required the final
regulations to be described in the published Regulatory Program
of the u.s. Government.ll
The Treasury Department is not aware of another circumstance
when OMB has designated a tax regulation as a "major rule" under
Executive order 12291. Performing the kinds of cost-benefit
analyses required by these Executive orders would be difficult in
any circumstances, but in the instant context such analyses would
be particularly forbidding.
First, the factual variations are
manifold.
For example, tax savings resulting from the filing of
consolidated tax returns by affiliated groups that include a
regulated utility mayor may not be due to the use of specific
tax incentives, such as accelerated depreciation or deduction of
intangible drilling costs, and may vary in their relationship to
the provision of utility services. Second, the costs and
benefits may be different in different sections of the country
and will depend, at least in part, on the State regulatory
process relating both to consolidated tax savings and other
issues. 12 Third, this issue raises important issues of both
Federal-State relations and utility ratemaking regulatory policy
llThat description must include:
1.
An identification of the problem to be solved;
2.
A statement of the need for a Federal solution to the
problem;
3.
A summary of the approach taken by the rule; and
4.
A tabular presentation of the currently projected
monetary costs and benefits of the rule, as well as
that of potential alternative approaches to the rule,
including transfer costs and benefits resulting from
the rule.
(OMB has indicated to the Treasury
Department that a narrative description of costs and
benefits associated with a final regulation might be
acceptable in lieu of a tabular monetary analysis in
certain cases.)
12As Emil ~unley,. Deputy Assistant Secretary of Treasury,
reported to th1s Comm1ttee more than a decade ago: "While the
[normalization] tax rules prescribe accounting rules, they do not
authorize an inquiry into the motivation for regulators choosing
a particular rate of return. This means there are limits as to
how far the tax rules can be enforced in the regulatory process."
Hearings before the Subcommittee on Oversight of the House
Committee on Ways and Means, 96th Cong., 1st Sess., 515
(March 28, 1979).
- 12 that are difficult, if not impossible, to quantify and about
which the Internal Revenue Service and the Office of Tax policy
claim no special expertise.
Finally, the adverse commentary on
the proposed regulations made it clear that neither the state
regulatory authorities nor the affected utilities approved of the
approach of the regulations and for opposite reasons: The state
commissions regarded the proposed regulations as overreaching and
illegal, while the utilities complained that the proposed
regulations did not sufficiently constrain the regulators'
discretion.
In these circumstances, we had little reason to
believe that any cost-benefit analysis we performed would be
convincing to the affected parties. On April 25, 1991, the
Internal Revenue Service withdrew the proposed regulations
pending congressional guidance.
Current state of the Law
Attached as an Appendix to this statement is a memorandum to
me from Abraham N.M. Shashy, Jr., Chief counsel, Internal Revenue
Service, that describes the Service's current ruling policy
concerning whether a consolidated tax adjustment by a regulated
utility violates the normalization requirements of the Internal
Revenue Code.
It is the position of the Service that, in the
absence of regulations specifically prohibiting consolidated tax
adjustments, these adjustments can be made without violating the
normalization requirements of the Code. Therefore, if requested
in an appropriate circumstance, the Service would rule that these
adjustments do not violate the normalization requirements of the
Code, provided that the adjustments are applied only to the
extent of current ratemaking tax expense and not to the deferred
tax reserve applicable to accelerated depreciation on public
utility property.
Conclusion
We did not view the proposed regulations as a complete or
final product. We saw them as a general rule and a framework
within which a number of more specific issues could be resolved.
We had expected that as a result of comments by the affected
parties, the proposed regulations might be revised.
For example,
comments suggested that the rules for determining the utility's
deemed share of the consolidated tax savings of the affiliated
group merited change, such as by taking into account, where
appropriate, tax sharing arrangements among the regulated and
unregulated affiliated corporations. The comments we received on
the proposed regulations also identified other issues to be
considered, such as situations where there are several
unregulated affiliates and situations where regulated and
unregulated activities are performed within a single corporation.
Notwithstanding contentions to the contrary in comments on
the proposed regulations, the Internal Revenue Service and the
- 13 Treasury concluded that the Code authorizes, but does not
require, the Service to issue regulations prohibiting ratemaking
procedures -- such as adjusting tax expense to reflect
consolidated tax savings -- that it finds to be inconsistent with
the policies behind the normalization rules. Section
168(i) (9) (B) (iii) authorizes Treasury by regulations to
"prescribe procedures and adjustments" that "are to be treated as
inconsistent" with the normalization rules. See also Section
167(1) (5).13 Thus, we determined that we had adequate legal
authority to issue these regulations.
Obviously, the Treasury and the Internal Revenue Service
also regarded the basic approach of the proposed regulations as
appropriate as a matter of policy when they were issued. On
balance, we decided to propose regulations that would limit
regulators' discretion in accounting for consolidated tax
savings, notwithstanding Congress's failure to address explicitly
the issue of consolidated tax adjustments in 1969 or thereafter,
and even though the Supreme Court in 1967 had approved such
ratemaking offsets.
As I have indicated, the proposed regulations were designed
to follow the general structure of normalization requirements for
accelerated depreciation. In essence, this approach views
consolidated tax savings resulting from the combination of losses
of unregulated affiliates with the income of the regulated
13certain comments argued that the kind of rate base
reduction permitted in the proposed regulations violates the
statutory consistency rules of section 168(i) (9) (B) (i). That
paragraph provides that the normalization requirements are not
met "if the taxpayer, for ratemaking purposes, uses a procedure
or adjustment which is inconsistent with" the requirements of
section 168(i) (9) (A). In particular, these comments argued that
rate base reduction effectively allows losses of affiliates to be
taken into account for purposes of computing rate base when they
are not taken into account in computing depreciation expense, tax
expense, and deferred tax expense, and that this violates the
"estimate or projection" consistency rule of section
168 (i) (9) (B) (ii).
We do not find this reading of the statute persuasive. The
practice of taking affiliates' losses into account does not
involve an "estimate or projection" of rate base as Congress used
those words in section 168(i) (9) (B) (ii). The term "estimate or
projection" as used in the statute clearly was intended to be
narrower than the term "procedure or adjustment," and to refer to
assumed changes in a particular account or item between a test
year and the subsequent years covered by a rate order. See
S. Rep. No. 643" 97th Cong., 2d Sess. 7 (1982). Indeed, there
is no evidence that the enactment of the consistency rules in
1982 was intended to extend normalization requirements to
consolidated tax savings.
- 14 -
utility as enabling the consolidated group to use the losses
sooner than if the affiliate were to file its tax return on a
stand-alone basis. This measure of the utility's contribution
may be captured in a rate base adjustment, which provides the
utility's ratepayers with a benefit reflecting the time value of
the more rapid use of the unregulated affiliates' losses or
excess credits made possible by the utility's taxable income or
tax liability.14 Under the proposed regulations, the unregulated
affiliates would have been no worse off than they would be had
the utility not been part of the consolidated group.
Since the
utility's cost of capital reflects the activities of its
unregulated affiliates, there seemed to be no reason to allocate
the benefits resulting from the accelerated use of their losses
or excess credits entirely to the unregulated affiliates, as
would be the result if rate base reductions were prohibited.
Thus, we concluded that we should not attempt to prohibit
regulatory commissions from permitting utility customers to share
in the benefit produced by consolidated tax savings through a
rate base adjustment. However, because the assets that generated
the tax loss are not utility property, we concluded that the
losses generated by those assets should not be used to adjust the
utility's current tax expense.
If they were so used, the
shareholders would be subsidizing the cost of the service
provided by the utility. For this reason, the proposed
regulations held that the current tax expense of the utility
should be calculated as if it had filed a separate return.
Even when the statutory language is directly applicable and
congressional policy is clear, the normalization requirements of
the Code have proved to be something of a blunt instrument. On
the prior important occasion when a State regulatory authority
refused to accede to the statutory structure, Congress ultimately
was forced to legislate to clarify the rules and forgave over $2
billion in tax liability that would have been due had the Service
disallowed accelerated depreciation deductions as contemplated by
the statute. IS In the current context, certain State regulatory
commissions made clear their intention to challenge the validity
of these regulations if finalized and may well have disregarded
them in the interval. The Service's ability to sustain
disallowances of accelerated depreciation deductions in
circumstances where the State commissions refuse to adhere to the
proposed regulations is far from certain, and the failure to do
so might erode the Service's ability to enforce normalization
14Even when the tax savings are generated from a transaction
that does not automatically "reverse" (i.e., where the tax loss
incurred by the unregulated affiliate does not simply represent a
timing difference), the component of no-cost capital in the
utility's rate base will be reduced when the unregulated
affiliate earns income.
ISS ee H. Rep. No. 97-987, 97th Cong., 2d Sess. (1982) and the
discussion at note 5, supra.
- 15 -
requirements where the Code speaks clearly as to the
congressional policy.
Finally, if Congress wishes to limit state regulatory
commissions' discretion with respect to their treatment of
consolidated tax losses by specifying normalization or other
ratemaking treatment, disallowing the filing of a consolidated
return by the utility would be a more focused and appropriate
remedy than the only sanction available by regulation -- the
disallowance of accelerated depreciation on public utility
property. We are prepared to work with this Committee should it
decide legislation is appropriate on the consolidated tax savings
issue.
This concludes my prepared remarks. I will be happy to
answer any questions that the Committee may have.
APPENDIX
DEPARTMENT OF THE TREASURY
INTERNAL REVENUE SERVICE
WASHINGTON. D.C. 20224
OFFICE OF
CHIEF COUNSEL
SEP 091991
MEMORANDUM FOR:
Michael Graetz
Deputy Assistant Secretary (Tax policy)
FROM:
Abrahalll. N. H. Shashy,
SUBJECT:
Internal Revenue Service Rulinq position
on the Treatment of Consolidated Tax
Adjustments Under the Normalization Rules
Chief Counsel
/J~r,'!,..; PI 11[. ~;V~
rl. I .. ,
~ ~,(.
You have asked for a statement of the Internal Revenue
Service ruling policy concerning whether a consolidated tax
adjustment by a regulated utility violates the normalization
requirements of the Internal Revenue Code. In the absence of
regulations specifically prohibiting consolidated tax
adjustments, it is the position of the Service that these
adjustments can be made without violating the normalization
requirements of the Code. Therefore, if requested in an'
appropriate circumstance, the Service would rule that these
adjustments do not violate the normalization requirements of the
Code.
Backqround
Over the last several years, the Service has faced the
question of whether the calculation of ratemaking tax expense on
a consolidated group basis is inconsistent under section
168(i) (9) (B) (i) with the normalization requirements, or, if not,
whether it should be treated as inconsistent by exercise of the
Service's broad regulatory authority under section
168(i) (9) (B) (iii) and former section 167(1) (5). When computed on
a consolidated group basis, ratemaking tax expense is reduced to
reflect the savings from filing a consolidated return with
affiliated companies. These savings might arise, for example,
from the credits, losses, or deferred transactions of affiliated
companies.
Under one variation - the "consolidated tax savings
adjustment" - the ratemaker first determines the utility's total
tax expense on a separate return basis and then reduces it by the
utility's share of the consolidated tax savings. Under another
variation, the ratemaker computes an "effective tax rate" by
dividing the tax liability of the group by the sum of the taxable
- 2 -
incomes of all members with positive taxable incomes.
The
ratemaker then applies this "effective tax rate" to the utility's
taxable income to compute its current tax expense.
Between 1983 and 1988, the Service issued a series of
private letter rulings holding that these practices
("consolidated tax savings adjustments" or "effective tax rates")
violate the normalization requirements of section 168(i) (9) and
its predecessors. After the refusal of the Pennsylvania Public
Utility Commission and the state courts to follow one of these
rulings in 1988, the Service began to reexamine the issue.
See
Continental Telephone Co. of Pennsylvania v. pennsylvania Public
Utility Commission, 120 Pa. Commw. 25, 548 A.2d 344 (1988),
appeal denied, 521 Pa. 613, 557 A.2d 345 (1989).
In May 1989,
the Service issued Notice 89-63, 1989-1 C.B. 720, announcing that
regulations would be issued providing the extent to which
consolidated tax adjustments violate the normalization rules and
that these regulations generally would not provide that rate
orders made final before July 1989 violate normalization merely
because they involve such adjustments. Accordingly, several of
the normalization rulings were revoked, including the one issued
to Continental Telephone of Pennsylvania that was the subject of
the litigation referred to above. On November 27, 1990, the
Service published proposed regulations in the Federal Register
addressing the issue. 55 Fed. Reg. 49294 (Nov. 27, 1990). Under
the proposed regulations, a consolidated tax adjustment was
treated as a violation of the Code's normalization requirements,
pursuant to the authority of Section 168(i) (9) (B) (iii).
On the
other hand, an adjustment to rate base was permitted for tax
amounts not actually paid to the federal government.
Following
public comment and a hearing, the proposed regulations were
withdrawn in April 1991. 56 Fed. Reg. 19825 (Apr. 30, 1991).
We believe that existing law, as reflected in statutory
language, legislative history, and current regulations, leads to
the conclusion that consolidated tax adjustments do not violate
normalization, provided that the adjustments are applied only to
the extent of current ratemaking tax expense and not to the
deferred tax reserve applicable to accelerated depreciation on
public utility property.
In the absence of a change in that law,
our ruling policy must conform to that.conclusion.
Analysis: statutory Requirement of section 168(i) (9) (A)
Section 168(i) (9) (A) requires that, in order to be eligible
for accelerated depreciation on "public utility property" (as
defined in section 168(i) (10»
a public utility must compute its
-
3 -
tax expense for ratemaking purposes using the same method and
period for such property as it uses for computing its
depreciation expense for ratemaking purposes. Under section
168(i) (9) (A) (ii), the difference between the tax expense so
computed and the utility's actual current tax liability must be
treated as a deferred tax expense, which is considered a costfree source of capital. This cost-free capital may be used to
reduce the rate base on which the utility is permitted to earn a
return.
Section 168(i) (9) (A) does not impose any other restriction
on the computation of tax expense for ratemaking purposes. Thus,
if a utility computes its ratemaking tax expense on a
consolidated basis, taking into account the losses of its
affiliates (and thus taking into account the tax savings
resulting from those losses), but also computes its tax expense
as though it used its book method and period for determining
depreciation deductions on public utility property, it would no~
be in violation of the literal requirements of section
168 (i) (9) (A).
It has been argued that the statutory requirement that "the
taxpayer must, in computing its tax expense . • . " necessarily
contemplates determination of ratemaking tax expense on a "standalone" basis. We do not believe, however, that Congress intended
to address this issue by using those words. At the time that the
words were first added to the Code in 1969, consolidated tax
adjustments (or equivalent procedures) were a widespread and
accepted ratemaking practice and had been upheld by the Supreme
Court as within the authority of the Federal Power Commission.
See FPC v. United Gas Pipeline Co., 386 U.S. 237 (1967). We do
not believe that it is plausible that Congress would have
deliberately prohibited or discouraged such a widespread practice
without a more explicit reference in the statute or legislative
history.
Consistency Requirement of section 168(i) (9) (8)
section 168(i) (9) (B) prohibits (or authorizes Treasury to
prohibit by regulation) ratemaking practices that undermine the
purpose of the normalization rules while complying with their
literal terms. This provision was enacted in 1982 in response to
a specific ratemaking practice called the "averaged annual
adjustment" or "AAA" method. See S. Rep. No. 1038, 96th conga 2d
Sess. 11 (1980). The AAA method purported to comply with the
literal statutory requirements of the normalization rules, while
at the same time undermining the requirement to provide for
- 4 -
deferred taxes; the method did so by making an unreasonable
adjustment to current tax expense, explainable only by an intent
to circumvent the normalization rules.
Although the Service, in PLR 7838038 and PLR 7838048, ruled
that the AAA method violated normalization, some utility
commissions and courts refused to follow these rulings. In 1982,
Congress concluded that the AAA method was inconsistent with
normalization and that a clarifying statutory change was
appropriate. Accordingly, section 168(i) (9) (B) (i) was enacted,
providing that "[o]ne way in which the requirements of [section
168(i) (9) (A)] are not met is if the taxpayer, for ratemaking
purposes, uses a procedure or adjustment which is inconsistent
with the requirements of [section 168(i) (9) (A)]." The phrase
"inconsistent with the requirements" of normalization apparently
was taken from regulations in effect at the time (section
1.167(1)-1(h) (4) (ii», upon which the Service had relied in
ruling that the AAA method violated normalization.
In order to make clear that the AAA method was "inconsistent
with the requirements" of normalization, Congress also enacted
section 168(i) (9) (B) (ii), which provided that "[t]he procedures
and adjustments which are to be treated as inconsistent for
purposes of [section 168(i) (9) (B) (i)] shall include any procedure
or adjustment for ratemaking purposes which uses an estimate or
projection of the taxpayer's tax expense, depreciation expense,
or reserve for deferred taxes under [section 168(i) (9) (A) (ii)]
unless such adjustment or projection is also used, for ratemaking
purposes, with respect to the other 2 such items and with respect
to the rate base."
PLR 8711050 (subsequently revoked) reasoned that section
168(i) (9) (B) (ii) prohibits consolidated tax adjustments because
it requires that, if depreciation on property owned by an
affiliate is not taken into account in setting rates (which it is
not), the losses of that affiliate attributable to depreciation
on such property cannot be taken into account in computing the
utility's ratemaking tax expense.
We do not believe that this reasoning is persuasive for two
reasons. First, the practice of taking affiliate losses into
account does not involve an "estimate or pro~o~tion" of tax
expense as Congress used those words in sec·
168(i) (9) (B) (ii).
The term "estimate or projection" as ... sed ir
~ statute clearly
was intended to be more narrow than the term "procedure or
adjustment", and it was intended to refer to assumed changes in a
particular account or item between a test year and the subsequent
- 5 -
years covered by a rate order.
See S. Rep. No. 643, 97th Cong.,
2d Sess. 7 (1982); H.R. Rep. No. 827, 97th Congo 2d Sess. 7
(1982). Therefore, we do not believe that consolidated tax
adjustments constitute an "estimate or projection" of
depreciation expense within the meaning of section
168 (i) (9) (8) (ii) .
Second, this reasoning implies that the normalization rules
prohibit flow-through of the tax benefit of accelerated
depreciation on any property if depreciation expense on that
property is not taken into account in computing utility rates.
The normalization provisions are, by their terms, limited to
accelerated depreciation on public utility property. There is no
evidence in the legislative history of section 168(i) (9) (8) (ii)
indicating that Congress contemplated that this provision would
have the effect of applying the normalization rules to non-public
utility property.
In any event, even if the reasoning of this ruling were to
be accepted, it would not support the view that no affiliate
losses can be taken into account in computing ratemaking tax
expense; it would only support the view that losses attributable
to accelerated depreciation deductions on affiliate property can
not be taken into account. Thus, this reasoning would not
prohibit as being inconsistent with the normalization
requirements the flow-through of affiliate losses attributable to
intangible drilling costs, for example. In any case, we do not
believe Congress intended the literal scope of the normalization
requirements to extend beyond accelerated depreciation on public
utility property.
These arguments do raise a concern that a consolidated tax
adjustment might be used to offset a utility's deferred tax
reserve from normalization or might be used to flow through the
accelerated depreciation benefit of another regulated utility in
the same consolidated group. These concerns are worthy of
further study. until they are resolved we can only say with
confidence that consolidated tax adjustments do not violate
normalization, provided that the adjustments are applied only to
the extent of current ratemaking tax expense and not to the
deferred tax reserve applicable to accelerated depreciation on
public utility property, and provided that the taxable income of
any other regulated utilities used in the calculation of the
adjustments is computed on a normalized basis.
-
6 -
Requlatory Authority of section 168(i) (9) (B) (iii)
In 1982, Congress also authorized Treasury to prohibit
procedures and adjustments other than the AAA method by enacting
the predecessor to section 168(i) (9) (B) (iii). It provides that
the "Secretary may by regulations prescribe procedures and
adjustments (in addition to those specified in [section
168(i) (9) (B) (ii)]) which are to be treated as inconsistent for
purposes of [section 168(i) (9) (B) (i)]." The preamble to the nowwithdrawn proposed regulations explicitly states that the
requlations were issued pursuant to this authority. In the
absence of such a regulatory provision, however, the
normalization requirements do not prohibit consolidated tax
adjustments as a general rule.
Therefore, it is the current ruling position of the Internal
Revenue Service that consolidated tax adjustments, as a general
rule, are not inconsistent with the normalization requirements of
the Code.
(Similarly, it is the current ruling position of the
Internal Revenue Service, that, in the absence of any reduction
of cost of service for consolidated tax savings, an appropriate
reduction of rate base for consolidated tax savings is also not
inconsistent with the normalization requirements of the Code.)
TREASUR¥c:NEWS
Department of til. Treasurv
!EP'l'JII.......... D.C.
For Release Upon Delivery) .;r. (i
Expected at 10:00 AM
September 11, 1991
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• Telephone 5&&-204
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STATEMENT OF THE HONORABLE
JEROME H. POWELL
ASSISTANT SECRETARY OF THE TREASURY
FOR DOMESTIC FINANCE
BEFORE THE
SUBCOMMITTEE ON SECURITIES
COMMITTEE ON BANKING, HOUSING, AND
AND URBAN AFFAIRS
UNITED STATES SENATE
SEPTEMBER 11, 1991
I am pleased to have this opportunity to explain the
Treasury security auction process, the oversight and regulation
of the Government securities market, Salomon Brothers' recently
admitted violations of auction rules, and that firm's possible
violations of securities laws, antitrust laws, general fraud
statutes, SEC regulations, and New York Stock Exchange rules. I
also am pleased to be able to address some specific issues you
have raised concerning government securities market regulation.
While regulation of the government securities markets can be
improved, the responsibilities of the various regulators are
reasonably well-defined. With respect to the auctions, Treasury
determines the amounts and maturities of the securities to be
auctioned and sets the auction rules. The Federal Reserve
conducts the auctions as Treasury's agent, and together the
Treasury and the Federal Reserve review bids for compliance.
Both the Treasury and the Federal Reserve have powerful, but
limited, sanctions available to them to punish violators of these
rules. The Treasury, for example, has forbidden Salomon Brothers
to bid in auctions in behalf of its customers. Securities fraud
in the form of deliberate violations of auction rules accompanied
by false statements to the Treasury and antitrust violations are
more generally the enforcement responsibility of the selfregulatory organizations, the SEC, and the Justice Department.
In addition, price manipUlation and other types of secondary
market fraud are also the enforcement responsibility of the SEC
and the Justice Department.
We believe that these agencies' legal authority to prosecute
fraud and antitrust violations in Treasury auctions is beyond
question. However, at a minimum, Treasury would support
NB-1448
2
modifications to current law to strengthen enforcement of
Treasury auction rules by providing that violations of these
rules would also constitute violations of the securities laws.
All government securities brokers and dealers, including
those that are financial institutions, are subject to regulation
pursuant to the Government securities Act of 1986. Under that
Act, the Treasury was given the role as the rulemaker for
government securities brokers and dealers.
In its rulemaking
capacity, Treasury issued rules for government securities brokers
and dealers that adopted many of the existing SEC regulations
that already applied to registered brokers and dealers. The
responsibility for enforcing these rules was given to the SEC and
the self-regulatory organizations for non-financial institution
brokers and dealers and to the appropriate Federal banking
agencies for financial institutions.
Salomon Brothers is, therefore, subject to comprehensive
regulation. As a registered broker/dealer and member firm of the
New York Stock Exchange, it is subject to all SEC and NYSE rules,
as well as Treasury rules under the Government Securities Act.
Based on the recent admissions by Salomon Brothers, it is
possible that the firm violated recordkeeping and customer
confirmation requirements, as well as other requirements that the
SEC and the NYSE have full authority to enforce. Moreover, any
allegations of market manipulation or securities fraud, if true,
would be a violation of securities laws that the SEC has the
authority to enforce. Like all persons and entities, Salomon
Brothers and its employees are subject to the antitrust laws and
general fraud statutes. Violations of these provisions could
result in criminal prosecution by the Justice Department.
As a general matter, the current regulatory structure has
usually worked well. And yet the recent revelations of
intentional wrongdoing have raised legitimate concerns about the
integrity of the marketplace and about the adequacy of regulation
and supervision. The ongoing investigations of misconduct are
broad ranging. We believe that it is appropriate to conduct an
equally careful review of the adequacy of current regulation,
with the goal of maintaining the highest standards of integrity
while also preserving the liquidity, efficiency, and depth of the
government securities market.
We would expect to complete such a review and to report its
results to Congress within 90 days.
In the interim period, we
believe that all parties involved -- including the regulators,
market participants, and the Congress -- should exercise
restraint. The market for u.s. government securities is the
largest, most liquid, and most important financial market in the
world.
It is the means by which we finance the national debt.
Moreover, it is the bedrock of the world financial system.
It is
essential that the integrity of this market be beyond question
3
and that there be adequate regulation to ensure that integrity.
But it is also essential that hasty action not impair the
liquidity and competitiveness of U.S. financial markets. A one
basis point increase in the interest cost on outstanding
marketable Treasury securities amounts to approximately a $230
million increase in annual interest costs.
In my testimony today, I will first discuss Treasury
auctions, including the role of the primary dealers and
significant auction rules, then present a chronology from
Treasury's perspective of developments concerning the February
and May auctions, and conclude with a discussion of policy and
regulatory issues.
I.
Background on Treasury Issuance of Marketable Securities
Treasury Auctions
As the chart accompanying my testimony shows, the Treasury
Department has auctioned large amounts of marketable Treasury
securities in the past ten years. In 1981, Treasury sold over
$600 billion of marketable Treasury securities; by 1990, this
figure had increased to over $1.5 trillion. As long as there is
a budget deficit, the amount of securities Treasury is required
to sell will tend to increase, not only to raise funds to cover
the shortfall between receipts and expenditures, but also to
refinance maturing debt.
The massive Treasury financing requirements have been
accomplished in an extraordinarily smooth and efficient manner.
In the face of the government·s large demands on financial
markets, interest rates, nevertheless, have trended down over the
last ten years. Treasury believes that the best way to achieve
the goal of minimizing borrowing costs to the U.S. taxpayer is to
minimize surprises to the market while having in place procedures
to ensure the fairness and integrity of the market for Treasury
securities.
The Treasury Department has a regular and predictable
schedule for offering marketable securities, which is well known
to market participants. The Treasury makes an announcement
as far in advance as is practical any time there is a change in
the usual pattern, so that the market can digest the information
and prepare for the offerings.
The Treasury Department provides a large amount of
information to the public that helps investors estimate the
amount that the Treasury will borrow and the types of securities
that the Treasury will offer. At the end of the first month of
each calendar quarter, the Treasury holds a press conference to
announce the securities to be offered in the regular mid-quarter
financing operation. At the press conference, the Treasury also
4
announces estimates of the Treasury's borrowing needs for the
current calendar quarter and the succeeding three months.
Currently, the Treasury sells 13- and 26-week bills every
week and 52-week bills every four weeks. Two-year and five-year
notes are auctioned every month for settlement at the end of the
month. Seven-year notes are issued in the middle of the first
month of each calendar quarter. The quarterly financings, which
settle on the 15th of February, May, August, and November,
typically consist of three- and ten-year notes and a thirty-year
bond. These regularly scheduled issues amount to about 157
separate securities auctions each year.'
The details concerning an offering of marketable securities
are announced about one week prior to the auction, and the
auction occurs from a few days to about one week prior to the
settlement date, depending upon holidays and other vagaries of
the calendar.
In a Treasury auction, competitive bidders submit tenders
stating the yield (discount rate for bill auctions) at which the
bidder wants to purchase the securities. The bids are ranked
from the lowest yield to the highest yield required to sell the
amount offered to the public. Competitive bidders whose tenders
are accepted pay the price equivalent to the yield that they bid.
, The Treasury also offers cash management bills from time
to time to raise funds to cover low points in the Treasury cash
balance. The maturity dates for cash management bills usually
coincide with the regular Thursday maturities of regular weekly
and 52-week bills. Short-term cash management bills maturing in
a few days or a few weeks may be issued when the Treasury's cash
balance is seasonally low. For example, cash management bills
may be issued in early April, before the April 15 tax payment
date, and mature later in April, when cash balances are at
seasonal highs. Short-term cash management bills may be
announced, auctioned, and settled in a period as short as one
day, if necessary, to ensure that the government does not run out
of cash. To shorten the time for the auction and reduce the cost
of issuing short-term cash management bills, they usually are
issued only in large minimum purchase amounts -- $1 million or
more -- and noncompetitive tenders are not accepted.
Longer-term cash management bills are also issued from time
to time.
For example, the Treasury's borrowing requirement in
the final calendar quarter of the year is typically larger than
for the April-June quarter, when seasonally high tax payments are
due.
Cash management bills maturing after the April 15, 1991 tax
date were issued in November 1990 to manage Treasury borrowing in
light of this seasonal pattern.
5
In an auction of Treasury notes or bonds, the coupon rate is
determined after the deadline for receipt of competitive tenders,
based on the average yield of accepted competitive bids.
Noncompetitive bids for up to $1 million from the public are
awarded in full at the weighted average yield of accepted
competitive bids. The ability to bid on a noncompetitive basis
ensures that smaller investors, who may not be able to obtain
current market information, can purchase securities at a current
market yield. Noncompetitive bidding eliminates the risk that a
prospective investor might bid a yield that is too high and not
obtain the securities desired or too low and pay too much for the
securities. Noncompetitive bidding also benefits the Treasury,
since the larger the amount awarded noncompetitively, the less
needs to be awarded to competitive bidders at successively higher
yields. It also serves the goal of achieving a broad
distribution of Treasury securities.
To participate in the auction, any potential investor may
submit tender forms to any Federal Reserve Bank or branch, which
act as Treasury's agent in the auction, or to the Treasury's
Bureau of the Public Debt. The tenders must be received before
12:00 noon, Eastern time, for noncompetitive bids and 1:00 p.m.,
Eastern time, for competitive bids. currently, tenders are
received at 37 sites. Typically, between 75 and 85 bidders
submit competitive tenders in Treasury's auctiops for securities
to be held in the commercial book-entry system.
Additionally,
between 850 and 900 bidders submit noncompetitive tenders in
Treasury auctions for securities to be held in the commercial
book-entry system. Also, on average there are about 19,000
noncompetitive tenders per ruction for securities to be held in
the Treasury Direct system.
2 The commercial book-entry system for Treasury securities
is operated by the Federal Reserve Banks, acting as Treasury's
fiscal agents. The Federal Reserve maintains book-entry accounts
for depository institutions and other entities such as government
and international agencies and foreign central banks. In their
book-entry accounts at the Federal Reserve, the depository
institutions maintain their own security holdings and holdings
for customers, which include other depository institutions,
dealers, brokers, institutional investors, and individuals. In
turn, the depository institution's customers maintain accounts
for their customers. Broker-dealers are currently not permitted
to maintain securities accounts directly with the Federal
Reserve.
3 The Treasury Direct system is designed primarily for those
who wish to hold Treasury securities to maturity; no custodial or
transaction fees are charged. At the end of 1990, 979,522
investors held 2.2 million security accounts in Treasury Direct
6
Depository institutions and primary dealers may submit
either competitive or noncompetitive tenders for their own
account and for the account of customers. All other entities or
individuals may submit either competitive or noncompetitive
tenders only for their own accounts. Depository institutions and
primary dealers are required to submit customer lists when
submitting bids for the accounts of customers. customer lists
for competitive bids must be submitted either with the tender or
by the close of the auction. Customer lists for noncompetitive
tenders must be received prior to the issue date.
The Federal Reserve Banks review the tenders for accuracy,
completeness, and compliance with Treasury's rules and
guidelines. The Federal Reserve Banks consult with the Treasury
Department prior to taking any action on questionable tenders
which could materially affect the results of the auction. The
Treasury reserves the right to reject any tender.
Once it has been determined that the tenders have complied
with Treasury's rules, the Federal Reserve Banks compile the
auction summaries. The noncompetitive summary shows the total
amount of noncompetitive bids received by each Federal Reserve
district. The competitive bid summary shows the total amount bid
at each yield. The summaries include information on specific
bidders only when needed to apply the 35% limitation on the
amount awarded or bid at a given yield by a single bidder or when
specific bids appear irregular. This information is forwarded to
the Treasury's Bureau of the Public Debt.
The Bureau of the Public Debt accepts noncompetitive bids in
full and then determines the yields that are to be accepted on
competitive bids. The amount awarded at the high yield is
prorated based on the amount bid at that yield to obtain the
offering amount.
Auction results are released to the public around 2:00 p.m.,
Eastern time, on the auction day.
Role of the primary Dealers
In order to conduct monetary policy, the Federal Reserve
buys and sells government securities in the secondary market.
The Federal Reserve determines with which dealers it will trade,
and these designated dealers, currently 39 in number, are called
primary dealers. Despite the name, designation as a "primary
dealer" refers to a secondary market relationship with the Open
Market Desk of the Federal Reserve System, not a relationship
with the Treasury. The Treasury does not determine which dealers
with a par value of nearly $59 billion.
7
can be primary dealers, nor does it set any criteria for this
designation.
The relationship between the Federal Reserve Bank of New
York and the primary dealers is a business relationship, not a
formal regulatory one. In order to assure itself of the
creditworthiness of the primary dealers, the Federal Reserve Bank
of New York requires that primary dealers submit reports to it
and that they permit FRBNY staff to inspect their operations and
books and records.
In addition to requirements that the primary dealers make
markets in all maturity sectors of Treasury securities and that
their share of the market meet certain minimums, the Federal
Reserve expects that primary dealers demonstrate their continued
commitment to the market for government securities by
participating in Treasury auctions.
Because of their importance to the government securities
market, their consistent participation in Treasury auctions, and
the monitoring of their creditworthiness by the FRBNY, primary
dealers share with depository institutions two privileges in the
auctions. As mentioned, only primary dealers and depository
institutions can submit bids for customers as well as for
themselves. In addition, tenders from primary dealers are
accepted without deposit, as is also the case for depository
institutions, States, political subdivisions or instrumentalities
thereof, public pension and retirement and other public funds,
international organizations in which the united states holds
membership, and foreign central banks and foreign states. others
must pay in full at the time the tender is submitted or, in the
case of notes and bonds, present a guarantee from a commercial
bank4 0r primary dealer of 5 percent of the par amount applied
for.
That there is a group of dealers with a commitment to the
government securities market is a benefit to the Treasury, which
offers securities every week of the year. However, it needs to
be emphasized that the auction process is open; and that others
besides primary dealers can and do participate, either directly,
or if they choose, through primary dealers or depository
institutions.
4 Treasury also permits tenders to be received without
deposit if there is a preexisting agreement with a depository
institution on file at the Federal Reserve Bank that authorizes
the Federal Reserve Bank to debit the reserve account of the
depository institution on the issue date for the securities
purchased by the bidder.
8
The 35% Rule
For the past 29 years, the Treasury has limited the maximum
amount of securities awarded to a single bidder in a Treasury
offering. The primary reasons for the limitation are to ensure
broad distribution of Treasury securities and to make it less
likely that ownership of Treasury securities becomes concentrated
in a few hands as a result of the auction.
The limitation has evolved over the years.
It was first set
at 25 percent of the total offering amount and applied only to 3month and 6-month Treasury bills. Today, for bills, notes, and
bonds, the limitation is 35 percent of the public offering. The
application of the 35 percent limit to any bidder includes
consideration of positions in the futures, forward, and whenissued markets. The same limitation is also applied to the
maximum amount Treasury will recognize as having been tendered at
any particular yield.
The genesis of the maximum award limitation was the unusual
occurrence of a single bidder tendering what would have been a
successful bid for an exceptionally high proportion of the 13week bills auctioned on August 27, 1962 and issued on August 30,
1962. On that occasion, secretary of the Treasury Douglas Dillon
invoked his right to reject any or all tenders, in whole or in
part, because of concern about a possible market disturbance that
could have resulted from the disproportionate allotment. On
August 28, 1962, the Treasury announced that "no single bidder
would be awarded more than one quarter of the total supply of
bills offered in either the 3- or 6-month bill maturities."
Subsequently, it became generally understood and accepted
throughout the market as applying to all Treasury offerings of
marketable securities.
The rule remained unmodified until May 14, 1979, when two
rule changes were announced.
First, the maximum award to any
single bidder in Treasury security offerings was limited to 25
percent of the total combined amounts of the competitive and
noncompetitive awards to the public. This rule excluded from the
25 percent calculation those Treasury securities allotted to the
Federal Reserve in exchange for maturing securities for its own
account and for the accounts of foreign official institutions.
It also excluded Treasury securities allotted to foreign official
institutions through the Federal Reserve for new cash.
This change was necessary because, by 1979, the size of bids
from foreign official accounts through the Federal Reserve, had
grown markedly. As a consequence, the amount of an offering
remaining for the "public" had shrunk significantly, despite the
general increase in the size of Treasury offerings.
9
The second modification announced on May 14, 1979, was the
requirement, in effect today, that, beginning on June 18, 1979,
all bidders in bill auctions report on the tender form the amount
of any net long position in excess of $200 million in the bills
being offered. This net long position is taken into account to
compute whether awards to any single bidder would exceed the
award limit. Such positions include when-issued, futures, and
forward positions in the bill and holdings of the outstanding
bill with the same maturity date as the new offering. Also, a
primary dealer bidding on behalf of a customer was required to
submit a separate tender for the customer whenever the customer's
net long position in the bill being offered exceeded $200
million. This new rule recognized the growing importance of
when-issued trading and trading in Treasury bill futures. A
similar rule for notes and bonds became effective on December 30,
1981.
The Treasury announced on September 8, 1981, an increase in
the limit on the maximum amount anyone bidder may purchase in a
bill, note, or bond auction to 35% from 25% of the combined
amounts of competitive and noncompetitive securities available to
the public. This was done to lessen the restrictive effect of
the modification made in 1979.
A further modification to the 35% rule was made on July 12,
1990. While continuing to permit bidders to tender for
securities at multiple yields, the Treasury announced that at any
one yield the Treasury will not recognize amounts tendered in
excess of 35 percent of the public offering. This rule change
was made necessary because several dealers began to place very
large bids, even greater than the total size of the offering, at
what turned out to be the high or stop-out yield. Because the
Treasury used the amount bid to prorate the securities awarded at
the highest yield among all bidders at that yield, a dealer who
guessed right about the stop-out yield and submitted a very large
bid could obtain a large proportion of the auction at the most
favorable yield. The rule change put a stop to this practice and
resulted in a more equitable distribution for bids awarded at the
highest accepted yield.
This abuse of the proration methodology occurred in the June
27, 1990, auction of four-year notes by a primary dealer who was
directly requested not to repeat the practice. This same dealer,
along with another bidder, however, placed bids for extremely
large amounts at a July 10 auction of Resolution Funding
Corporation bonds. This time the amounts were cut back for
purposes of proration at the stop-out yield. Two days later, in
order to put an end to this practice, Treasury announced the
rule change limiting the amount recognized as bid at anyone
yield to 35% of the public offering.
10
other Treasury Auction Rules
Single Bidder Guidelines. On June 1, 1984, the Treasury
issued guidelines concerning the definition of a single bidder
for the purpose of the $1 million limitation on noncompetitive
bids. These guidelines are also used to determine what
constitutes a single bidder for purposes of the 35 percent
limitation.
When-Issued Trading Prior to Auction. Pre-auction trading
in Treasury notes and bonds was effectively prohibited from 1941
to 1975. Pre-auction activity in Treasury bills has never been
prohibited, except in the case of noncompetitive bidders. until
1975, regular Treasury announcements of note and bond auctions
included a clause banning from the auction any participants who
engaged in purchasing, selling or making agreements on an issue
before the auction time and date.
Between February 1975 and July 1977, however, Treasury
announcements no longer carried this clause as it was thought to
be unnecessary. This allowed a temporary when-issued market in
Treasury notes and bonds prior to auction to develop. with the
2-year note auction of July 1977, however, Treasury once again
included the provision against pre-auction trading, citing
"undesirable speculative activity." This prohibition was
effective only for coupon securities.
Treasury decided to allow auction participants to engage in
pre-auction trading in order to "eliminate an unnecessary
regulation" beginning with the August 1981 issue of two-year
notes. Since then, when-issued trading has come to be considered
an important and efficient mechanism for reducing the
uncertainties surrounding Treasury auctions.
The only significant rule change subsequent to 1981 was an
October 1983 Treasury announcement prohibiting when-issued
trading on the part of noncompetitive bidders. This prohibition
applies to all Treasury securities and was intended to prevent
participants from garnering disproportionate shares of an issue
through noncompetitive auction bidding.
Bidder Certifications.
Bidders are required to certify on
the tender form that their net long position in the security
being auctioned is not in excess of $200 million, or, if it is in
excess, the amount of the long position. Depository institutions
and primary dealers must certify that any bids submitted on
behalf of customers have been entered under the same conditions,
agreements, and certification set forth in the tender form.
11
II. Chronoloqy of Recent Events Involvinq Salomon Brothers
The February 1991 Five-Year Note Auction
The Treasury's Bureau of the Public Debt received a call at
approximately 1:30 p.m. February 21, 1991, from the Federal
Reserve Bank of New York concerning the application of the 35%
limitation at a single yield in connection with the five-year
note auction that day. The FRBNY requested that a determination
be made regarding two separate bid sUbmissions from what appeared
to be a single bidding entity -- S.G. Warburg & Co., Inc. (S.G.
Warburg).
Salomon Brothers had submitted a tender for a customer
identified on the tender as Warburg Asset Management. S.G.
Warburg separately submitted a tender at the same yield for its
dealer account. Combined, the two bids exceeded 35% of the
public offering amount at a single yield by one bidder.
Prior to calling the Treasury, the Federal Reserve Bank of
New York had called Salomon Brothers concerning the Warburg Asset
Management bid. Salomon Brothers stated that they had made a
mistake and that Warburg Asset Management was actually Mercury
Asset Management.
The Treasury decided to accept both tenders. However, in an
effort to prevent future auction delays and any potential for
confusion, uncertainty, and inequity in the handling of bidders,
the Treasury, in consultation with the Federal Reserve Bank of
New York, decided to investigate the relationship of Mercury
Asset Management and S.G. Warburg to determine whether these
bidders constituted separate and distinct entities for bidding
purposes.
The Treasury discussed the issue with Tom Murphy of Salomon
Brothers and with an officer of S.G. Warburg. It was determined
that Mercury Asset Management, a British company, is majority
owned by the same holding company that owns the British
subsidiary that owns the u.S. firm of S.G. Warburg.
After reviewing the facts of the case, the Treasury decided
that S.G. Warburg and Mercury Asset Management would be treated
as a single bidder for purposes of applying the 35% limitation
rule in future auctions. The decision was based primarily on the
fact that the Treasury's guidelines for determining a single
bidding entity are based on the principle that bidders that share
common investment advice and management control are viewed as a
single entity.
The Treasury's Bureau of the Public Debt sent a letter dated
April 17, 1991 to Mercury Asset Management which provided details
concerning the two bids submitted in the February five-year note
12
auction and Treasury's decision to treat the two entities as a
single bidder for purposes of the 35% limitation rule. Copies of
this letter were sent to officers of S.G. Warburg, S.G. Warburg,
PLC (the British parent company), and the Federal Reserve Bank of
New York. In addition, a copy of the letter was sent to Mr. Paul
Mozer of Salomon Brothers.
As Salomon Brothers has now admitted, the bid from Mercury
Asset Management was unauthorized. The securities in question
were in fact purchased by Salomon Brothers. It appears from
Salomon Brothers' public statements that the letter from Treasury
played an important role in Mr. Mozer's decision to inform senior
management of the fraudulent bid. Salomon Brothers did not
inform the government of this violation until August 9.
Although both Mercury and S.G. Warburg replied to the
Treasury's April 17 letter on April 25 and May 22, respectively,
they did not inform the Treasury that the Mercury bid was
unauthorized. Treasury first learned of this fact from Salomon
Brothers on August 9. The Treasury and the Federal Reserve have
arranged to meet with Warburg officials this week to discuss this
matter.
The Hay TWo-Year Note Auction
The May two-year note auction also attracted attention at
the Treasury.
It soon became apparent after the auction of $12.25 billion
of two-year notes on May 22, 1991, that a squeeze had developed
in the issue. The yield on the two-year notes was out of line
with market rates and the notes were lion special" in the
repurchase agreement market.
(In other words, market
participants desiring to borrow temporarily the two-year notes
had to accept a significantly lower interest rate on funds they
deposited with their counterparties in effect as collateral than
the prevailing repo rate.)
A number of market participants contacted the Treasury
Department to point out this situation. Treasury Department
officials also had details concerning the bids received and
awarded to primary dealers and their customers. It appeared from
this information that the squeeze had developed because Salomon
Brothers and some of its customers had bid more aggressively than
others and had been awarded the bulk of the securities. Treasury
Department officials thought the situation serious enough to
warrant investigation by the Securities and Exchange Commission.
In late May, the Treasury told the Division of Market Regulation
and the Division of Enforcement of the SEC about the problems
stemming from the May auction and provided the SEC information
concerning auction awards. The SEC promptly began investigating
the matter. In addition, the Antitrust Division of the Justice
13
Department requested information pertinent to its own
investigation of the squeeze.
On June 4, a Treasury Department official discussed
Treasury's concerns with Mr. Paul Mozer. On June 10, Mr. John
Gutfreund, chairman of Salomon Brothers, met with Treasury
officials to explain the firm's point of view with respect to the
May two-year notes. He did not mention the fraudulent bid in the
February auction.
The Treasury was concerned about the squeeze in the May twoyear note for several reasons. First, any such squeeze goes
against the goal of achieving a broad distribution of securities.
If dealers are not reasonably comfortable that they can obtain
and deliver securities that they have sold prior to the auction,
they will be less likely to participate in pre-auction
distribution of new issues. Second, while squeezes can occur for
reasons other than market manipulation, squeezes in Treasury
securities that appear to be deliberately engineered would likely
cause some market participants to question the fairness and
integrity of the government securities market. If doubt
concerning the fairness of Treasury auctions persists over the
longer term, the number of active participants in the government
securities market could be reduced. The resulting decline in
participation in Treasury auctions and in the liquidity of the
secondary market could raise Treasury borrowing costs. Finally,
Treasury was concerned that there may have been possible
violations of securities and other laws in the government
securities market.
Subsequent Developments
On August 9, Mr. Gutfreund, in a telephone call to Under
Secretary Robert R. Glauber, informed him of the unauthorized
Mercury bid and his knowledge of this since April.
Also, on August 9, Treasury officials were provided an
advance copy of Salomon Brothers' announcement released later
that day, in which the firm admitted committing violations of the
35% rule in the December 1990 auction of four-year Treasury
notes, the February 1991 auction of five-year notes, and the May
1991 auction of two-year notes and announced the suspension of
two managing directors responsible for Treasury securities
trading and two other employees.
On August 14, Treasury staff, along with staff from other
concerned government agencies, attended meetings at the Justice
Department and at the SEC with the law firm of Wachtell, Lipton,
Rosen & Katz, which was representing Salomon Brothers in this
matter. The Wachtell, Lipton lawyers detailed the results of
their investigation of the irregularities and rule violations in
Treasury auctions as well as related matters. Also, on August
14
14, Salomon Brothers publicly announced further details of rule
violations in Treasury auctions and the fact that the senior
management had been informed in late April of an unauthorized bid
in the February 1991 auction but had not informed the appropriate
government officials of this.
After consulting with the Federal Reserve and the SEC, the
Treasury Department announced on the morning of Sunday, August
18, that, in light of Salomon Brothers' auction rule violations,
it would for an indeterminate time not allow the firm to
participate in auctions of Treasury securities. This penalty was
modified later in the day after Salomon Brothers' board meeting
resulted in the immediate resignation of three senior officials
of Salomon Brothers, the firing of the two suspended managing
directors, and the placing of effective management control of the
firm in the hands of Mr. Warren E. Buffett. Mr. Buffett assured
Secretary Brady that appropriate controls were being put in place
to assure that there would be no future rule violations in
Treasury auctions. Consequently, Secretary Brady decided to
allow Salomon Brothers to bid in auctions for its own account but
not to allow it to submit bids for its customers.
The Treasury was subsequently provided specific information
concerning the procedures and controls Salomon Brothers has put
in place to ensure that there would be no violation of auction
rules. The new procedures and controls appear to be a good faith
effort to prevent future rule violations.
The Treasury Department is assisting the SEC and the Justice
Department in their continuing investigations of Salomon
Brothers' activities in the government securities market. While
the Treasury Department has no enforcement authority in the area
of securities or antitrust law, the Treasury can help these two
agencies with its expertise concerning the market for Treasury
securities.
xxx.
Policy and Regulatory Xssues
The admissions that Salomon Brothers has made have caused us
to reexamine various policy issues concerning both the issuance
of Treasury securities and regulation of the government
securities markets.
I am pleased to share with the Subcommittee
the Treasury Department's current thinking with respect to
changes in the auction process, including automation, large
customer certification, and "Dutch auctions," the Treasury
Borrowing Advisory Committee, and Government Securities Act
issues.
changes in the Auction Process
Automated bidding. We believe that automation of the
auction process will make it more efficient, result in fewer
15
errors, facilitate broader participation, and assist in
monitoring of compliance with auction rules. Consequently, the
Treasury and the Federal Reserve have made the development of a
system to permit automated bidding a high priority.
A project is underway at the Federal Reserve Bank of Kansas
City that will allow medium and smaller depository institutions
and other institutional bidders to submit their bids to the
Federal Reserve Banks electronically. We expect this project to
be completed by the second quarter of 1992.
There is also a project underway at the Federal Reserve Bank
of New York that will enable electronic bidding by large bidders.
This project is currently in the design phase.
Larqe customer certifications. The Treasury and the Federal
Reserve Bank of New York will develop a system to require
customers who make large winning bids through primary dealers or
depository institutions to verify in writing their bids prior to
the settlement date. This will prevent firms from putting in
unauthorized bids in order to circumvent the 35 percent rule.
Already, the Federal Reserve Bank of New York has begun
making spot checks with customers of primary dealers to verify
the legitimacy of bids submitted for customer accounts.
"Dutch" auctions. The Treasury currently uses a sealed-bid
"discriminatory price" auction to sell its securities. The
auction is "discriminatory" because different bidders pay
different prices for the same security, based on their bids. In
other words, competitive bidders whose tenders are accepted pay
the price equivalent to the yield that they bid.
In a sealed-bid uniform price auction, sometimes called a
"Dutch" auction, all bidders whose tenders are accepted pay the
same price for a given security. This price is the lowest of the
accepted prices bid (or highest of the accepted yields). As a
result, in a Dutch auction, some of the bidders whose tenders are
accepted pay a lower price than they actually bid. At first
glance, this appears to be a revenue loser, because "money is
left on the table." On the other hand, it is commonly argued by
economists that participants in a Dutch auction can be expected
to bid higher prices than they would in a discriminatory price
auction. As a result, the relative revenue effects of a Dutch
auction versus current practice are uncertain.
In 1976, two Treasury economists prepared a study on Dutch
auctions using Treasury tender data from the six uniform price
auctions Treasury conducted earlier in the 1970s and from
discriminatory price auctions of Treasury bonds during the same
general time period. The study indicated that there was some
evidence that Dutch auctions resulted in somewhat reduced costs
16
to the Treasury. From 1976 to 1980, two consecutive Deputy
Assistant Secretaries for Debt Management refused permission to
the authors to have the study published. Finally, in early 1980,
their successor decided that the study could be published with
the usual disclaimer that it represented the views of the authors
and not necessarily the views of the Treasury Department. The
study was to have been included in a book edited by Professor
Vernon smith of the University of Arizona: however, in 1981, at
which time both authors were no longer with the Treasury, the
authors discovered discrepancies in the data used in the study.
Neither author had the interest, the time, or easy access to the
raw Treasury data to investigate this problem and put the article
into publishable form.
It is not certain whether any of the
authors· conclusions would have changed if they had continued to
study the issue and identified the reasons for the data
discrepancies.
The perceived advantages of Dutch auctions are that they
eliminate the primary dealers· advantage over less informed
participants, since all buyers pay the same price. This could
broaden auction participation and induce more non-specialist
investors to bid directly for their own account rather than
through primary dealers. This should naturally lead to less
concentration of ownership at auction.
A potential disadvantage of Dutch auctions relative to the
current auction method is the concern that primary dealers may be
somewhat less willing to participate in Treasury auctions. This
could cost the Treasury, and taxpayers, in the long run.
In
addition, the use of Dutch auctions does not itself eliminate the
opportunities for collusion among major participants for purposes
of underbidding on securities or cornering a particular issue.
Finally, Dutch auctions could increase the number of bids from
non-dealers and thereby complicate auction administration and
possibly slow down the auction process. However, automation of
the auction process would substantially reduce these costs.
Treasury is reviewing all of its auction procedures. We
believe that changes should be made only after careful
consideration, given the large volume of securities we issue and
the potential costs to the taxpayers of ill-conceived or hastily
implemented changes.
Borrowing Advisory committee
In light of the concerns that have recently been expressed
concerning the Treasury Borrowing Advisory Committee, I would
like to address this issue.
The Treasury Department receives advice on debt management
from government securities market participants formally through
the Treasury Borrowing Advisory Committee of the Public
17
Securities Association, chartered under the Advisory Committee
Act of 1972. Prior to 1972, Treasury had been receiving advice
on debt management from informal committees since World War II.
The Treasury meets with the advisory committee, at the request of
the Secretary, the Tuesday before the regularly scheduled
Wednesday announcement of 3-, 10-, and 30-year Treasury
securities in the mid-quarter refunding. The committee is given
a specific list of items on which its advice is sought.
The membership of the committee currently consists of senior
level officials from ten primary dealer firms and eight
institutional investor firms. The committee makes a unique
contribution by providing informed advice in a forum that
requires the members to form consensus recommendations, or at
least majority recommendations, that the Treasury would be unable
to get in any other way. Free and open discussion among the
committee members during meetings prior to making recommendations
has served to minimize any problems of evaluating conflicting
recommendations due to such factors as the specific business
interests of the various members' employers.
In addition to receiving recommendations of the advisory
committee, Treasury representatives meet with primary dealers at
the Federal Reserve Bank of New York before each quarterly
refunding operation. Moreover, we receive advice from market
participants who call or write to the Treasury on an ad hoc
basis.
At the beginning of each meeting, the Committee receives
Treasury's latest estimate of Treasury market borrowing needs and
historical background information related to Treasury borrowing
and debt outstanding. Members are not permitted to contact their
firms from the time the meetings with the Treasury begin until
the Treasury financing announcement appears on the news wire
services the next afternoon.
The Treasury Department provides a large amount of
information to the public that helps investors estimate the
amount that the Treasury will borrow and the types of securities
that the Treasury will offer. Treasury regularly makes
information that is provided to the advisory committee available
to the public during the press conference announcing each midquarter refunding. Beginning with estimates to be used in
connection with the November refunding, scheduled for
announcement on october 30, 1991, we will release the latest
estimates of Treasury borrowing requirements to the public prior
to convening the committee.
Government securities Act Issues
We believe that the basic regulatory structure of the
Government Securities Act of 1986 (GSA) is sound. It recognizes
18
that Treasury is in the best position to set rules for all
brokers and dealers, including financial institutions, that are
consistent, assure fairness and integrity in the government
securities market, but that do not result in inordinate cost to
the taxpayer by not allowing the government to finance itself
efficiently. However, some changes need to be made, particularly
in the sales practice area. We support the modifications to the
Government Securities Act of S.1247.
Sales Practice Rules. Treasury believes that legislation
applying sales practice rules to the government securities market
will strengthen investor confidence and integrity in the market
and will significantly enhance customer protection. Sales
practice rules should not result in excessive burdens or
significantly increase costs because diversified broker-dealers
now must comply with sales practice rules for their corporate and
municipal securities activities, while banks that conduct a
business in municipal securities must comply with sales practice
rules of the Municipal Securities Rulemaking Board. We believe
that sales practice rules should apply to all government
securities brokers and dealers -- both bank and non-bank brokerdealers.
The GSA was enacted to correct only those areas of
documented abuse and weakness in the government securities market
(e.g., unregistered broker-dealers and hold-in-custody repos)
that existed at the time, because of the concern that excessive
regulation would impair the efficient operation of the market.
Consequently, the GSA did not grant Treasury the authority to
prescribe sales practice rules pertaining to transactions in
government securities. Additionally, the GSA continued the
restriction placed on the National Association of Securities
Dealers (NASD) that prohibits it from applying its sales practice
rules to the government securities transactions conducted by its
members.
It is difficult to assess the magnitude and severity of the
problem given the lack of specific evidence of widespread sales
practice abuses. Indeed, some of the well publicized cases
involving customer losses in government securities transactions
may not have stemmed solely from abusive sales practices.
Nevertheless, the government securities market is the only
regulated securities market in the United States that does not
have sales practice rules. The same kinds of abuses that made
sales practice rules necessary in the corporate, municipal, and
penny stock markets may well occur in the government securities
market. Treasury believes it is necessary to prevent
unscrupulous brokers and dealers, who may have operated in these
other markets until the advent of sales practice rules, from
moving to the government securities market.
19
Sales practice rules for the government securities market
would also enhance protection of smaller, less sophisticated
investors, who are attracted to the market because of their
desire for safe investments. Additionally, since the government
securities market increasingly encompasses instruments that can
pose considerably greater price risk than traditional Treasury or
agency securities, sales practice rules have become increasingly
important.
Any proposed regulatory structure for government securities
sales practice rules must retain a prominent oversight role for
Treasury, consistent with the regulatory approach set out in the
GSA. Such a role is necessary and appropriate given Treasury's
strong interest in minimizing the cost to the taxpayer of
financing the public debt by maintaining the liquidity,
efficiency, and integrity of the government securities market.
Treasury is also in a unique position to evaluate the actual or
potential impact of sales practice rules on the liquidity and
efficiency of the market. Accordingly, Treasury supports S.1247,
which would grant authority to regulatory agencies and the NASD
to issue government securities sales practice rules, if the
Treasury has not determined that the rules would "adversely
affect the liquidity and efficiency of the market for Government
securities" or "impose any burden on competition not necessary or
appropriate" in furtherance of the purposes of the GSA.
Electronic Dissemination of Pricing and Trading Information.
Treasury supports expanded disclosure of and access to government
securities price and volume information. The expanded
availability of such information would serve the public interest.
When a broad spectrum of market participants can obtain current,
accurate information on market conditions, the competitiveness,
liquidity and efficiency of the government securities market
should improve, as should the auction process. Moreover,
expanded information access would serve to enhance customer
protection, since customers would be in a better position to
determine actual or potential transaction prices for securities,
especially for inactively traded issues, and to evaluate the
fairness of trades being proposed by a broker or dealer. Access
to more accurate price and volume information also enhances the
ability of regulatory authorities and independent auditors to
verify that securities transactions and positions have been
properly valued.
In its 1987 report, the GAO recommended that the private
sector be given time to develop systems that would provide market
participants increased access to government securities pricing
information. In its follow-up report issued in September 1990,
the GAO recommended that Congress legislatively mandate that
government securities price and volume information be made
available on a real-time basis to anyone willing to pay the
appropriate fees and that Treasury be assigned authority to
20
prescribe regulations as needed to ensure that such transaction
information is available.
Recently, private sector initiatives such as GOVPX and EJV
have become operational and have made significant steps toward
disseminating the type of government securities price and volume
information that would serve the public interest. Consequently,
we fully support the efforts undertaken by these private sector
groups in this area. We also recognize that these initiatives
are just beginning, and it is uncertain how successful they will
ultimately be. In addition, these private sector systems to date
do not encompass the market for government securities that are
not direct Treasury issuances.
Even with these concerns, we believe these initiatives are
an encouraging indication that adequate private sector solutions
can be found without the need for additional federal regulation.
They should be allowed additional time to develop before any
rulemaking authority is determined necessary. Treasury supports
S. 1247, which provides for a joint Treasury/SEC/Federal Reserve
Board evaluation of private sector initiatives regarding the
dissemination of price and volume information that will permit
further development of these efforts, while providing for
continued scrutiny.
IV. Conclusions
Salomon Brothers' recent admissions are a major development
that are bringing the government securities market close
scrutiny.
Treasury auctions. Since the May auction and the squeeze in
two-year notes, Treasury has been considering changes in its
auction rules. We stated in a letter to Congressman Markey dated
July 1: "Treasury is concerned that there have been several
recent auctions resulting in a concentration of ownership at
original issue •.. Treasury is considering changes in its auction
rules that would make this concentration of ownership less
likely."
With respect to the information advantage that it is
perceived gives primary dealers an edge in Treasury auctions, the
information that has recently been made available on interdealer
broker screen quotes through GOVPX has made for much broader
dissemination of market prices. We expect that in the future
even more price and volume information will be made generally
available. This will make for a more level playing field for all
participants in the government securities market and in Treasury
auctions.
Finally, with respect to the Salomon Brothers matter, we
currently have no evidence that other firms have engaged in the
21
specific types of auction practices admitted to by Salomon
Brothers. We do, however, believe it is salutary that major
market participants are reviewing their own procedures for
participating in the auctions.
Regulation. until recently, it had been our view that
existing legal authority was sufficient to deal with misconduct
in the government securities markets. However, Salomon Brothers'
recent admissions of wrongdoing are deeply troubling, as are the
allegations of more widespread misconduct in the markets. The
entire situation warrants, and is receiving, a sweeping, thorough
investigation by the appropriate regulatory authorities.
until that investigation is reasonably complete, we would
prefer to withhold judgment as to the adequacy of existing laws
and regulations, as well as existing enforcement capabilities and
practices. The market for u.S. government securities is the
largest and most important securities market in the world, and
any changes in its regulation should only be made after careful
collection and review of the facts.
We also recognize the urgency of this matter and the desire
of Congress to take prompt and appropriate corrective action.
The Treasury, in consultation with the Federal Reserve and the
SEC, therefore undertakes to report back to the Congress within
90 days as to any recommended legislative or regulatory changes.
We anticipate that this review will address in some depth the
adequacy of existing legal authority and enforcement practices to
detect and punish wrongdoing in the government securities
markets, while also maintaining the extraordinary liquidity and
depth of our marketplace.
Questions have also arisen as to the status of the
Treasury's rulemaking authority under the Government Securities
Act, which will lapse unless reauthorized by October 1. In the
view of the Treasury, the Federal Reserve, and the SEC, it is
important that there be no such lapse in rulemaking authority.
We therefore urge that the reauthorization take place on schedule
or that Treasury's rulemaking authority be temporarily extended
beyond the October 1 "sunset" date.
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TREASURAY,OJ~EWS
••partment of tile Tr••• ulY • • •• lIlnaton, D.C. • Telellhane 5.&.204'
~EP l j J1\ I I 4 4 I
);:PT. OF THE Tr,EASURY
FOR IMMEDIATE RELEASE
September 11, 1991
Contact:
Cheryl Crispen
202-566-2041
The Department of the Treasury Announces Changes
to the Treasury Auction Process
The Treasury Department today announced actions aimed at
ensuring continued integrity in the government auction process.
In announcing the actions, Secretary of the Treasury Nicholas F.
Brady said, "The u.S. government securities market is the
largest, most efficient and liquid market in the world. We are
taking these steps to ensure its continued integrity. In
addition to these actions, the Treasury Department will continue
to review the auction process to determine what other changes may
be appropriate."
The following changes will be instituted:
written verification of Bids
o
The Treasury Department and the Federal Reserve Bank of New
York will develop a system to require customers to provide
written verification of large, winning bids prior to the
settlement date and receipt of the security being purchased.
This change is aimed at ensuring the authenticity of large,
winning bids placed on behalf of a customer by a primary
dealer.
Public Release of Borrowing Needs
o
NB-J44~
Effective immediately, data on Treasury quarterly borrowing
needs will be released two days prior to each quarterly
refunding announcement and prior to the meeting of the
Public Securities Association (PSA) Treasury Borrowing
Advisory Committee Meeting.
Information on borrowing needs is now provided to the PSA
Advisory committee at the beginning of its meetings, which
are the day prior to each Quarterly Refunding Announcement.
The PSA Advisory Committee uses this information to make
recommendations on what securities it feels would be most
cost effective for the Treasury to issue. senior officials
in the Office of Domestic Finance at the Treasury Department
use the PSA recommendations, Treasury staff recommendations
and calculations, other private sector recommendations,
technical data and historical data to decide what securities
to issue.
Permanent Operating Group on Information Sharing Formed
o
The Treasury has created a permanent Operating Group on
Market Surveillance to formalize and expand information
sharing among the government regulators. Members of the
group will be representatives from Treasury, SEC and the
Fed.
Working Group Expanded to Speed Auction Automation
o
The Treasury/Fed Working Group on Auction Automation has
been working to automate the government auction process to
improve efficiency and accuracy and to enhance supervision
and compliance. These efforts will be strengthened and
accelerated with completion of the first phase of automation
expected in the first half of 1992. In addition, the
existing Treasury/Fed Working Group on Auction Automation
will be expanded to include the SEC.
EMBARQOED UNTIL CIVZN
EXPECTED AT 10100 A.M.
SEPTEMBER 12, 1991
STATEMENT OF THE HONORABLE JOHN ROBSON
DEPUTY SECRETARY OF THE TREASURY
BEFORE 'l'HE
SUBCOMMITTEE ON FINANCIAL INSTITUTIONS SUPERVISION,
REGULATION AND INStmANCE
SEPTEMBER 12, 1991, 10s00 A.M.
2128 RAYBORN HOUSE OFFICE BUILDING
Mr. Chairman, members of the SuJ:»committee, I am pleased to
appear ~oday on ~ehalf of Secretary .r.~y, the Chairman of ~he
OVer.iqht Board of the R.solution Trust Corporation. Accompanying
me is Peter Monroe, President of the OVersight Board. As your
invitation asks, I will discuss the Board's requ •• t ror additional
funding for the RTe, RTC asset disposition, and RTC restructuring.
We are pleased that the Subcommittee ia qivinq attention to
the important, indeed urgent matter of providing additional funds
~o
elo •• fail.d
~hrif~.
and
pro~.et
their depoaitora
i~
fulfillm.n~
of our government's inaurance commitment.. At the end of Auquat,
more than 16 million deposit accounts had ~een ~rotected. Five
hundred and twelve thrit~. had been clo.ed in
5~a~ •• , an4 abou~
135 thrifts were pending in con.ervatorship in these and another
three states. People allover the country - more than 16 million
of them - have had their depOSits saved by the money Ccnqre •• has
voted for this effort. I cannot stress too strongly the point that
.2
th.ae
~eopl.
could have lost
~.ir
aavin9s, and that they did not
because our 90vernm.n~ honored its deposit insurance obligations.
Our commitment to the •• depositors ha. meant continued public
confidence in the banking system.
More remains to be done, however, and both additional loss
funds and working capital are ne.ded to complete the taak. Loa.
funds are the monies needed to fill the "hole" between an institution·a deposita and the value of its as.ets. Thi. i. the money
that savings and loans have lost through bad investments, mismanagement and fraud, and the effects of weak real estate markets
even on reasonably well-managed thrifts.
Working capital, on the other hand, is used to finance RTC'.
acquisition of the as.ets of failed thrifts until they are sold.
It is borrowed by the RTC from the Federal Financing Bank (FFB),
and th••• borrowinqa are backed by .eized assets. The RTC expects
to repay its working capital borrowinqa trom the proceeds of the
sales of these assets.
NB-1450
LoSI
Fund R.qul.t
To date conqress ha. authori~.d $80 billion in 10S8 fundi for
depositor prot.ctiona $50 billion in FIRREA and $30 billion in the
RTe FUndinq Act of 1991. Th. RTC ••timatea that it will compl.te
the re.olu~ion ot approximat.ly '8' thrifts by ~• •nd of thi.
fiscal Ylar, and by the end of Octob.r or .hortly th.reafter will
hav. used all S80 billion.
How much i. n.c.saary to compl.te the ta.k? S.cr.tary Brady
ha. ~ep.at.dly warnad tha~ th. ultimate co.t of the S'L cleanup is
very difficult to estimate becau•• it i. driv.n by unpr.dictabl.
real •• tate mark.ts, int.r••t rat •• , and the atat. of the .cono.y.
How,vlr, th. oversight Board and the RTe .stimate that th. additional amount of loss fund. n.cessary to complete the task of
cloainq defunct .avin;. and loan. and protecting depo.itors could
be as high a. $80 billion.
Our requeat tor an additional S80 billion in budq.t dollar. is
based upon the cons.rvative assumption that all institution.
currently d.signat.d by the Of tic. of Thrift Sup.rvision COTS) a.
Group IV, IIIC And %%%8 would ~equir. recolution by the RTC. While
OTS now desiqnates only Group IV institution. a. in probable n•• d
of government asaistanc., we have takan a mora conservative approach for three r.asons. First, OTS d.signations repr•• ent a
snapshot 1n time. Some institutions currently in Group III could
ba downqraded in the future, and past 'xperience indicat.s that
this is likely. Second, our toracast of thrift fa1lures should
make allowanc. for the current uncertainty in real .state markets
and the economy. Thir4, no one oan predict with any deqree of
certainty what the final cost of the thrift cl.an-up will be, .0 we
have .leeted to assume a .om.what pessimistic scenario to .nsure
that sufficien~ fundS are avai1abl. tor the prompt, orderly resolution of institutions that are tound to b. operating in an unsafe
and unsound condition.
The Oversight Board th.retore asks that Congress provide the
RTC with eufficient funas to complete the job, which we estimate
could b. up to $80 billion. This would r.cognize -- as the budget
does -- that deposit insurance i . a mandatory obligation of the
gov.rnment, and ehat hav1ng pledge4 to protect depoeito~., the
government must honor that plldge.
Th1s action would also recognize that delays 1n fund1ng s1~ply
add to taxpayers' costs. As the Congressional Budg.t Offic. points
out in it~ mo.~ rec.n~ Budget Ou~look, "limitinQ ••• funds does
nothiny to reduce ev.ntual sp.nding_ In fact, it can drive up
costs f it slow. the pace of r •• olutiona and enables ailing
institutions to stay in buaines..
Tbe •• coata of delay can b.
formidable." It is worth adding that a eso study round that
forbearance - that is, delaying resolution - during 1980-1991 Qf
institutions known to De insolvent, cost an extra $66 billion in
1990 dollars.
The point is, Mr. Chairman, that tailure to provide RTC with
additional funds betore the ••slion ends would require the RTC to
delay it. closure of ineolvent thrifts. The longer the period of
delay the hiQher the extra cost of the cleanup to the taxpayer.
That i. why we believe the only .ensible course ia to provide now
.uffic1ent fun4s ~o get th1a enormous, unprecedente~ task ~.hind
us.
A4dinq cur request for $80 billion to the previoualy authorized $80 ~illion would total $160 billion budqet dollars, which
conve~s to approximately $130 billion in 1989 dollars.
The OVerai9ht Board bas estimated in paat testimony that the
total cost Of ~e savings and loan gleanup would ~. in the range of
$90 to $130 billion in 1989 dollars. Aa Secretary Brady has
testified, because of economic conditions and deterioration in raal
estate .arketa, the most likely cost scenario has moved to the
higher end of this ran;e, but it re.ains within it. We continue to
b.lieve that the •• tima~e remaina valid.
Werking capital Bequ•• t
By the end of this fiscal year, RTC expects to have $70 billion
in workinq capital borrowinqs outstand1ng, an amount well w1~h1n
the borrowing lim1tation set by FIRREA. However, durin; 1992, RTC
could exceed the $125 billion permitted ~y the note cap.
Therefore we are approachinq the time when additional borrow-
1n9 authority will be n •• 4ed. w. estimate that working capital
needs could peak at $160 billion by mid-1993. At that time the
outstanding FFB balance. will begin to decline.
Secause both loss funds and working capital funds are required
to complete resolutions, it i. imperative that loss fund authoriza-
tions be matched with adequate working capital borrowings. Therefore, we request that ecft9ress raise the RTe's borrowinq limit to
$160 ~illion. Not to do so might cre.t. a situation in which RTC
is preasured to dump asseta at tire-sale price. simply to stay
under the limit. Failure to raise the borrowing limit would just
aa surely prevent the RTe frOm resolving thr1t~s anO protecting
depositors •• delays in fundin; do.
It haa been suggested that RTe asset aales can be used to fund
los •• a. This cannot b. done because these assets are the only
source o~ repaying FFB borrowings. If proee.4. from a •• at aalas
are used to fund losses, FFB borrow1nqs cannot be repaid. As I
said earlier, both CongreSsionally authorized los. funds and FFB
borrowings ara necessary to continue the cleanup and protect
depositor••
3
Extension of QTS Transfer Authority
AlthouQh ~h. axact number of thrifta atill to be ra.olve4 with
Faderal a •• istance cannot be known, wa can estimate that virtually
all nonviable thrifts will be transferred to the aTe for r.solution
durin9 the next two yeara. Hewever, current law provide. th.~ CTS
may transfer thrifts to RTC for closing only until Auqust 9, 1992.
Therefore w. request an .xtension of OTS transter authority until
Sept.mber 30, 1993, for the followin~ r.ason.:
•
The ca.eload i. larqer than anticipated. Th. number of
failed thrifts requiring resolution by the RTC has qrown
beyond our .stimates at the tim. FIRREA was written.
•
By adherin; to the current deadline
could cr.ate an
incentive for rushin; borderline thrifts to the ~C, and
tha~ coul~ •• an forcing a lar;e number ot thrifts into
conservatorship for a long »erio4, during which th.y
would lose franchi.e value.
•
RTC was de.igned to clean up the insolvent sector of the
thrift inductry. Th. in~.nt of FIRREA was tha~ the SAIF
would ~eqin with a healthy industry. Therefore ware
thrifts to be transferred to SAIF .tarting Auqust 9 next
year, SAlT would have to gear up for a t.ak that i .
already be1n; performed by the RTC.
w.
For all these reasons we believe it make. qood sen.e to
provide the extension until september 30, 1993. We do not believe
thi. will havQ any .ffect on ~h. 1996 deadlina for terminating the
RTC.
.che~ule for contributions to the SAIF,
in fiscal year 1992 if Con;ress an~ the Administration
take further appropriations action. However, if Congress act. on
thi. request, SAIF will not take insolvent institution. until
October 1, 1993. The President'. budget e.timate. that at that
d~tQ, SAIF ahould hava about $1.6 billion in its reserv•• from
premium income. At this time, it i. too aoon to tell whether or
how much of a contribution Trea.ury will need to make to SAIF.
FIRRZA sets up a
~e9inning
secretary Brady has stressed that w. cannot predict ultimate
costs and borrowing need. with certainty~ As the General Accounting Office noted in it. 1989 Financial Audi~ Of ~he RTe, "the
actual co.t ••• will depend on the outcome of various uncertainties," including the number of institutions transferred to the RTC,
the .xtent of their operating 10•••• , the quality and .alability of
their a •••t., and the conditions at the economy, especially in
c.~a1n
geographic area ••
PROGRESS IN MEETING CLEAN-UP GOALS
.0
The RTC i. makino proqress. It is doinq
by adhering to the
four guiding objectiv•• established by President Buah when he
proposed hia aolution to the savings and loan crisis aoon after
takin~
office.
Firat, protect insured depositor.: the million. of Americana
who acted in tru.t when they deposited their savings in ra4erally
in.ured accounts. We ••timat. that by the end of this fiscal year,
nearly 19 million ~eo~le with deposit accounts avaraqino leas than
$10,000 will have been protected.
Second, re.~ore the safety and .oundne•• of ~h. 1ndu8~~ 80
that another crisis will not occur. New, FIRREA mandated capital
standard. are bein; pha••d in. OTS reports that more than 1,700
institutions now meet, or expect to meet, these cap1tal staneares.
Further, the private seqment of the thrift industry reported net
income of about $997 million in the first half of 1991, com~ar.d to
about a $675 million los. in the first halt last year.
w.
Thir~, clean up tha overhanq of insolvent S'La so
can q.t
the problem behind us, and do it at the least coat to the taxpayer.
When FIRREA created the RTC on August 9, 1989, RTC immediately
~ecame responsible for closing 262 insolvent thrifts.
By October
1, 1991 it will have closed 569 insolvent thrifts, one about every
33 hours.
Fourth, aggressively pursue and prosecute the crooks and
operators who halpe~ craa~. tbe problem. As of July 31,
over 800 individuals have been charged criminally, ot whom 100 have
been thrift CEO's, board chairmen, or presidents. To date, approximately eoo individuAls have been convicted for ~hri~t crime.,
with about 80 percent of those sentenced receiving prison terms.
fr.u~ulent
PROGRESS IN IMPROVING RTC MANAGEMENT
Improving the management of the RTC has been an important
objective ot the oversight Beard and the RTC becau.e streng internal control. an~ effective managemant prActic•• are essential to
sound decision-making and, ultimately, to saving taxpayer dollars.
The Wylie Amendment to the 1991 Funding Act mandated specific
improvements in management practice.. Following is a summary of
the RTC'. progre.s on each of the improvement. required by the
amendment. A mora eamplet. description of proqress toward these
reforms appears in Appendix I.
standardizad procedure. ~or conservatorShips, and has required all reqional RTC offices to adhere to
a uniform Conservatorship Operations Manual;
RTC haa
imple.en~e~
5
•
RTC haa reduced the averaqe time 1nat1~ut1ons remain in
conservatorship. By September 30 it appears that the atatutory goal of 9 month. will have bean surpas.ed.
•
RTC project. that its Information Resources Management strat8giQ plan to be i ••u.~ by September 30, id.n~ifyin9 9 0a18 and
.y.t••• ne.d. at operation levels;
•
RTC expect. its computerized .ecuriti •• porttolio management
.y.t•• to be operational by Septeaber 301
•
RTC has developed a Iystem to track and inventory reale.tate-owned assets and it ia becoming operational as data i.
entered into the .y.t•• ,
•
RTC has daveloped .tandard loan .ales documents for one-totour family mortqages and haa ~equn u.inq new .tandards tor
due diligence:
•
RTC haa standardized contracting polici.. and procedures amonq
all region. by d.velopinq standardized directives, .tandardized Gclicitation and contract documents, trainin; module.,
and a comprehensive policy manual; and
•
RTC has 1mplementeO a quarterly •••• t valuation system.
I would like to expand on this last point becau.e RTe as.et
valuation is directly related to important iasue. ra18.~ ~y the
GAO's 1990 audit of the RTC.
GAO will soon be issuing its opinion on RTe's 1990 financial
statements. One issue we anticipate they will note ia RTe's
prOblems 1n reccnQi1ing its genera1 le4ger accoun~. for receivership a •••ts with the records maintained at receivership aite. and
by loan servicers.
GAO may cite unreccnciled difference. aa part
of a justification for issuing a disclaimer, or no opinion, on
RTC's financial atatements. The primary reason for a disclaimer
.o.~ li~.ly will ba overall uncert.inty in •• set recovery valu.s,
which will likely persist until RTC has had substantially longer
experience in sellin; it. illiquid assets. Nonetheless, the
reconciliation proble•• represent a .ituation which the OVer.ight
Board and RTC believe .ust be remedied.
As Secretary Brady de.cribed to the full Committee 1n his July
11 testimony, HUD Deputy secretary Alfred DelliBovi and I have b.en
l •• ding an Oversight Board working group charged with monitoring
RTC's progress in the accounting and finanCial management area and
makinq recommendations for corrective actions where needed. The
OVers19ht Board and ita .~.ff have been ooncerne4 with th••• i •• ues
and have been di.cussing them with the GAO since early March, when
the Board staff .sked the RTC Inspector General to expedite an
as.et valuation review.
Th. oVersight Board workin9 Vroup hae been
exploring the.e ia.ues with RTC, GAO and the RTC Inspector Ceneral .ince
it was named by secretary Brady on May 15. Recently, it met with
repreaentatives of RTC, the Inspector Ceneral, and Price Waterhoua., Which was retained ~y RTC to review its loss estimation
.e~hodology.
Price Watarhou•• told U8 ~at RTC'. methods for
estimating loa.es are both "reasonable and con.ervative," but they
dia note the a ••• t accounts reconciliation problems dur1nq the 19iO
period covered by the GAO .u~lt. Price Watarhou•• agreed that aueh
problems add to the uncertainty of the asset valuation process, but
that it waa doubtful that such differences would have a aaterial
impact on RTC'. 1990 financial atatement of cond1tion.
ac~ively
Th. RTC infor.ma ua that, while reconciliation will continue to
a major chall.n;e, a number of ateps have been taken to mini.ize
such probl ••••
be
1.
The RTC ••tablish.d its own Office of Corporate Finance
in January to assume responsibility trom the FDIC'S
Division of Accounting an~ corpora~e services for the
intaqrity of financial reports. The staffing of this
offic. is nearly complete and has r.sulted in a significantly greater allocation ot r.sources dedicated to
resolving accounting related iasues such aa reconciliation.
2.
The RTC has initiated a pro;ram for p.riodic comprehensive audits Of receiv.rship ~y 1n~epenQent accounting
firms.
3.
The RTC haa instructed regional otfices to retain out.ide
accountants where necessary to facilitate the reconciliation of receivership rocor4s.
4.
The RTC has establish.d a standardiz.d process tor
report in; the proqre.. of ~ne reconci11ation prQ9ram on
.onthly basis.
5.
The RTC is in the process of i.ple.enting a mainframe
system to further automate the reconciliation of subsidiary record. wi~h ~hQ qeneral ledqar.
6.
The RTC haa alao instructed its regional offices to
procee~ more a99re •• ively in con.oli4ating and reducing
the number of as ••t servicers that support the general
1.dQ.r accounts. This will qreatly simplify the reconciliation process.
a
this 8ix-poin~ pro~ram well under way, RTC has told us
that any future unexplained differences discovered during accounts
reconciliation should not aignificantly affect the representation
of RTC·S financial po.ition.
wi~h
7
The RTC has nearly completed it. June 30, 1991 reconcil1at1on.
Ba•• d on preliminary estimat•• , the RTC b.lieve. that the maqnitude
of itams which are not reconcilable will not b. material. Nonethe1••• , the RTC intends to •• tabli.h a re.erve for any unexplained,
unreconcilad financial position.
It i . our firm baliet that th1s reconciliation initiative
.hould permit the GAO to i.aue an opinion on RTC'. financial
atatementa.
In addition to thi. very inten.iva affcrt vi. a vi. _Tel.
financial audit, the OVersight Boar4 al.o adopted a policy on July
25 which eneouraqe. RTC to e.tabli.h and adhere to internal control
standard., inc1udlnq evaluation and reporting .tendards, that .re
no leas stringent than tho.e required by the Fedaral Managers'
Financial Inte;rity Act of 1982. RTe'. tir.t report on material
weaknesses and corrective action plans 1. due to the overaigh~
Board in october. This policy i. attached aa Appendix II.
PROGRESS IN ASSET SALES
Asset disposition remains the mo.t important task facin; the
RTC today. As of June 30, 1991 the RTC had .eized assets with a
book value of $328.3 billion and ha~ sold or ccllec~ed a net amount
ot $168.2 billion or 51 percent of the total. cumulative asset
sal •• and collections are shown in Appendix III. Sale. and collections by a.set categories are shown in Appendix IV.
Th. RTC hAa had
.o~t
suocess in ita ••1 •• of •• curi~i •• and
mortqaqes - its most readily marketable a ••et.. RTC reports that
73 percent of its book value of securities has ~een 801d or collecte~ with only a ~re. percent los. on these sales.
with r.spect
to mortgages, the RTC has sold or collected 46 percent of it.
inventory and incurred only a three percent loss. ~he mortQa;.
sale re.ult. as of June 30 do not reflect the recent .uccess ot the
securitization proqram Which will further reduce the RTC'. inven~ory
of r •• i4.n~ial aortqaq...
%n
q.n.~al,
RTC'a 10•••• on •••• t.
sold or collected have 80 far been very low, as shown 1n Appendix
V, reflecting the tact that it has been .el1in9 it. more readily
•• rketable ••••t ••
1991.
$20.1
The I)ace of asset sale. haa increased since the beqinning of
For axample, the expected holding periocl ot RTC'S current
billion REO inventory - 1ts bar4e.t to •• 11 assets - 1s
currently 42
m~nths
ba ••4 on the ••••t .a1 •• an4
c~ll.etion
pace of
April, May and June, as shown in Appendix VI. 8y contrast, in
March 1991, the expected holding period for REO was 72 ~onths.
In its operating plan for the nine .onths from January through
year, RTC projected net book value a •• et aal •• ot
$65 billion. As of June, the RTC had achieved 74 percent of its
projections, a. shown in Appendix VII. RTC expects to exceed its
projections by September 30, 19i1.
September this
8
Developing effective program. to dispo.e of RTe assets quickly
and at the best possible prices will save taxpayer dollars.
Accor4ingly, the OVersight Board has directed ~he RTC to ussecuritization to the widest extent p08si~1., has authorized an $8
billion pilot proqram tor portfolio sal •• , and haa taken at.ps to
i.pl ••ant and anhance the affordable housin; program.
securitization
RTC'S securitization of .ort;age-~acked securities i . well
underway. Immediately following the enactment of the Fun~inq Act,
which p~ovid.d director and officer immunity from liability, the
RTC file~ a $4 billion shalf regiatration with the Securiti.s and
Exchange Commission covering the issuance of mortgaga-backed
.ecurities. Through AU9U.~, the RTC had already .old approximately
$2.5 billion of th.se securities, including $2.1 billion backed ~y
single-family mort9age. and nearly $400 million backed by multifamily .ortqage••
Securitization has permitted the RTC to .all mortgages for a
higher return than would have b.en possible had they been sold on a
whole loan basis. We estimate that this additional return to the
taxpayer has already been sub.t.n~ial, and that it could total $1
billion as a result of the s.curitization of sinqle-family mort·
gages alone.
The RTC is also considering the securitization of commercial
loans, which coul~ both increase returns to taxpayers and increase
the pace of .ales of those assets.
p0rtfoliQ Salas
In liqh~ Of mounting inventgries of real •• ~ate and other
hard-to-sell assets, the RTC has introduced the portfolio sales
proqram as one strategy to accelerate the pace ot, and return from,
a.set sales.
Undar thi. new program, lar9. portfolios (typically containing
at laast $100 million of a •• ata) will be sold to buyers qualified
to purchase such large packages of property. The policy gives the
RTC the flexibility to custom-tailor transaction. in a manner
consistent with private sector practice. By so doinq, the RTC
hopes to elicit qraater investor inter.st, and ultimately hiqher
prices.
program al.o addr.sses an acute marketinq problem the RTC
has experienced _. that ot inducing prospective investors to
perform costly and time-consuming due diliqence before they have
any assurance thAt they will be Able to purchas. &£ • •ts. The
Tha
9
portfolio 8a1e. policy encouraq.s buyer investment in due diligence
by making the aal •• ~roces8 aore predictable.
To facilitate 8uch aales RTC has indicat.~ that participating
cash flow .eller financing may be aad. available. In .xchange the
RTC will receive up.ide par~icipa~ion in the financed •••et••
Ona transaction under this pro~ram -- the sale of between $300
.i1110n and $500 million of office and hotel properties to the
Patriot Group -- haa been entered into, and two other large transaction. involvin9 oommeroial real ••tate are currently bein9
negotiated.
The oversight Board has approve4 thiS RTe pOlicy on • pilot
baais up to • total of $8 billion. At OVer.ight Board request, the
RTC has amended its policy to ensure that the RTC will publicly
diaclose the detail. of all completed transactions on a timely
basis.
Affordable Housing
The RTC and the OVersi;ht Board have made every effort to
implament the affordable housinq provisions of FIRREA, actively
promoting the sale of eliqible .inqle and multi-family properties
to low- an~ moderate- inco~e families with inereasinq success.
With regard to ainqle-family homes, RTC reports that 17,293
properties have been marketed in the affordable proqram at June 30,
1991. ot these, &al •• have clo.ed on 3,882 and otter. have been
accepted on 5,895. Another 4,833 are in clearinghouses being
otfered for sale. Another 2,683 or 16 percent were offered for
aale in clearinqhou••• but remain unsold. These are el1g1~le for
donation to nonprofit organizations under the reasonable recovery
value program. For example, RTC recently announced ~at it has
donated for public use about 260 properties with no recoverable
value to 18 cities and 25 nonprotit 9roups in Texas.
Since the passage of the FUndin; Act in March this year, the
number of s1nqle-fam1ly accepted offers beqan to increa.e sharply,
as demonstrated in Appendix VIII.
The success of the proGram in reachinq its tar;et income qroup
i . demonstrated by the fact that the average income of purchasers
is 523,000, 61 percent of the national median household income.
FI~EA requires only that
of local median income.
~uy.r.
have income lesa than 115 percent
With reqar~ to mUlt1-raa11y propertie., RTC reports ~at 485
have been marketed at June 30, 1991. Of theae, 49 aale. have
closed and offers have been accepted on 62. Another 138 are in
clearinqhouses, and 236, or 49 percent, were not sold and have left
the clearinghouse staQe. This proqram has been difficult to
implement but sales have recently begun to increas ••
10
The 1991 FUnding Act provided that single-family home. be made
available to qualified buyers in con.ervatorsh1~. Thi. provision
has proven helpful. RTC advise. that, at June 30, 1,332 homes had
~e.n .01d in oonservatorahip.
STRUCTURE 07 THE CLEANUP
FIRREA made the FDIC the exclusive aanager of the RTC to
perform all responsibilities of RTC under the statute, and made the
FDIC Board the Board ot Directors for the RTC. At the .ame time,
FIRREA gave the OVersight Board authority over the RTC'a strate9i •• , polici •• , and tundinq, an4 vavo it
re.pon.i~ili~y
for over-
sight and evaluation of the RTC. Given the immensity and complexity of the cleanup, and the need for continuing objective
oversight or an organization that 1. responsible tor .xpen~1n9 as
much as $160 billion of taxpayer funds, this ••paration of manaqement and operations trom oversiqht makes •• nse.
We have functioned under this structure for two years.
Admittadly there hava
~aan
unprecedented cleanup task.
expect them.
problems in a44re•• in9
It would have
~aen
~i.
giant,
unrealistic not to
Some have suggested that they have been caus.d by the structure of the cleanup, notably the two-board structure, ana there
have been calls for eliminating the oversight Board, creatinq a
single board dominated by independent members, and splittln9 the
RTC and the FDIC.
As the Board has testitied, it does not believe that the
problems stem from the organizational atructure. Rather, they are
operational in nature. The Board believes that the most important
step that can be taken toward makinq the RTC more effective is to
appoint a new RTC Chief Executive Officer with the experience and
the operating latitude to get this job done.
Secretary Brady and Chairman Seidman have formed a search
committee ana a .earch is actively in proqre.s tor an RTC Chief
Ex.cu~ive
Officer.
We do not believe that changing the orqanizational structure
of the cleanup now is necessary or de.irable. Changes of the
magnitude suggested 1n bills introduced in the Senate and House
would antirely revamp the executive structure of
~he
RTC, would
causa disruption of onqoing resolution and asset disposal activities, an4 thus would create expensive delays in an effort that
in any case is by law scheduled to terminate at
11
~.
end of 1996.
CONCLDSION
In conclusion, Mr. Chairman, I repeat the OVera19ht Board'.
request for legi.lation this •••• 10n that will provide 8utticient
additional funds to complete the cleanup, which we .stimate at $80
billion, an 1ncraa•• in ITC borrow1nq authority to $160 ~illion;
and an extension trom Auqust 1992 until Septeaber 1993 of the
period in which ~he offica of Thrift Suporvision aay tranafer
thrifts to the RTC for clo.ing.
x mu.t under.core Chairman seidman's opinion that additional
loss tunds will ~8 needed ~y the .n4 of October or shortly thereatter. It 10•• tund. run out and the RTC 18 unable to clo.e moneylosing thrifts and pay oft their depositors, the coata of the
cleanup will simply ;row, and ve would risk alarming depositors
tha~ ~eir d.poai~. are not aaf., thua cr••tin9 run. on alr.ady
weak institutions. Ultimately, Congress must provide the funds,
simply in order to tulfill our government's depoait insuranoe
comm1~ent ••
If the funds reque.ted are provided and the cleanup can
continue without the disruption tbat would inevitably be caused by
• major reorganization, RTC can continue to cloae thrifta and .ave
dapo.i~or'. accounts, and tho unneoe •• ary additional coat. r •• ult~
in9 from funding delays can be .voided.
At the same time the RTC and OVeraight Board will con~inu. to
work to improve RTC's asset disposition performance and to improve
its management practices under the leader.hip of a new Chief
Executive Officer.
Por
~o
lonqar tarm, when tha backlog of in.olvant thrifta i .
resolved and these institutions are clo.ed or merged, we can look
forward to a stronger industry with improved profitability.
Certainly, Hr. Chairman, I am .ure that you and the members of
the Subcommittee share our qoal of getting this immense, complex
task behind us as quiOkly and economically .a posslble. I hope you
would also agree that we should do nothinq - such a- a major
reorganization - to make the cleanup more difficult and mora
expensive. For I believe that if we are permitted to stay the
course we can get the job done with increasing efficiency.
12
Appendix 1
f
'r) '-"
'-'
" r ' '\
...
L_
.- ,,', (I
_. oJ
'_. v
I
-
-~
.J.J •
J j
J
RTC Management Initiatives:
Current Status
Oversight Board
Resolution Trust Corporation
Washington, D.C.
August 27, 1991
•
Preface
This Tepm-t is intended to document the CUTrent status of nlanagement initiati"es being un,ler"
takm at the RTC which atJdress: (i) criticisms by the GAO; and (ii) Tequir'emmts set fOTth in
the RTC Funding Act of 1991.
Each page in this document is organh:ed according to the following categories:
Operati", A"m
Segments RTC's major operating areas as follows:
1. Resolution Process
2. Asset Sales
3. Information Resources Management URM)
4. Contracting
5. 1989 Financial Statements
GAO Criticisms
Summarizes major issues and findings of GAO extracted from:
I. Testimony of Comptroller Bowsher on February 20, 1991 before
The House Committee on Banking, Finance, and Urban Affairs
2. GAO's Audit of RTC's 1989 Financial Statements
RTC Fundi", Aca
of 1991
Details Management Reform Initiatives called for in the RTe Funding Act of 1991
IQComments
Provides a summary, prepared by the IG, on any related audit work in each of the five
operating areas
RTC Comments
I'rovides status update, prepared by RTC staff. on initiatives which address botl. GAO
criticisms and Congressionally mandated Management Reform Initiatives.
e
Operating Area
GAO Criticisms..,
RTC Funding Act of
1991
IG Comments
•
•
RTC Comments
I. Resolution Process
A. Conscrvatol'$hip
Rcgional ovcrsit:ht inn""
listent
8y 9/)0/91, ItTC mmt
develop and implement
standardizcd proccdurcs
with rcspect 10:
auditing conservator·
ships
- cnsuring/monitorint:
compliance with poli.
cics and pmccdurcs
cnsuri nt:/moni torint:
Managing AL'Cnt
performancc
•
An ;!U,lil u( Ihc rca:iuu's
:Ind consolidated officcs'
ovcrsit:hr cI conservator·
sllip opcr.uions is in pro·
ccss. Audits of individual
conservatorships also he·
incconductcdtoasscssthc
hiring and supervision of
managing:lgcnrs. (5/9/9.
Itcport)
•
Ilc;ul'luartcrs ovcrsi.:hr
:m,1 pmcc,lurc'sctting fcu
c()nserv:ltorship opcratinns uOller rcvicw.
(6/10/91 Rcport)
• A M'IIl;IJ.oint: AJ.~nl l lvt:'1 .
light and Trainina: Task
Force was c51aMi5hed in
March 1991 to ac.lJrcss Ihc
srandanJization,,fconservatorship audits and Manaa:Ing Aa:cnt ovcrsit:ht and
fr.lining. The Task Force
has condudt.-d its mission.
A diR.~livc ti,k."I"St:lnd;enl·
h:ltiun ,I ConllCrv;ttorship
Itcvk:w rn ICr...ns" cst:lhlish.
int: natinmlst:lIllltnL, for ,he
()YCt\i..~to(cnn5Crv.lt, )f'5hips
" 'WoIS iss"l.-dun 1I1lt'J1. RTC
also Issued diR.-.:tivc tillt.-d
"'-raining Stantl.mls for
Conscrvarnrship Operarions"on6/11/9I.cstahlishiog national st:lIl<ianJs fur
trainina:.
• IlTC ",.'t.'tIs clilCr.llional regional flexibility
How.
(I) All GAO co*,menD taken (rom the rudmony fA Comptroller Bow,~r 01'1 February 20. 1991 before Ihe
House Committee on Banldne and Finance and Urban Affain, with the e.cqJtion of commenn on IlTCs
1989 flnancialltatcmentl, which are talten from the GAO Audit of the RTC. 1989 (inancials.
•
All rca:ions fullow unifurm
Cnnscrvarol'Sh ip OalCrdtions
Manual
•
Ilc;"lll";lrtc,~ lit all mel: h
with fCl.rions quarterly
•
AmhiC' K)(JS phrJsinl:ofquClitions on GAO survey of'
Mana~ing A~cnls malecs
IUrvcy'S rcliahility qlle~'ion
ahle.
•
Operating Area
GAO Critic~ms(l)
RTC Funding Act of
1991
IG Comments
•
•
RTC Comments
I. Resolution r,(,ccss
O. Resolutions
Avcn ..'C lenglh of time
that thrifts have ~cn in
conservatorship was over
52 weeks at the end of
1990.
Increase POICC of rcsulu·
tions with the coal that no
instih.rion remains in conscrv .. torship loncer th .. n
9 months
•
( l" J;e"u:ery 15. IW I. Itl
i~sl.cd OI.tdi t report on fnur
•
AI i'''·C.,ICioU111A,It!,l'oi I'M',
thcIHCniconrn,l.1l62
conscrv.llnnhips. M:IIlY of
thc5c in\ti~ h:k.llu:n
m:ljor resolutions. l>cficiencics were not found
relative to the cost tcst
uSl.'t1 in resolutions.
URb~M:mrn:nlcmtrolf(Y
:as much as "'\len months hy
the time the ItT( ;ClnlC illfO
exisn."flCC.
•
Itt."!olI~I .. it.l ~k'C was ~JWl,1
h, lIR:crr.einry CM.-r
(~_If
fundit.:. Nnw that fUfl(~"":
has hccn pnlvi(l"I. older
ronlil,V,tr, Jr.oilips :II\! hcint:
" " ""\'Cn prioriry r\,.',nlurim.
Ay 9/KWI. Slftl:IOI1:ell, :.11
Iml1nltions Ih:ttwcre inCA JIl-
'Ir
1Crv.lfoMip3.\,/1/15,t}1 will
h:t\'C lun n:5f ,Ivai,
•
-Ileri.is 'llel.l
tile
I... ",,'\:.'1 :u\:
cxpoctuJro IIC I\:Sl "Vl'll (i~t.
•
AII,ht work is illso In pn,ccss relative to the ilw;mJ
of :lpprdis:.1 contr.ICts and
:.s~ct v:.luation methods.
(5/W91Itcport)
•
Itcport being fir\afited on
review of resolution of a
Ihrift in New Jersey conducted in response toCon·
Rressional complaint.
(6/10/91 Itqx>rd
2
e
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
•
•
•
-
2. Asset 5;11es :
A. Financial Alsea
(I) Securities
Develop comprehensive
securities portfolio management Iystem
Develop aOO implement
securities ponfolio m:ma~ment system by
9/J0/91
•
Ic..;oversccingactiviticsln
this area l.'Cnerally. Specific audit Khedulcd 10
review the salc: of funic
!Juauls :m(1 hctit:ing instn.menu. Continuing Involvement in and review
(I( ItTC systems developmcnt "nJ implcmcnr.tlion
will incl'KIc input to conIn )I~ nCt.'('cJ in .he system. (6/10/91 Repon)
fisc.1 Yea, 1992 audit
SOS titled "S\."t:uriticslnvcnt(nytUperations Suppan System" WalS issuuJ
on April 29. 1991. Contr.tct was awank,1 on HI
16N I. System is to he
opcr:nional by 9/10191.
planned.
3
•
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
2. Asset Sales
A. Financial Assea
(I) Securities
(cont'd.)
•
untralizc all securiti~s
nlea In eapiral markets
•
N/A
•
The RTC is in the process
of centralizing the sale of
allltTC-ownal SCClJrifi!!S
thrOlIJ.~l a sint:le "desk" in
the C:.Ipit;11 ~brhts
Oranch in Wa5hin.:ton.
On 7/12/91. the Capital
Marlcets Or.lf1ch moved to
a state-of-the-art salcs
"lleslc" for securities sales
locatc,1 at ItTCheadquar. ten in Washin.:ron. Final
neps will he coml,lctl.""
and implemented at the
time the SCClirirics portfolio m:tnilgcment system
comes on linc.
IIOUP
•
Thc Capital Markets
Oranch is clIncntly preparin'::1 policics aOlI pmCl.'tIIIJCS m:tnll:11 :t5 part of
the effort tocentr:tlilC the
sale of allltTC-owncd securities.
4
e
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
•
•
RTC Comments
2. Asset S31cs
A. Financial A,sca
(ii) Portfolio Sales
Develop standardizcd
.,achees conformin.: to
marltet requirements
rube due
t:e process
•
Devciop a pro,:ram for
performing due dili~n(e
of 1·4 family mort.:accs
and m.ulcetinr such
loans on a pooled basis
•
Acrivitics in this arca arc
.:cocr.ally being monitomJ
for potential audit coverace.IGrccommcndations
rCl!arding bulle sales and
nrhcr major assct dis(lOSi.
tion efforts made in M:.y
I). 1991 report on the
cancelled rcal estate .IUCrion.
•
I">cvdopaJ anJ c. )mplcl"")
rcJlrescntations and warran tics in standard loon
sales document:uion for
adjuar.able and (ixed·rare
1·4 f..mily mort.:...."Cs.
•
Sr:lIll'.. rJiu·.1 loan s.. les
aa.","'Cmcnts (. lr com mer·
ci:lf/muhi''':lmily mort·
t::lI:C. untlent. vt"lliclc.
credit card. m:anll(actun.'tl
housint: and home equity
'0:ln5 iocorpc .rd'in.: inll, '5'
try st:lndard rcprescnl:l·
tions :Ind warr.mties arc
in final stat:e of complction.
•
Due dilit:encc firtns hc.:;m
usin.: new s':lIldartis for
sinl:lcfamily mortl::'J.."Csnn
Sce above
4/15/91.
•
St:lmlarJizctI ,llIc dili·
t:cncc (or commcrcial'
multi.family mort'::'I:CS
and for variolls (nrms o(
consumer loans is ncar
completion.
5
e
Operating Area
GAO Criticisms
RTC Funding Act uf
1991
IG Comments
RTC Comments
•
•
•
2. Asset Sales
A. Financial
Aucn
(i ii) Securitiaation
Securitize as m:my loans
II possible; resolve liabilIty Issue
Spcciallcl:islative exemp·
tion (or liahility under Securities Act of 19JJ (or
RTC directors. officers
and cmployees
•
Tn Ihe exlent neccssary.
It:; will monitor solicitalin" ark' award (I conlr.tCls(orundcrwriten.etc.
•
Alklit report on alternatives
to
repayin.:
fHl.nanlc Advances (sell·
int: of exccss coliarer,,1)
hsued July}. 1991.
•
AlIllit wnrlc was startt...1in
MilY 1991 on RTC's Sclecri(m of nmlcen 10 asM:SS the criteria (or and
selution d brolten and
whether planned proce5SCS will maximize s:llc
prncccds. (6/10/91 ltcpmt) Audit terminatt.'tl
a(lersurvcy wodc ,liscI05t.-d
no significant problems.
IlTC (ik-d a shel( rl1:istr.ltilm statement wilh the
issuana: of S4 billion of invt..-stmcnt-gr.klc
securities.
Initi:.1
Sc.."curitiz:lfion ,I S<flO millinn,I;"lju5f:lhle-r.ltemortt::11.~S clOICd on 6/l7N I.
St.'CCJlkI issutlncc(1f:.flPOx im:lfcly ISHO million occutn.~1 un July 15. 11,n.-c
. 3<ftlitiuO:II securil izati.,n
offerinl." arc pbnnc.-d (, If
AI ...·ust.
SEC
',r
6
e
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
2. Asset Sales
A. Financial
ASleD
(Iii) Securttlzarlon
•
ItTC currently pURuing
Iccuritization (or junk
bonds, multi-C•• mily and
sceo",1 mortg:lJ:CS, and
mobtlc home loons.
(corn'd.)
•
A n1;~'cr sdlinJ: ;111,1 scrvk:in.:comr.tt:f W..Sl1q.'Uej -
atcdbcrwccn the RTC'lnd
Emnic Mac, anJ Fral«lic
M;t( in( ):tn'x"f IlJ'XlltTC
11..5 suM or SW:IIlflOl $1.6
billion In monl:3a.'cs thilt
conform with thc srandanJs
cJ abov.: agencies.
•
On 5/IONI, RTC issued a
dirc:ctivc rcquirint: that all
agency-eligible loans he
swa('flCd with al" lYe aj!Cntics.
•
RTC nccotiatina: with
Ginnie Mac to I,cgin
sccuritirdtion pro,..ram.
7
G
Operating Area
Z. Asset Salcs
GAO Criticisms
RTC Funding Act of
1991
lG Comments
•
•
RTC Comments
:
A. Financial
Allen
(iii) Securitization
(continued)
Centralizc markcting c(.
rom
N/A
•
Agency SWClpS ami
securirizarion arc heingc()o
ordin:1tcd in Washington.
•
ItTC. Freddie Mac. ilnc:1
Fannie Mac have prcpar\.'d
a "Swap Guillc" Manual
that sets forrh standa"'·
hed procedures for
sccuritir.ltions. In June.
1991,'thc ItTe. Froodie
Mac. and F:mnie MCic he·
gan visiting Consolidaft.-d
Ficltl Officcs to train assct
marketing 5pcci:lli5fs anc:1
asset tcdmid:lns in
manual proccdures.
8
e
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
•
Develop and implcmcnr
lOIn asset Inventory system
•
Consolidate lOIn salcs
•
RTC Comments
2. Asset Sales :
A. Financial AsSCb
(Iv) Overall
•
N/A
N/A
•
•
It; J:cncr..lly monitorin.:
~ySlems dcvelopment in
t"is area.
•
Audit worlc relative to
compliance with dcletfd.ions of authority will
(()Vcr dccision-m:llein.:
prt -=CS!I in ;IS5Ct s;llcs.
•
(.o:1n :lnd Othcr Assct In-
vcntory System (LOA IS)
currently i"lplcmcnrcd in
2J snres "North ('.cntr:11
I{egion. It is expected to
be implementcd nationwit'c hy 9/30/91.
S.;uulJn'i,Ct' ,llIc Ji Iigcncc docllmenr-dtion procc,'mes and ,k·vclopmcn.
3m' implcmcntation of
1.0..\lS will f:ldlit,lfe
greatcr control and courdination of lu:m sillcs.
9
e
Operating Area
GAO Criticisms
RTC Funding Act of
IG Comments
1991
•
•
RTC Comments
2. Asset Sales
O. Itcal Es.... tc
(i) ~ncral
GAO has not vali,I;.Icd
asset valuationlappr.lis31
proccss
Develop proccss for qu;,,Icrly ""dluation or 1I1'Klalincof valualionsof receivership as~ts incorll0r.ltin.:, tothcc.tenl flOssiMe,
ItTC disposition experience
•
A'klil wnrit is in process
relative to a~t "..dluation
methOt.kand thcaward3flll
a,lministr.lfinn ~ 3J111f"diS:11
cnnl r.!Cts. n.esc 3Ullils:JfC
spccific;.lIy as~ssinl: the
est.lhlishmcntof,lssctv;llu;niUlu incl,.lin.: cstim:.lu.1
GI~h R:£Ovcrics/lul3ln 1055 rescrves3flliestimatOO ft.'COVery valucs 115l.-d in various
CC!!It C;llcutlfions.
•
IlTC htls implcmcnt\..J 41
qu,nterly v.lhrdtion system,
ha5l.-don on-sile ,,"'Views hy
conlr.teton of a S:lmplc of
ItTC assets. -n.is pnJ(\."$S
indulles comi(ler.llinn of
4I!i.'iCt v.llucs, hnMint: ,Ulci
clflCr.ltina:ul!>ts. ItTCwm"k'tt.'tl :I valU:IIiun ,I reCdV\..,lohi" fI!lloCt5 as of 12/
11 NO ,lIlll suhmUll,1 il In
thenAO nn 5/J1~1 fur
n:vicw.ln;kLlitiu",ltTC's
InspcclOl" (jeneral is revit.'Wina: the pnlCCS5. RTC
is refinin.: v;.lu;nion proceSS In fully inleJ:r:lfc onsile reviewlo, (tll;l from
SAMDA CCI"Ir.Ic.:lnrs, 51:1ti5lic:11 sam"lin..:,ItTC(lis(lOSilinn CJCperieoce, anc.1
empirical mOllelina:. An
cnhanc\.-d :lUlnm;ltccl system will he llevdopctl In
suppnr, thesc effor,s.
10
e
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
•
Oarify asset salcs
Itntcgy
•
N/A
•
Salcs strdtc.:ics and standards arc in place.
Throue:h June I t)) I, dlC
bonk valuc rlltTC stiles
3",1 collections tntale,1
S11'1 Billion, indudin.:
29% (hoole Vi. Iud o( Ihe
rC1l1 cstatc 'hat has cnmc
lII11tcr ItTl: t:nnlrui.
Eliminate confusion/duplication lurroundi 11! sales
centas and SAMOA con-
•
NIA
•
N'II iunal/'q:illnal salcs
ccnl~n 3rlll SA MI )Awn·
tr.K:turs cik:h IMVC clear
non-duplkal ivc rolc.
Si.lcsccnrcn servc asccntral point cl conti.ct tlOO
referr..1 to appropria Ie privatc sector m;m:'J:efS, 3rlll
as focal point for portfolio
salc.....
•
Standard form.1t duc dili.:cncc proccclurcs implemcntedon 4/1 'j/'J I. Stand;nd format hid pat:Ie".:cs
;mclsales ,Iocumenls will
rcach invcslor!>
laiC
Au.:mr.
2. Assct S.. lcs
D. Real Estate
(I) General
(continued)
•
•
Hn;.1 audit report on thc
cancclled auction (Auc·
tion
Company
of
Amcrica) issued May 11,
1991. Revicw rI fint bulle
sales (AI,nno& C..ommonwe'llth aS5Cts) starll.-d in
July 1991.
tractors
practices (sales
rlCnts, offer rcspon~S) in line with pricctor
1st
•
N/A
"y
11
G
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
•
Improvc operational consistency among regions
•
N/A
•
Develop marltcting net- . I . ..-xl inventory distructurc in the
cst region
•
N/A
RTC Comments
2. Asset Salcs
8. Rcal Elatc
(II) Affordable
Hous'ne
•
AlKlit worlt is schcdulcx.l
in IG audit plan for the
4ria Q.,aftcr of FY 1991.
WOIIt willpruhably begin
in FY 1991.
•
Ilcld national af(onl:lhle
housing staff meeting 41)4/11 10 provide training
:111(1 stan«l:mlize prOf:rdm
implementation. Movl."l1
Af(nrtl3hle Housint: Prot:rJm 10 cOll5olid:uai and
rct:innal s:lles ccntcn to
imf1rove m:lrlc:cting and
s:lles consistcncy. Hired
contr.lctor to develop
tr..i~int: prot:r.ml (or St:I«,
cnntr.lctors, :m«l broken.
Conrr.lCtor attcntk.-d fint
qU:lrterly meeling with
Affnr«l:.hle f I""sin.: s~.f(
on 7/)1-8/1.
•
IliR.'t142 Tl.'t:hnical A5.~is
t.lnce Advisnn (1"AAs")
as cI June, 1991 ft) assi!\t
clit.oihle sina:le f:lmily p.,.
chasen. ItecnJitint: effort
10 hire additional T AAs is
continuing.
•
Ilcvclnpint: :lIItnm:Hctl
propcrty information sy!\tem tn scrve :J!\ :I dc:uin.:housc.
12
e
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
•
•
•
2. Asset Sales
B. Rcal Estate
(If) Affordable
Houstn«
(continued)
N/A
ItTC may scll cli.:ihlc
sin.:lc (amily prorxrty to
quali(ied buyers without
rc.::mJ to any minimum
purcha~e price
•
l>in.'ctive titleel "Guidelines (or Sellin.: sin.:lc
Family Properties Under
the A.fonl:.hle 'Iomint:
()iSIl(~ition I'n .:r.ml" pmvidin.: for no minimum
,lIIn:h;.!iC price (:lnd exp:lluling the a((nnlahlc
housing IlrC..:r;.m In conscrv;norships) wo.s issued
on 4/IO/'} I.
M:.st ';ulverlisin.: (;;'01·pai.:n underway tn pmmute s;.lc o( alfortlahlc
h(Hlsinl: thnHI.:h ;lIIctiun
and scaled-hid markcting
campaigns. Auctions (ur
properties 5( .1,1 ":lh!ioluIC",
without minimum reserve
price. are underway nationwide.
13
•
Operating Area
GAO Criticisms
RTC Funding Act of
IG Cumments
1991
1. Information Itcsourccs
•
•
Mana,.'Crnt.'f1t (IItM)
Complete str.uca:ic plan
and syncn,s
archhccrure
•
Str.llca:ic pl;m to jnclu,lc
uanslatiun uf prna:';u"
gurals into neces~ary h:u,l·
w;uc. software and st;,((·
int: rcquinx.l toaccompli~h
such coals
Systcms architccture to
inclu<lc:
(i) sccuritics portfolio
mana ..ocmcnt systC"';
(ii) REO inventory .11,,1
tr.dil1: system; IIJ be develqui ani implcmcnh.d hy
9/}()1} I
•
:\ I ",,,,Ileruf .nKli" in pn)'
l
RTC Comments
•
n" rd:nivc to IItM. in·
11Il1",.: a5scssmcnfS O. sO·
I,dt;ations antlaW".mJs for
Itt'al E5f"d'c Owned Man:',,'Chlcnt Sys'em. Interim
ContrdClor Activi" Reponing System. ContIilCtor Activity Reportina:
Systcm. and review of acti"itics wilh I'Cspect to the
A5~Ct Inventory Syslem
and lite Assct ManilJ:emen' System. 10 ITdrticip;uin.: on .m un.:uina: h.. sis providing input on sysIl'ms development.
(SN/lJ I Hcport)
t
VCfliinn 2 of the IHM Pbn
II,at im:ofP,,;nes the in·
("rm.nion ilfd,ilecture
concept has been complcted. Version 1.cnhaflCIng treatment of dat3 inlc.,i". Inrca:rarion, and
(let:.iled inform:ttion re(luirenlCnts. is to he isslk.'tl
9/10/91.
•
See l.A.(j)
•
nEO Man;lJ:cmcnt System (ltEOMS) development complett.... 1. In pmcess uf 10:Kling da'il onlo
system. On t .. r..oct for
9/10/91 implcmcnl:uion.
In ,u!Jilinn. 1.0:111 ,mtl
o,lter Assets Invcn,ory
System (I.<.)AIS) :In,1 As·
sc' M,lIli'J!t:f SysI\'m
(AMS) areelCl'c(tctl tulle
implemented na'ion:llly
by 9/l01}1.
14
e
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
1.
•
•
Information Itesources
Management (IItM)
(continual)
Identify informalinn :10,1
.ystems needs ilt all ure:;J'
nization lc:vc:ls
ltienlify syslcm ncclls al
.. II opcrdtinn Icvels
RTC Comments
•
•
•
•
•
ESlallli!>l,c,1 ( )lnt c C.. (;c If·
pur:IlC InfurRialiun In in·
tegrate and oversee devel·
opment o( a compre"en.
sive manat:emcnt information systcm
Uscr tasle (orces ":IYC hc..-cn
formooforall m:tjorapplical ions
Uscrworleing .....'"tps ..:lVe
been formCtI to define
ovcr-tll r('(llIireml'nts
Illd;l~iun ell (j,~M OffilC
review,'( I nf, Irma ric In Itesource M:m:II.'Cmcnt strdtl'e:ic pl:ln.
MClfuitlynlt"Clilla:IIl'IWt:"n
Office of Corporn te Infornl:uion 3ml Itet:ion;11/
r..onsolidatctll nfnrm:llion
System Adminislrators
15
e
Operating Area
GAO Criticisms
RTC Funding Act of
IG Comments
1991
•
•
RTC Comments
4. Contractllll
(i) Policies/procedures
Insufficient recogniliun
given to contnctin.: proCCII and procedures
N/A
•
~tlllY of tllc 10 ;I'Kli,,,lis-
cussed herein assess con,tacting activity. In addllion,lG has provided specific input on proposed
lloliciesamll)fOCedurcs for
suspension ami exclusion
of ulIllrdcrors and compt.int processing L'uidelincs. IG rcvil.'wed and
wnsuhl.-d with the ItTC
on Ihe cs,ablishment of a
separ-I'e indcpendcntcontrOicting office as focal
point of contrdctlng Olelivity.
•
•
ESI;.Misl1e,1 iflt"'·llCn(lcnt
decontrolcting uHice
vciop. monitor and enforce compliance with
contract prm:uremcnt
Standards and pn"lCl.-dutes
•
Officc of Cnmr;lctur
'0
Ovcrsi!:ht and Survcillance cstahlhheJ in 1990
t~ ,lclcr/detcc, fronKI
Nt:;uly 70'X. of 10 ;I'klil
rC~()UReS ine dcVOIl.-d tu
issucs which include cnnI role I management or asset
man....:cmcnt indudin....:
SAMDA
Apprdisals
Rmlccrs
Ridder Scil.'Ction
Legal Services
16
e
RTC Funding Act of
Operating Area
4.
GAO Criticisms
1991
IG Comments
RTe Comments
•
l)cvc!opcJin:ctivecJescril,int: roles ancJ responsihili.
tics of all partics involve,1
in the contrdctin.: pnxess;
prOl."css report hy 9/)0/91
•
•
•
l)cvclop stdncJanlizecJ ~)licitation and contract
docllmcnts for usc hy :111
RTC officers; prot:rC5S report hy 9/JO/91
•
•
Develup comprehensivc
policy manual; progress report by 9/30/91
•
()I(
•
Dcvelup st:lnd:uclilcJ
trdinin.: modulcs; proa: rcss
report hy 9110/91
•
Conrracring
(i) PolicicS/Proccdu~1
(condnucd)
ScClumment al 4( i) a"nvc
ItTl: 1.:15 ,lcvdtlpcti an,1
(lisscmina~dpolicycJirec-
rives and 5t.mdarcJ contractual documents to
standardize ItTC poIicics
and procccJures. n,e most
rl'Ccnt of whid, is tirl,-"I
MItTe l..ontr.lctint! Ito"--s
:IOllltespnnsihilitics" 3n(1
W:IS i551K.,,1 ",/6/91
•
SI:lmiomliZ\."\1 5l1lidt:llinn
:m"C()ntr.lCh~ Illlmenrsfor
:I~~t m:lnal.ocmcnl enl.o:Il.~mcnl5 complc'l"\l. anti isslll'(l I. ,allltT( ; fic'" "Kites
on "/15,t)1, :",,1 :uc currently in me
ih:lsreviewl.'tIa..lpn,.
vi,lcJ commcnts on cJraft
m:tnu:11
•
Manual is in fin:11 '!raft :....1
will be issul,,1 by 9/JOf'JI.
()I(, 1.:15 met wilh conIr.IC". to discuss training
nce,ls.
•
I'riv:ltcconlt:k:" If haslll.'t."n
CflI!:ll.ou.t to devc!op 6 Sl""dnd:tnlcontrnc t fr.lini n~ mew.!ulcs th:lt will he uSClI hy ..II
ItTCoffice.s.lhcfirsftrdinina: dlss will he heM Ihe
Wl't."k o( 81 l(;-8/JO. 'nle
fr.linint! manual is in prncess :Jnd is Cllnl"n.ly kina:
reviewal hy ItT( :confr.lCtinc and Icg.II,lcp:ntmenrs.
SAMl>A '''JCllments :ue
heina: reviewed from a
nllinherof sraOllpuints inc I..tlina: alKlits and (Illality
:lSSllr:!ncc ovcrsighr
17
Operating Area
4.
GAO Criticisms
RTC Funding Act of
IG Cnmments
1991
•
•
RTC Comments
Contracting
(li) Manaecmrnt
Improvements nt.'CJct.l in
of contractor selcction and performance
monitoring
N/A
•
ItTC ";15 .,."vitl",1 ~I;III
dudizc..-ddncumenu. mining.anddircctivcsonmk-s
anti responsibi Ii tics d contrdctor manilJ:cmcnt.
•
I'rc-.. wanl t:crl incllion
rcvic.."Ws
•
1l"r;lhasc to ind ..tlc putcnti;11 cont rolC tors' pcrformilOce I,istnry wilh govemmcnt i1t.'Cnc: ics aoJ any
invnl~ment with fcdcrJl'
st:ttel:lw cn,i,n:cmcnt illIthuritit.'S
•
Comprchcnsivc rcview uf
current RTC baclcJ:lOund
chc..'C1c policies complcte.
Improving baclct:rount.l
chc..'Clcs. includint: whethcr
entities mc..'Ct the fitness
and integrity st:lOtbrt.ls
established by FIH.REA
and have .he fin:mci:11
strcncth to endure the
tcrm of thc lontract
I~as
•
Alklitrcpurt on canccllc..'lI
rc:tl estate auction cont.. ined s(ll.'Cific recommendations for improving and
bcncr controlling badet:Rlurul checlcs and invcstit:ations of contracton
aoJ potential contractors
18
e
Operating Area
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comnlcnts
4. Contracting
(ii) Manal'=mcnt
(continued)
•
h;II,,1 ;IW;If\:nc~~ 1I;lIlIIn.:
tOctllk::ltecontrdctina:and
asset m:lnacement staffon
the earlv warnina: sit.rns of
rr....d and abuse is bcinl:
(lcvcioped. First course
toult place durine July
1991. The Office of Con.r.ICfor()vcni..-h':lndSurveillance has issued a
"C.,ntr.tCI fr;tu,1 T rainlr'l:
M ;tnu;tl" allli emh:lflu.'d on
:tncxtensivc !oCricsci minina: '~eminitrs on fraud
:IWitrCncSS. 11,e rr.. iuina:
prclf.....dm,lntenJcd 10 sensirizc ilil RTC employees
Involved in Ihe contracling process, hils alreaJy
Ix.'cn a:iven in severdl field
locations. The current
schedule will result in
rr.md ilWitreneSs uainina:
rur all ricM personnel hy
yearend.
19
e
Operating Area
4.
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
Contractini
(u) Manaeemcnr
(condnued)
•
ContrJcr :Iu<lit proa:rJm tn
I'Cview financial reports,
vcrify services performed,
aoo assess conlTdCfOr's in·
temal controls, compli.
ance with laws and regn·
1;ltions, suoconrrdctor se·
lection imcl ena:aa:emcnt
pmctil:es imtl ovcrdll per·
(nrm;lnce is upcrdtionill.
Since J;m ..;.,y 1991, or·
fke ofContrdctor Surveil·
I:mee and (')versil!l.t concluetc,1 nver 60 influiries
iUld rderrecl 12 m;ttters to
10. ItTC policy on sus·
pension aoo exclusion of
cuntr.lctors 1':15 lx.'Cn is·
suc.-d.
•
Evalu:ltion :mtl monitnr·
ing of contrdctur perfor.
mance aJ:3insr contrdCt(1r
business plilns; r.lling sys·
tem to cVilluiltc ovcr:all
pcrfOtmimCe IImlculcvcl·
opmenti ...".illclines prepiuetl ror review (lr
SAMDA contractors intem;.1 controls, conduct
awits of SAMDA con·
tracts to identify potenti,,1
wcalmessesi and develop
comprehensivc RTCcon·
tract audit prot:ram.
20
e
Operating Area
4.
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
Contracting
(ii) Man.ment
(continued)
•
•
1(. j 1... 5 !ilarll'll an a,.lil.
Iteview of the: OM Pro·
1:1am, which will include
assessment of the: perrOI"
milnCC rating sysrem
(6/10/91 Itcporr)
10 wm~ing closely with
conlractor Oversight and
Survcillam:e sta(( tocoor·
din:ne investit:'dtivc activ·
ity find (ormulate comple:.
rncntdrycontf3Ctorrcvie:w
and monitoring Pf0J:f'3m
to maximize coverage
•
ItTC pulil'Y rq: .... lint:
Ove:rsit:ht Manager Pro·
gram defined in directive
dated 11/28/90
•
ItT( : I" ,Iit.:y rl"t:;."lint: A .. ·
•
sct Milll:tger PerfurmaIXe
It:llin.." defilll... 1 in direc·
live .1:lh...14/ 16/'J I, wl.id,
e!llahlishc!l ""ifnrm crile'
ria tn ml"a~ttre (lcrfnr.
mand:, IltTC As~e' M:In'
ilJ."Clncnt (:..nUik:,nrs
Wilshingt,m imd (iel" stil((
fY.Irtici(lal'C in (lR)jc..-ctcom·
"Iiancc review tcams
whkh perform site visifil'
tions tuensurc that OflCrtI·
tions and contrdCfor milO'
agement oversi .."'t is he·
ina: implemcnted acconling to ItTC polkY. Field
oR'kc 51':1(( (l.luici(litlc in it
contrdctor oversi ..rht visi·
tation (lrot:ram to "tOni·
tor policy implcrncnl':ltion
by asset m:tnilt:ers.
21
Operating Area
GAO Criticisms
RTC Funding Act uf
1991
IG Comments
RTC Comnlcnts
4. Contracting
(iii) Minority
Conmeti",
•
Scmi-.. nnual rCllorls ,11Il:
4/l0 and IO/B on steps
lalcen by the RTC to
implement the minority
and women outreach pfO<o
gram required by section
1216(c) c:J FIRREA
•
(:ttmi,lcr:lliull lu min",ity contrJCtina: activity is
covcred in all 10 conmct
a'klits including:
lClrdl Services
Bidder Sclectlon
SAMDA
•
"'JO/')I Sl"mi A .. IIIMI ".
pmt s.."mincll. Five n:ltion:ll Outreach semin:.,s
andovcr 100 rc.:ional Otltreach efforts havc lx..'Cn
initiated. with ethnic. minority. and fcmale troulc
and pn/cssional associations and sped ..1 intcrest
.:mups. HA iJe:rccmcnt
with SnA It:." Ilt..ocn sil.'Ot..,1.
Prop05Cd (inal rea:ul3tions
on MWOB contracting
wcre' fnrw:lnlcd to Oversi.:"t BOilnl on 4/8/91.
Ovcrsl.:ht no:ud comments were receivctl on
6/)/91. Inrerim final rc.:,,I:.tions. exccpt Ilu»c relatl.-d to minority prefcrenccswhichiJrcbeine:hcld
back pendin.: Justicc Department f'Cview. as reqUCIted by the Ovcrsia:ht
Iblrd. were :Ipprovcd by
RTC llaird un 11.10191.
22
•
Operating Area
4.
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
Contracting
(iii) Minoriry
Connactinc
(continued)
•
To encoumJ:c morc contmcring with minoriry.
women-owned and small
businesses. RTC is downsizing asset portfoliOS and
malting thcm more ..reot:r.tphic'llly concentr.aleli.
RTC is also enhancing
normal solicitation actinns with local and natinn.,1 :advertising that is
specifically dircued at
such firms .
.
Ahcrnalc 1m ""lusal cViII .. -
ation approaches arc: being developed by tan RTC
task force in order to improve the p:articityJtion of
minority. womcn-owm:d
andsmallcrfirms in RTCs
contracting proccss. One
such approach would
qualify technical proposals within a I:iven acceptable range (without scoring by absolutc points) and
.hen award the contr.lct
b3sctl on the cost side uf
the propos:,1.
23
e
Operating Area
4.
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
u,.,tr.lCtl"l
(III) Minority
u,.,nxtlnc
(continued)
•
11le ItTC has sil:"OO an
al:rccment with 111t~ Minorily Business Development A.:ency (M81)A) to
establish an inrer3~ncy
cOO(lCrative effort to assist
In minority husiness development. The MonA
will 3ssist in puhlidtin.:
and promo. in.: the ItTC.
outreach to minority husiOCS5CS anti will participate
in joint efforts with ItTC
.51:'(( in trainin.: at:tivitics;
allowln.: thc input of
M!lI)A stdff allli resource.
Inarcas Inwhich RTChas
nett h ••d an opportunity to
dcvelopcusromizcd workshops targeting specific
concems of the minority
businesses, thus enhancIng contrdt:tint: opporrunitfcs for the minority
business communily.
24
e
Operating Area
S.
GAO Criticisms
RTC Funding Act of
1991
IG Comments
RTC Comments
1989 Financial Stalements
(i) Audit Report
•
Qualifi~d opinion, scGpC
•
N/A
•
Ilmintion due to unc~r
nlnlics re:
~slimated recoveries
on claims paid (assct
valuation)
estimated liability for
1(,hilsmetwithGAOand
provided informallon
from irs reviews to expedite completion cI 1990
st.lfcments
ItTC has implementt.'tl ••
•
quarlerlyY3luationsyst~m
10 cstimat~ r«overies on
claims. Sec 2.B.(i).
unrcsolftdcascs to~
tnnsfcncdfrom OTS
(remaining cost cI
ckanup)
, (II) Intaml Connol.
•
General conc~ms reprdIng adequacy
•
N/A
• GAO ha. Identified lpCCiRc Insanea cllntemal CORbOl walmcslC'. RTCs review cI
Internal control. I'Cftalcd Internal control procedure. In place subject 10 pouible audit
exccpdona which hac: .ublcquentl, been conectul. These: audit exceptions included
•
All IG audio 35SCS1 in~rn,,1 controls d me activity
reviewed and provide ret·
oml'llO'ldttions relative to
(lcficienci~s nooxI. The 10
is illso participating as a
technical advisor In RTC
activities toeslablish an In·
temal Olntrol Task Force.
•
11,c'c~tim;ltc,lli""ility fur
. " unresolvcli C:J!iCS is "a5(:d
on the hest avail"Mc information from OTS.
•
RTC aclcnowlcdt.'Cs tholt
there is inherent uncerninty as to asset valucs
and me rcm:linin.: cost of
the thrift clean-up.
•
Site reviews ci Consolida~d Offices have been
initiat~d hy the Offices of
Corporate Finance and
Program Analysis tonawch;lrt and document transactional nows and assoc'atcdcontrol points in various processing cycles.
•
See Attachment -I ent.rI~-RTC Internal Control Environment-
25
AP'Ptm,,!X 11
910719.0
Policy statement Number 18
RTC Internal Controls
1.
Objectives.
~he
objectives of this Policy statement are:
(A) to encourage the Resolution 'l'rust corporation ("RTC")
to establish and adhere to internal control standards, including
evaluation and reporting standards, that are no less stringent
than those required of certain agencies pursuant to the Federal
Managers' Financial Integrity Act of 1982 ("FMFIA");
(B) to encourage the RTe to vest in its Chief Financial
Officer powers substantially similar to those provided in the
Chief Financial Officers Act of 1990 ("CFO Act").
2.
Purpose.
(A) Tbe purpose of this Policy Statement is to ensure tbat
tbe RTe, in its corporate and receiversbip capacities, has in
place a comprebensive set of internal accounting and
administrative controls, which can provide reasonable assurance
that:
1) obligations and costs are in compliance with applicable
law and Oversight Board resolutions;
2) all transactions are executed in accordance with
management's general or specific authorization, and in accordance
with established policies and procedures;
3) funds, property, and other assets are properly accounted
for and safeguarded against waste, loss, unauthorized use, or
misappropriation; and
4) revenues and expenditures are properly recorded and
accounted for in a timely manner to
(a) permit the preparation of accurate and reliable
accounts, financial statements, and management reports and
(b) maintain accountability over assets
3.
Internal Control Standards ••
It is the policy of the Oversight Board that the RTe should
establish and maintain a system of internal accounting and
administrative controls which, at a minimum, meet the standards
prescribed by the comptroller General pursuant ~o FMFIA.
4.
Internal Control Evaluation.
*
It is the policy of the Oversight Board that the RTC should
establish and maintain an internal control evaluation system
which, at a minimum, meets the requirements prescribed by the
Office of Management and Budget pursuant to FHFIA. In
establishing that system, the RTC should, to the extent
practicable, study the evaluation systems used ~y Executive
agencies and adopt the most effective elements of those systems.
The RTC should also incorpora~ in such aystem specific
mechanisms to evaluate compliance with relevant oversight Board
resolutions, policy statements, principles, and other quidance.
5.
pesignation, Authority. and Function of the Chief Financial
Officer.
It is the policy of the oversight Board that the RTC should
provide its Chief Financial Officer with authority and functions
substantially similar to those set forth in 31 U.S.C. Sections
902(a) (1)-(3), (5) (B)-(E), (7) and (8), and section 902(b), as
amended by the CFO Act.
6.
Reports to the oversight Board.
*
(A) The RTC shall submit to the Chairman of the Oversight
Board the annual management report required by the CFO Act at
least 30 days before the report is due to ~e submitted to
Congress.
(B) The RTC shall prepare and submit to the Chairman of the
Oversight Board a statement and report on internal administrative
and accounting controls substantially similar to that annually
required of Executive agencies under FHFIA. Such report is due
90 days after the end of the reporting period. The reporting
period is the RTC's fiscal year unless the Chairman of the
oversight Board determines otherwise. On a one time basis only,
however, the RTC shall submit a statement and report ~y October
30, 1991, covering the RTC's fiscal year ended December 31, 1990,
and covering, to the extent possible, the period from January 1
through September 30, 1991.
7.
Immediately Effective.
This Policy statement aball
~.
immediately effective.
• With regard to SectioD 3 of tbis Policy Statement, RTC should
develop appropriately rigorous internal control standards for the
internal controls of those of its contractors who act on ~ehalf
of the RTC (e.g., SAMDA contractors and Interim servicing
Agreement contractors). The internal control evaluation system
referred to in section 4 of this policy statement should ~e
employed ~y RTC to evaluate the internal controls of such RTC
contractors in accordance with such standards.: Reports required
under section 6 of tbis Policy Statement should include tbe
results of auch evaluations of the internal controls of such RTC
contractora.
Sinc~ inc~ption, th~ RTC Iuu achiet1~d n~t asset r~ductions of $168.2 Dillion. Most of thes~ asset
r~dudions ha,,~
e
tarcen plac~ in cons~",atorship.
Cumulative Net Asset Reductions
($ Billions)
Inception through June 30, 1991
Acquired Assets·
$328.3
Reduction in
Conservatorship!
~·0~'{~Nlt~~~.~~)~tt~Y·H, $103.4
Reduction in
Resolutions
$36.7
•
Reduction in
Receiverships
•
I
$26.7
•
Other Changes
CurrentRTC
Inventory
$1.4
I
I
$160.0 <}- _______ ..1
$168.2 Net Reduction
• Conscrvatonhip and ~aivership
Source: RTC Review; on Analysis
I
I
I
I
I
I
I
I
I
I
I
Th~ RTC hru mcuI~ th~ most progTeu in sdl~s
e
0/ its s~curities in"entory.
Asset Sales and Principal Collections - Conservatorship
and Receivership
($ Billions)
Inception through June 30, 1991
I!I
% Book Value Sold
D 'Yo Remaining Inventory
27%
Securities
MortgageS
Oth~r
Total Assets
in Inventory
100% - $108.7
100% - $151.7
45%
loans
100% - $27.8
Real Estate
100% - $28.0
Other Assets
100% - $23.0
Total Assets-
IliWisHI.':
47%
100% - $339.2
• Total Assets include new loans and as.~ts purchased by RTC Conservatorships prior to resolution.
Source: RTC; 08 Analysis
AP'PfH)1X IV
The RTC has incuITed the highest loss rate on sales of REO.
t)
Loss on Asset Sales and Principal Collections
Conservatorship and Receivership
($ Billions)
Inception through June 30, 1991
•
% Collected
0
% Loss
Total Assets
Sold & Collected
Securities
100% - $79.8
Mortgaga
100% - $69.2
Omer Loans
100% - $15.2
Real Estate
100% - $7.3
OmerAssell
100% - $7.6
Total
100% - $179.3
Note:
Loss peR:entaga generally rcn~ct the sale rl higher quality assets In conservatorship and those passed at resolution.
Source: RTC; 08 Analysis
The holding period of RTC assets based on three month motling average of sales and collections has
declined since March for all asset categories except Securities.
e
Total RTC Inventory· -- Months of Inventory
Three Month Moving Average
Based on January-June. 1991 Sales
Months of Inventory
~REO
80
70
60
•
Mortgages
~
Total Assets
•
Other Loans
A
Securities'
,.
so
40
JI.J
JO
20
10
8.7
o ~'------~--------------~--------------~--------------~-------March '91
April
May
June
• IncilKics conservatorship assets, as.'iCts passcd at resolution and receivership aS5Cts.
Note: Three Month Moving Aver.lge is the average sales and collections (or the preceding J month period. The 42.2
month REO figure for June indicates that all REO will be sold aftcr a holding period of 42.2 months, based on salcs
and collections in April, May & Junc.
Source: RTC Monthly Historic:llinformation; 011 Analysis
APPElImIX VI
The RTC Juu achieved 74% of it, }anudry..September dud sdk, projectimu.
e
RTC Asset Sales and Principal Collections
Pace Against Projections·
Book Value Reductions
($ Billions)
As of June 30, 1991
100% =$30
100% = $40
100% = $5
SEll
100% =$75
.~ ~~'~)~f' .'/~ ~',
., . . n.1,1 ...
'I .,"
'1;
,J '.. \~'\' 4, 11
~,,,,~,
~~, .• \)11
f •. ~
I .Jd ~.. ~.\•. ) ': .
"
,
.
~'~i' '~[,\·'I'~
1 "~ill
',,\.'./
;'{,..>
l'
.. -{f\',
..(., ~i\.,iJ \' .. t·
lP.· ./jo;\t"'
. "1'\
)
·,,'.~r..'I'
;1\1 ... · ~ I .t.~l
~', l:(' i
t·,"',
~~
h':,
\-~j
4("(O'~
d
,. .
.a..
0
,'~1.',..t.~'.c
I're..' /'! J<. ~ ,t~.. ~t.,'
"t) .
1... "
":';i,
.~,~
i'
"'t".~.\\~ •• '
'1'/"; . iJ ~"l'
· ~ ... ;t t',.~.' '
,l,,/It.!'.!:.f. , •.
",I
•
~'.' 4',~r.~'~.'l.j
.(1'
'.I~'~ \:
1"'~.. 'J ,.,
~ilIf."'.,' {'
" '"
,
I
~1':"-:
r.:,.~""
· ...
:1 '/J.r/JI
,,,,,,.,T
Securities
Loans
REO/Other Assets
Total
• Salcs and collections projections inclu(lc assets passed at resolution and sales and collections from
receiverships and conservatorships.
Sourcc: February t Operating Plan; RTC Monthly Hi5toricalln(ormationi 08 Analysis
Singk family eJffordable housing accepted offers htwe continued to increase in June.
e
Affordable Housing, Single Family Monthly Accepted Offers
(#I of Properties)
As of June 30. 1991
2,000
1,500
1,000
soo
OLI~
____L-__-L__
3/1/90 •
6/30/90
~
____
September
~
__-L____L-__
DKember
~
__
~
____
~
__
March '91
~
__
~~
__
~_
June
Note: "The number d p~tie~ in RTCs eligible inventory is unknown. "The RTC has hlrm a oontraCtor to determine lIS inventory.
Source: RTCi 08 Analysis
APPEH>IX VIII
rREAS~J~X31N EWS
lIartm.nt of til. T,•• su;Y • Wasilington, D.C . • Telephone .".204'1
;EP , G9\
, l I 856
IEPT. OF THE TREASURY
FOR IMMEDIATE RELEASE
September 13, 1991
Contact: Andy Montgomery
(202) 874-6750
RUSSELL D. MORRIS
Appointed Commissioner
Financial Management Service
Secretary Nicholas F. Brady today announced the appointment of
Russell D. Morris as the commissioner of the Financial Management
Service (FMS), a bureau within the Department of the Treasury.
As commissioner of the Financial Management Service, Mr. Morris has
responsibility for over $2 trillion a year in collections and
disbursements, and for the investment of the government's
multibillion-dollar trust funds. The Financial Management Service
also has program responsibilities for cash management, credit
administration, and debt collection activities throughout the
government.
Mr. Morris has served since 1988 as the deputy commissioner of the
FMS, participating in policy and planning decisions, overseeing the
day-to-day management of the 2,200 person bureau, and serving as
the chairman of the Executive Resources Board. From 1984 to 1988,
Mr. Morris served as the assistant commissioner for federal finance
at the FMS.
Previously, Mr. Morris served as the assistant
commissioner for banking and cash management at the FMS, from 1980
to 1984.
Prior to his eleven years of service at the Financial Management
Service, Mr. Morris worked as a general manager at the U.S. Postal
Service: and as an analyst with the Board of Governors of the
Federal Reserve. Since 1985 he has taught as an adjunct professor
in financial markets and institutions at Georgetown University.
Mr. Morris received his B.S. in finance (1963), and an M.B.A.
(1964) from Ohio State University. He went on to receive a Ph.D.
in business administration (1973) from Ohio State University. He
is married to the former Rebecca Rainer, and has one son, Justin.
Mr. Morris and his family reside in Severna Park, Maryland.
000
NB-1451
TREASURYRoNoEWS
.1
apartment af the T..aSulY
.~".iI"~~", D.C.
J£Pr
. OF rf{
FOR IMMEDIATE RELEASE
September 13, 1991
• Te.ephone 5&&.2D4I
£ TRt·.
<':"1"11 v
0ui1
contact:! Desiree Tucker-Sorini
202-566-8191
Statement by
Nicholas F. Brady
Secretary of the Treasury
We welcome the move by the Federal Reserve Board to lower the
discount rate. I hope this will be followed by similar moves by
the Fed to assure it meets its own money supply growth targets.
The economy is on track and it appears that inflation has slowed
markedly this year. It is extremely important that Fed policy
support the economic recovery.
NB-1452
fREASUR¥oNEWS
.partment Of til. T,.a~fp~ gT l"fIfl~~"lIton. D.C •• Telephone 5 •• ·2041
FOR RELEASE AT 2:30 P.M.IEPT.OFTHETRE~&llJ¥ACT:
September 13, 1991
Office of Financing
202/376-4350
TREASURY'S 52-WEEK BILL OFFERING
The Department of the Treasury, by this public notice,
invites tenders for approximately $12,500 million of 364-day
Treasury bills to be dated September 26, 1991, and to mature
September 24, 1992 (CUSIP No. 912794 YY 4). This issue will
provide about $1,875 million of new cash for the Treasury,
as the maturing 52-week bill is outstanding in the amount of
$10,630 million. Tenders will be received at Federal Reserve
Banks and Branches and at the Bureau of the Public Debt, Washington, D. C. 20239-1500, Thursday, September 19, 1991, prior to
12:00 noon for noncompetitive tenders and prior to 1:00 p.m.,
Eastern Daylight Saving time, for competitive tenders.
The bills will be issued on a discount basis under competitive and noncompetitive bidding, and at maturity their par amount
will be payable without interest. This series of bills will be
issued entirely in book-entry form in a minimum amount of $10,000
and in any higher $5,000 multiple, on the records either of the
Federal Reserve Banks and Branches, or of the Department of the
Treasury.
The bills will be issued for cash and in exchange for
Treasury bills maturing September 26, 1991. In addition to the
maturing 52-week bills, there are $18 l 263 million of maturing
bills which were originall~ issued as-13-week and 26-week bills.
The disposition of this latter amount will be announced next
week. Federal Reserve Banks currently hold $1,784 million as
agents for foreign and international monetary authorities, and
$5,977 million for their own account. These amounts represent
the combined holdings of such accounts for the three issues of
maturing bills. Tenders from Federal Reserve Banks for their
own account and as agents for foreign and international monetary authorities will be accepted at the weighted average bank
discount rate of accepted competitive tenders. Additional
amounts of the bills may be issued to Federal Reserve Banks,
as agents for foreign and international monetary authorities,
to the extent that the aggregate amount of tenders for such
accounts exceeds the aggregate amount of maturing bills held
by them. For purposes of determining such additional amounts,
foreign and international monetary authorities are considered to
hold $230
million of the original 52-week issue. Tenders for
bills to be maintained on the book-entry records of the Department of the Treasury should be submitted on Form PD 5176-3.
NB-.1.453
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. Others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
competitive tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.
1/91
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from anyone
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bids
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.
8/89
PUBLIC DEBT NEWS
Department of the Treasury •
. \ 11:1\ f'tNf~~~ Office
FOR IMMEDIATE RELEASE
September 16, 1991
~~
j
of Financing
202-219-3350
RESULTS OF TREASURY'S AU~~~~RQiS~~-WEEK BILLS
,t?1. Or
Tenders for $10,604 million of 13-week bills to be issued
September 19, 1991 and to mature December 19, 1991 were
accepted today (CUSIP: 912794WX8).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.17%
5.19%
5.19%
Investment
Rate
5.33%
5.35%
5.35%
Price
98.693
98.688
98.688
Tenders at the high discount rate were allotted 47%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas city
Dallas
San Francisco
Treasury
TOTALS
Received
36,475
31,965,340
25,290
48,565
241,555
31,220
2,998,155
13,860
7,135
38,905
25,185
650,775
631,055
$36,713,515
36,475
9,320,025
25,290
48,565
49,435
30,690
304,005
13,860
6,715
38,905
25,185
73,875
631,055
$10,604,080
Type
Competitive
Noncompetitive
Subtotal, Public
$32,227,490
1,343,645
$33,571,135
$6,118,055
1,343,645
$7,461,700
2,010,980
2,010,980
1,131,400
$36,713,515
1,131,400
$10,604,080
Federal Reserve
Foreign Official
Institutions
TOTALS
NB-1454
Acce~ted
LIe DEBT NEWS
Department of the Treasury • Bureau o~mt\~~i~Se
FOR IMMEDIATE RELEASE
September 16, 1991
;H \ l
RESULTS OF TREASURY'S
t .'
Washington, DC 20239
u\ \CP~~qTa
J
Office of Financing
202-219-3350
AUCT~~tUi~-WEEK
BILLS
Of 1HE fl"'\lIE.l.
Tenders for $10,607 million of 26-week bills to be issued
September 19, 1991 and to mature March 19, 1992 were
accepted today (CUSIP: 912794YE8).
o
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.19%
5.22%
5.22%
Investment
Rate
5.42%
5.45%
5.45%
Price
97.376
97.361
97.361
Tenders at the high discount rate were allotted 88%.'
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas city
Dallas
San Francisco
Treasury
TOTALS
Received
33,555
25,863,995
13,190
28,880
44,365
29,165
1,137,500
14,625
5,590
35,720
15,965
629,060
487,065
$28,338,675
Acce12ted
33,555
9,497,155
13,190
28,880
43,525
29,045
147,500
14,625
5,590
35,720
15,965
255,060
487,065
$10,606,875
Type
Competitive
Noncompetitive
Subtotal, Public
$24,223,500
1,015,975
$25,239,475
$6,491,700
1,015,975
$7,507,675
2,300,000
2,300,000
799,200
$28,338,675
799,200
$10,606,875
Federal Reserve
Foreign Official
Institutions
TOTALS
NB-1455
TREASUR~¥~o \ ~EWS
...artmant of the Tra.su,. • " ,• •~
For Release Upon Delivery
Expected at 10:00 a.m.
September 17, 1991
\
I(t'\" Or
D.C •• TeleDhone 588-204'
cu~{
\\\cri\t~'J
STATEMENT OF
KENNETH W. GIDEON
ASSISTANT SECRETARY (TAX POLICY)
DEPARTMENT OF THE TREASURY
BEFORE THE
SUBCOMMITTEE ON SELECT REVENUE MEASURES
COMMITTEE ON WAYS AND MEANS
UNITED STATES HOUSE OF REPRESENTATIVES
Mr. Chairman and Members of the Subcommittee:
I am pleased to present the views of the Administration on
H.R. 2735, which would make three changes relevant to regulated
investment companies (RICs).
First, H.R. 2735 would repeal the "30 percent" test of
section 851(b) (3). Second, H.R. 2735 would generally require a
shareholder who sells shares in an open-end RIC to use a
prescribed method to determine the basis and holding period in
the shares sold. This proposal would also require open-end RICs
and other brokers to track and report shareholder basis and
holding period in shares in open-end RICs. Finally, H.R. 2735
would amend the "90 percent" test of section 851(b) (2) to clarify
the treatment of reimbursements of RIC expenses.
The Office of Tax Analysis estimates that each provision of
H.R. 2735 loses revenue and hence that overall the bill will lose
revenue over the 1992-1996 budget period. Our support for the
repeal of the so-callecf "short-sho"rt" restriction is, therefore,
conditioned upon the enactment of an acceptable revenue offset
with repeal.
1.
Repeal of the 30 Percent Test of section 851(b) (3)
Current law. Under the 30 percent test of section
851(b) (3), in order to qualify to be taxed as a RIC, a
corporation must derive less than 30 percent of its gross income
for the year from the sale or disposition of certain investments
(including stock, securities, options, futures, and forward
contracts) held for less than three months.
Following an earlier effort to repeal section 851(b) (3),
section 851(g) was added in 1986 to provide some relief from the
30 percent test for a RIC's hedging activities. Under section
851(g), both the hedged and the hedging positions are essentially
NB-1456
-
2 -
treated as a single investment (any increase in value of a
position that is part of a hedge is offset by any decrease in
value on any other position that is part of the hedge).
Proposal. The bill would repeal the 30 percent test of
section 851(b) (3).
Administration position. We support repeal of the 30
percent test of section 851(b) (3) if an acceptable revenue offset
is provided. Repeal of section 851(b) (3) would significantly
reduce tax compliance cost for RICs without sacrificing any
legitimate tax policy objective.
The predecessor to the 30 percent test was originally
enacted in 1936. The legislative history, however, is silent on
the purpose of the 30 percent test.
It has subsequently been
rationalized as necessary either (1) to restrict the availability
of RIC treatment to entities that are not engaged in an active
business or (2) to protect shareholders by limiting speculative
trading or portfolio "churning." The Treasury Department has
long held the view that neither of these rationales justifies
retaining the 30 percent test.
While we believe that RIC treatment should be available only
to entities that are not engaged in an active business, we do not
believe a restriction based on the holding period of securities
sold is helpful in achieving this policy. For Federal income tax
purposes, the trading of portfolio securities is generally
treated as less "active" than other business activities. A
distinction based on sales of securities held for a short period
as opposed to sales of securities held for a longer period is of
little utility in making this distinction.
Subsequent to the enactment of the 30 percent test in 1936,
the Investment Company Act of 1940 was adopted and the Code was
amended generally to require a RIC to register as an "investment
company" under the 1940 Act. This requirement imposes an
independent limitation on the permissible activities of a RIC and
restricts the ability of an active business corporation to
qualify as a RIC. Registration with, and regulation by, the
Securities and Exchange Commission under the 1940 Act obviates
the need for the 30 percent test as an investor protection
device. We believe that the 1940 Act provides the appropriate
vehicle for the regulation of the relationship between such
corporations and their shareholders; such regulation, if
desirable, should be achieved through the securities laws, rather
than the tax laws.
Finally, the 30 percent test imposes SUbstantial costs on
RICs and their shareholders, both by requiring investment
decisions to be made on noneconomic grounds and by forcing RICs
to monitor their compliance with the rule.
-
2.
3 -
RIC Shareholder Basis
Current law. Under section 1012, a taxpayer who sells
shares in a RIC may use one of four methods to determine the
basis and holding period of the shares sold. These methods are
(1) specific identification, (2) first-in, first-out (FIFO), (3)
single category average cost, and (4) double category average
cost. Under the single category average cost method, a single
average basis is computed for all shares and holding period is
determined using FIFO. Under the double category average cost
method, an average basis is computed for those shares held for
not more than one year and for those shares held for more than
one year and the taxpayer can choose the category from which the
shares were sold.
In applying FIFO and the two average cost methods, a
taxpayer must take into account all shares he holds in a single
RIC. For example, if a taxpayer has more than one account in a
single RIC, in using the single category average cost method, he
must determine a single average basis for all of the shares in
all of the accounts.
The single and double category average cost methods
generally do not apply to shares that were acquired by gift if
the basis of the shares to the donor exceeded their fair market
value at the time of the gift. Such shares have a "split" basis
under section 1015(a) (i.e., they have one basis for determining
gain and another for determining loss), which makes computing an
average impossible.
Under section 6045, brokers must send information returns,
both to the Internal Revenue Service and to the investor,
reporting the gross proceeds from sales of securities during the
year. For this purpose, open-end RICs that stand ready to redeem
their shares are treated as brokers.
Proposal. Under the bill, section 1012 would be amended to
require a taxpayer who sells shares in an open-end RIC generally
to use the single category average cost method to determine basis
and holding period in the shares sold.
All computations would be made on an account-by-account
basis. Thus, if a taxpayer has two separate accounts in the same
RIC, the basis and holding period would be computed separately
for each account.
The taxpayer would be permitted to elect not to use the
single category average cost method and instead to use either the
specific identification or FIFO method. The election would be
made on an account-by-account basis. The election would have to
be made in the taxpayer's return for the year in which he first
- 4 sells shares from the account. The proposal would not apply to
any account which includes any stock not acquired by purchase.
section 6045 would also be amended to require open-end RICs
and other brokers to issue information returns reporting, in
addition to the gross proceeds from any sale of shares in an
open-end RIC, the basis of the shares sold and the portion of the
gross proceeds attributable to shares held for more than one year
and to shares held for not more than one year. Under the
proposal, basis would be determined by using an average and
holding period would be determined by using FIFO (i.e., the
single category average cost method). The proposal would require
the average basis and FIFO holding period to be computed on an
account-by-account basis (thus, it would not be necessary to
determine whether a shareholder has multiple accounts and compute
an overall average or FIFO holding period).
If a taxpayer's account is transferred from one broker to
another, the transferor broker would be required to provide the
transferee broker with sufficient information regarding the
account to enable the transferee to comply with the new reporting
requirements.
The proposal grants Treasury authority to prescribe
regulations regarding the manner in which this information is to
be reported. These regulations would be necessary to provide
guidance regarding the categories of basis and holding period
adjustments (e.g., return of capital distributions) that must be
taken into account in preparing the new information returns.
The proposal would be effective beginning January 1, 1993
(i.e., for accounts opened after December 31, 1992 and for
information returns regarding sales during calendar 1993). The
proposal would not apply to accounts established before
January 1, 1993, even if additional investments were made through
the account.
Administration position. We question whether this proposal
will achieve significantly enhanced compliance or provide
meaningful simplification in its current elective form;
therefore, we would suggest modifying the proposal to make it
mandatory. Congress must ultimately make a judgment as to
whether the obvious convenience which an elective proposal could
provide for many small mutual fund shareholders outweighs the
difficulties described below and the revenue loss an elective
proposal will entail. We would also note that we and the
Internal Revenue Service believe that the proposal would improve
compliance significantly if it were mandatory. The Office of Tax
Analysis estimates that a mandatory provision would raise a
modest amount of revenue.
- 5 -
Many taxpayers investing in open-end RICs engage in a large
number of transactions in the RICs shares. For example, some
taxpayers purchase shares periodically through participation in
dividend reinvestment plans or in payroll deduction or other
types of investment plans. Other taxpayers may frequently sell
shares to pay living expenses. Because of the many purchases or
sales or both in different amounts, at different times, and at
different prices, taxpayers can have difficulty accurately
reporting sales of open-end RIC shares.
In most cases, the proposed reporting requirement would
provide taxpayers selling shares in open-end RICs with the
information necessary to report those sales. However, the
information returns received by at least some taxpayers would not
provide the information required to file properly.
The size of , the group for which the information would be
inaccurate would depend, in part, on how many taxpayers elect not
to use the single category average cost method. For taxpayers
who "elect out", the new information returns would simply be
irrelevant. While such taxpayers place themselves in this
position by voluntary action and therefore may be reasonably
required to assume any additional burdens imposed by their
action, this permissive election will seriously limit the value
of such information to the Internal Revenue Service for
enforcement purposes and may even be counterproductive to
compliance.
Even for taxpayers who do not elect out of the single
category average cost method, th~ information returns may not
provide the appropriate information either because brokers may
not be able to apply all of the rules regarding basis and holding
period or because those rules are applied improperly. For
example, a taxpayer could hedge his investment, which could
suspend his holding period or create a new holding period.
Similarly, a taxpayer could incur costs (e.g., legal fees) that
must be capitalized into the basis of his investment. Also, a
taxpayer's basis could be affected by events occurring long after
he has sold some or all of his investment. For example, a
taxpayer selling shares in an open-end RIC in December of one
year could have his basis in those shares reduced as a result of
a distribution made in November of the following year if the
distribution is a return of capital. As another example, section
852(f), relating to the treatment of certain load charges, could
affect a taxpayer's basis long after the shares are sold. It is
open to question whether these caveats affect a large number of
mutual fund shareholders.
Some taxpayers for whom the returns are inaccurate for
reasons specified above may nonetheless use the information.
Some would do so unknowingly; others, however, may be tempted to
use the inaccurate information when doing so would be to their
-
6 -
advantage. They might be tempted to do so because they believe
that reporting the amounts shown on the information returns
provides a form of audit protection.
The fact that taxpayers would be permitted to elect not to
use the single category average cost method is an obvious source
of complexity in the proposal. Taxpayers would be required to
determine whether to make the election and then to take the steps
necessary to make the election. In addition, because the
information returns would be wrong for any taxpayer that makes
the election, the information returns would be less useful for
the Internal Revenue Service. While removing the election from
the proposal would deprive RIC investors of basis computation
options allowed to other securities investors, we believe that
the proposal should not be enacted unless it is mandatory. Given
the ability of RIC shareholders to control significant basis
allocations by the simple expedient of opening new accounts, we
question whether the loss of flexibility inherent in a mandatory
rule would impose any meaningful disadvantage.
It may be difficult to develop procedures for transferring
information regarding an account when the account is transferred
from one broker to another. For example, it is a common practice
for a taxpayer who holds RIC shares directly or through an
account with one broker to use a different broker to sell part or
all of his investment. In such a case, although the account (and
the related information) has not been transferred, the selling
broker has the reporting obligation. It should also be noted
that the rules on transfers of accounts, by requiring both
brokers to be acting as nominees, is too narrow. It should be
expanded to cover situations in which an account held directly
with an open-end RIC is transferred to a broker who will act as a
nominee or where an account that is held through a broker acting
as a nominee is transferred to one held directly with the RIC.
Congress should be aware of the need for adequate lead time
both for the Internal Revenue Service to prescribe rules and
procedures and for mutual funds to develop compliance programs
implementing those rules. Accordingly, the effective dates
proposed should be reviewed carefully to ensure that adequate
time for implementation is provided after enactment.
The Internal Revenue Service has also expressed concern
about the exclusion of existing accounts from the proposal. We
and the Internal Revenue Service recognize the difficulties
associated with gathering the information required to bring
existing accounts into the reporting system and understand that
additional time would be required to implement a system for
existing accounts. However, we believe Congress should consider
granting the Secretary regulatory authority to require reporting
for existing accounts without specifying a deadline for
implementation of such authority. such a structure would allow
- 7 -
evaluation of the experience with new accounts and rulemaking on
a proposed basis, allowing time for comments and industry
consultations.
until such regulations are implemented, we suggest that the
proposal be clarified to make clear that an account established
before the effective date does not become subject to the proposal
as a new account simply because it is transferred from one broker
to another after the effective date. The rationale for excluding
existing accounts is that the necessary information regarding
basis and holding period is not as readily available as it would
be for a new account. This continues to be true where the
account is merely transferred. It should also be clarified that
the proposal will be applied separately to part-sale, part-gift
transactions.
3.
Reimbursements of RIC Expenses
Current law. Under the 90 percent test of section
851(b)(2), a RIC must derive at least 90 percent of its gross
income for the year from certain specified sources. These
sources are dividends, interest, payments with respect to
securities loans, gains from the sale or other disposition of
stock, securities, or foreign currencies, or other income
(including gains from options, futures, and forward contracts)
derived with respect to its business of investing in stock,
securities, or currencies.
Proposal. The proposal would provide that, for purposes of
the 90 percent test of section 851(b)(2), amounts included in
gross income by reason of any reimbursement (or other payment)
with respect to any expenses of the RIC will be disregarded.
Administration position.
We do not support the proposal.
Prior to the Tax Reform Act of 1986, the sources of
qualifying income for purposes of section 851(b) (2) were limited
to dividends, interest, payments with respect to securities
loans, and gains from the sale or disposition of stock or
securities. The Internal Revenue Service, however, administered
the prior version of section 851(b) (2) in a manner which avoided
inappropriate application of the requirement. For example, the
Service ruled that certain gains from options and futures
contracts were qualifying income for purposes of the 90 percent
test. See e.g., Rev. Rul. 83-69, 1983-1 C.B. 126 (options);
GCM 38994 (May 27, 1983) (futures contracts); and GCM 39447
(December 5, 1984) (futures contracts). The Service also ruled
that the 90 percent test was not violated by recovery of excess
management fees, Rev. Rul. 64-247, 1964-2 C.B. 179; recovery of
damages from an investment advisor for breach of fiduciary duty,
Rev. Rul. 74-248, 1974-1 C.B. 167; refund of state franchise
taxes, Ltr. Rul. 8530016 (April 24, 1985); or recovery of damages
- 8 ar~s~ng from the purchase of securities in reliance on a
misleading prospectus or through fraud, Ltr. Rul. 7838135
(June 26, 1978), Ltr Rul. 8837085 (June 24, 1988).
In 1986, section 851(b) (2) was amended to expand the sources
of qualifying income. The amendment, in part, codified the
administrative positions of the Service. In addition, the
amendment expanded section 851(b) (2) to treat as qualifying
income other income derived with respect to a RICs business of
investing in stock, securities, or currencies. By adding this
residual category of qualifying income, the amendment provides
the Treasury Department and the Service clear authority to apply
section 851(b) (2) in a manner consistent with its underlying
purposes. No regulations or rulings interpreting this residual
category have thus far been issued.
We are concerned by the breadth of the proposed amendment
which could allow payments to a RIC to be structured as
reimbursements without restriction. We fear that aggressive use
of the provision might undermine investment restrictions designed
to insure that RICs do not engage in active business. While we
would be willing to consider a more narrowly targeted exception
limited to particular problems associated with the commencement
of fund operations, we do not believe that a case has been made
for the broad change here proposed given prior administration of
the provision.
Mr. Chairman, that concludes my formal statement. I will be
pleased to answer any questions that you or other Members may
wish to ask.
TREASUR'lSRNEWS
D811artment of tile Treasury • Washington, D.C •• Tel_lIllon. 5&&.2041
;EP
I 891 I I 2 0 7 2
EPT. OF THE
FOR IMMEDIATE RELEASE
T')Ct{:UIJ'L
I
,U~ ,-'
"s e pte mb e r
17, 1991
Monthly Release of U.S. Reserve Assets
The Treasury Department today released U.S. reserve assets data
for the month of August 1991.
As indicated in this table, U.S. reserve assets amounted to
$73,514 million at the end of August 1991, down from $74,816 million in
July 1991.
U.S. Reserve Assets
(in millions of dollars)
End
of
Month
Total
Reserve
Assets
Gold
Stock 1/
July
74,816
11,062
10,360
44,664
8,730
August
73,514
11, 0~2
10,.479
43,247
8,726
Special
Drawing
Rights Yd/
Foreign
Currencies !J
Reserve
Position
in IMF Y
1991
!/
Valued at $42.2222 per fine troy ounce.
Y
Beginning July 1974, the IMF adopted a technique for valuing the
SDR based on a weighted average of exchange rates for the
currencies of selected member countries. The U.s. SDR holdings
and reserve position in the IMF also are valued on this basis
beginning July 1974.
d/
Includes allocations of SDRs by the IMF plus transactions in SDRs.
!I
Valued at current market exchange rates.
ND-1457
Report to Congress
on the
Depreciation of Business-Use Light Trucks
Department of the Treasury
September 1991
•
ASSISTANT SECRETARY
DEPARTMENT OF THE TREASURY
WASHINGTON
September 1991
The Honorable Dan Rostenkowski
Chairman
Committee on Ways and Means
U.S. House of Representatives
Washington, D.C. 20515
Dear Mr. Chairman:
Section 7612(f) of Public Law 101-239, the Omnibus
Budget Reconciliation Act of 1989, directs the Secretary of the
Treasury or his delegate to conduct a study of the proper class
life for cars and light trucks and submit a report to the
Congress within one year of enactment. The Omnibus Budget
Reconciliation Act of 1990 extended the date for submission of
the report to April 15, 1991.
Pursuant to those directives, a study entitled "Report
to Congress on the Depreciation of Business-Use Passenger Cars"
was submitted to Congress in April.
In completion of this
mandate, I hereby submit the companion study "Report to Congress
on the Depreciation of Business-Use Light Trucks."
I am sending a similar letter to Representative
Bill Archer.
Sincerely,
i~ cJ.~~j.Kenneth W. Gideon
Assistant Secretary
(Tax Policy)
Enclosure
DEPARTMENT OF THE TREASURY
WASHINGTON
ASSISTANT SECRETARY
September 1991
The Honorable Lloyd Bentsen
Chairman
Committee on Finance
united states Senate
Washington, D.C. 20510
Dear Mr. Chairman:
section 7612(f) of Public Law 101-239, the Omnibus
Budget Reconciliation Act of 1989, directs the Secretary of the
Treasury or his delegate to conduct a study of the proper class
life for cars and light trucks and submit a report to the
Congress within one year of enactment. The Omnibus Budget
Reconciliation Act of 1990 extended the date for submission of
the report to April 15, 1991.
Pursuant to those directives, a study entitled "Report
to Congress on the Depreciation of Business-Use Passenger Cars"
was submitted to Congress in April.
In completion of this
mandate, I hereby submit the companion study "Report to Congress
on the Depreciation of Business-Use Light Trucks."
I am sending a similar letter to Senator Bob Packwood.
Sincerely,
~W.~~d~
Assistant Secretary
(Tax Policy)
Enclosure
Table of Contents
Chapter 1. Introduction and Principal Findings .......................... .............. ................ ........ 1
A. Mandate for This Study.............................. .................. ........................ ................. 1
B. Methodology and Classification Issues ................................................................. 1
C. Principal Findings and Recommendation ...... ........................ ...... .......................... 4
Chapter II. Industry Background ............ ...................... .............. ...... .......... ...................... 5
Chapter III. Data Collection and Estimation Methods .. .................................. ................. 9
A. Public meetings ..................................................................................................... 9
B. Description of the Data .......................................................................................... 9
C. Structuring the Data ...................................................... ............ ...... ....................... 11
D. EcJuivalent Economic Lives .............. .................. .... ........ .......... ...... ......... ... ........... 13
Chapter IV. Results of the Analysis .......................... ....................................................... 15
Chapter V. Conclusions and Recommendation ................................................................ 21
Appendix A. The Mandate for Depreciation Studies .. ...... .................................. ............. 23
Appendix B. Determination of Equivalent Economic Lives .. .... ................ ...................... 25
References ......................................................................................................................... 37
Ack:nowledgments ............................................................................................................. 37
Table of Figures
Figure 1.
Age-price proflle and straight-line depreciation schedule for trucks with a
GVWR of 6,000 pounds or less (Class 1) .................................................... 15
Figure 2.
Disposition probabilities (retirements and sales to households), by age of
truck, for trucks with a GVWR of 6,000 pounds or less (Class 1) .............. 16
Figure 3.
Fraction of initial investment in trucks that remains in business use, by
age of truck, for trucks with a GVWR of 6,000 pounds or less (Class 1) ... 17
Figure 4.
Unrecovered investment value as a fraction of the original investment, by
age of truck, based on economic depreciation and on straight-line depreciation, for trucks with a GVWR of 6,000 pounds or less (Class 1) .............. 18
Table of Tables
Table 1.
Investment in Business-Use Trucks By GVWR Class, 1989 ...................... 5
Table 2.
Distribution of Data Observations By Type of Finn and Analytical
Purpose ......................................................................................................... 10
Table 3.
Equivalent Economic Lives and Useful Lives for Trucks By GVWR
Class ............................................................................................................. 19
Chapter I. Introduction and Principal Findings
A. Mandate for This Study
This study of the depreciation of business-use light trucks has been prepared by the Office
of Tax Analysis (OTA) in response to a Congressional mandate in the Omnibus Budget ReconciliationAct of 1989 (p.L. 101-239). Section 7612(f) of the Act, which became effective December
19, 1989, directed Treasury to conduct a study on the proper class life for cars and light general
purpose trucks and to report its fmdings to the Congress within one year. The Omnibus Budget
Reconciliation Act of 1990 extended the due date for the report to April 15, 1991. A report on the
depreciation of business-use passenger cars was submitted to Congress in April 1991; this report
completes the task requested in P.L. 101-239.
OTA conducts studies of the depreciation of assets, including assets not expressly requested
for study by the Congress, as part of its general mandate under Section 168(i)(I)(B) of the Internal
Revenue Code, as modified by the Tax Reform Act of 1986. (See Exhibit 1 of Appendix A.) This
Code provision directed the Treasury to "monitor and analyze actual experience with respect to all
depreciable assets", and granted Treasury explicit authority to change the classification and class
lives of assets. The Technical and Miscellaneous Revenue Act of 1988 (TAMRA) repealed
Treasury's authority to alter asset classes or class lives, but the revised Section 168(i) continued
Treasury's responsibility to "monitor and analyze actual experience with respect to all depreciable
assets." (See Exhibit 2 of Appendix A.)
B. Methodology and Classification Issues
The General Explanation of the Tax Reform Act of 1986 indicates that the determination of
the class lives of depreciable assets should be based on their anticipated useful lives and the
anticipated decline in their value overtime, after adjustment for inflation. (See Exhibit 3 of Appendix
A.) Under current law, the useful life of an asset is taken to be its entire economic life span over
all (business) users combined, and not just the period it is retained by a single owner. The General
Explanation also indicates that, if the class life of an asset is derived from the decline with age of
its market value, such life (which, to avoid confusion, is hereafter referred to as its "equivalent
economic life ") should be set so that the present value of straight -line depreciation over the equivalent
economic life equals the present value of the pecline in value of the asset (both discounted at an
appropriate rate of interest).
-2-
In its study of the depreciation of business-use passenger cars, OTA accounted for not only
the decline in the vehicles' market values with age, but also for their conversion from business to
non-business use and the tax gains and losses that arise from their sale at different ages. This
treatment was necessary because of a particular characteristic of business-use passenger cars. Unlike
most other business equipment, passenger cars are typically sold before the end of their useful life
as vehicles. Moreover, unlike a number of other business assets for which an established resale
market exists, used passenger cars are nearly always acquired for household or other non-business
use.
Like passenger cars, business-use light trucks are also frequently sold before the end of their
useful life as vehicles. However, in contrast to passenger cars, business-use light trucks are often
sold to other businesses. This feature of the business-use light truck market required OTA to modify
the methodology used for passenger cars to account for business-use light trucks that are capitalized
and depreciated for tax purposes by more than one owner. Moreover, because the period of time
light trucks are held by business owners (either the initial owners or subsequent purchasers) can be
comparable to their total useful life, it was also necessary to take account of the retirement pattern
with age of light trucks, a factor which was not as imponant for passenger cars.
Revenue Procedure 87-56, which lists the depreciable asset classes and their corresponding
class lives, indicates that "light general purpose trucks" have an actual unloaded weight ofless than
13,000 pounds, and are to be distinguished from automobiles, buses, heavy general purpose trucks
(with an actual unloaded weight of 13,000 pounds or more), over-the-road tractor units, and trailers
and trailer-mounted containers. Under current law, light general purpose trucks are assigned to
Asset Class 00.241, and have a class life of four years, regardless of whether they are owned, leased,
or rented by their business users. Under section 168(e)(3)(B)(i) of the Internal Revenue Code,
however, light general purpose trucks are expressly assigned to the (modified) accelerated cost
recovery system's five-year propeny recovery class, regardless of their class life. Likewise, under
section 168(g)(3)(D), the alternative depreciation system recovery period for light trucks is five
years, independent of their current class life.
Trucks are not generally classified according to their unloaded weight for other legal purposes,
including aspects of tax law, motor vehicle safety standards, and fuel economy standards. Classification is commonly based on the vehicle's gross vehicle weight rating (G VWR) and other factors.
The GVWR is the value specified by the manufacturer as the vehicle's maximum design loaded
-3-
weight; a GVWR must be assigned to each domestically produced truck.! Two vehicles possessing
similar empty weights may have dramatically different GVWRs. This is because the GVWR
depends upon the vehicle's specific characteristics: suspension system, shock absorbers, axle
strength, transmission, tires, seating capacity, etc. These characteristics determine, in part, a truck's
intended use, and therefore can play an important role in establishing the truck's expected economic
life. Moreover, each vehicle's GVWR class is incorporated in the vehicle's identification number
(VIN), which is often included in the data used in this study; the unloaded vehicle weights are not
so readily available. For these reasons, trucks were classified in this study by their GVWR, rather
than by their unloaded weight.
More specifically, "light general purpose trucks are defmed in this report as those trucks
It
having a GVWR of less than 33,000 pounds. The trucks examined are classified into four weight
classes: trucks with a GVWR of 6,000 pounds or less (referred to in this report as Class 1 trucks);
trucks with a GVWR in the range of 6,001 to 10,000 pounds (Class 2); trucks having a GVWR in
the range of 10,001 to 19,500 pounds (Class 3); and trucks with a GVWR of more than 19,500
pounds but less than or equal to 33,000 pounds (Class 4).
An investigation was conducted into the relationship between unloaded truck weights and
loaded weight measures. Using the Census' 1987 Truck Inventory and Use Survey, it was found
that over 98 percent of business-use trucks with a reported empty weight ofless than 13,000 pounds
also reported an average loaded weight of 33,000 pounds or less. Thus, virtually all available
observations on "light general purpose trucks" as defmed by Asset Class 00.241 were included in
the analysis. Of those business-use trucks with a reported empty weight of 13,000 pounds or more,
55 percent reported an average loaded weight of more than 33,000 pounds, while 38 percent had
an average loaded weight of 19,500 to 33,000 pounds, and 7 percent had an average loaded weight
of under 19,500 pounds. Trucks with an empty weight of 13,000 pounds or more constituted about
7 percent of the total number of business-use trucks in Class 3 and about 33 percent of business-use
! In submitting information to the National Highway and Traffic Safety Administration (NHTSA),
manufacturers must use the following GVWR classes: Class A: 3,000 pounds or less; Classes B
through H: 3,001 to 10,000 pounds, at 1,000 pound increments; Class 3: 10,001 to 14,000 pounds;
Class 4: 14,001 to 16,000 pounds; Class 5: 16,001 to 19,500 pounds; Class 6: 19,501 to 26,000
pounds; Class 7: 26,001 to 33,000 pounds; Cldss 8: 33,001 pounds and over. The U.S. Bureau of
the Census, in its Truck Inventory and Use Survey, classifies trucks into either four or fourteen
weight categories for reporting purposes. These categories are groupings of the NHTSA classes,
although they refer to average loaded weights as reported by survey respondents rather than the
assigned GVWRs.
-4 -
trucks in Class 4. A significant probability thus exists that some "heavy general purpose trucks"
belonging to Asset Class 00.242 were also included in the data examined in this study, particularly
trucks with a GVWR above 19,500 pounds. 2
c.
Principal Findings and Recommendation
The principal finclings of this study are that trucks with a GVWR of 6,000 pounds or less
have an equivalent economic life of 4.1 years and a useful life of7.1 years. Trucks with a GVWR
of 6,001 to 10,000 pounds have an equivalent economic life of 4.4 years and a useful life of 10.9
years. Trucks with a GVWR of 10,001 to 19,500 pounds have an equivalent economic life of 4.8
years and a useful life of 16.5 years. Trucks with a GVWR of 19,501 to 33,000 pounds have an
equivalent economic life of 6.6 years and a useful life of 16.5 years. As stated above, these categories
cover virtually all trucks included in Asset Class 00.241. Based on the adjusted relative annual
investment in trucks in each weight class, an overall equivalent economic life for all trucks in Asset
Class 00.241 is estimated to be 4.6 years, with a useful life of 9.4 years. If Congress wishes to
retain the existing defInition of light general purpose trucks, it is recommended that the class life
for Asset Class 00.241 be changed from 4 years to 4.5 years.
Buses, heavy general purpose trucks with an unloaded weight of more than 13,000 pounds,
tractor units, trailers and trailer-mounted containers, (Le., vehicles defmed in Asset Classes 00.23,
00.242, 00.26, and 00.27) were not expressly examined in this study, and no inference can be made
of their equivalent economic lives from the fmdings of this report.
This fact was taken into account by adjusting the ¥1Vestment weights used to generate a single
overall economic equivalent life for "light general purpose trucks" in Asset Class 00.241. The
possible inclusion of heavy trucks belonging to Asset Class 00.242 in the analysis of Classes 3 and
4, however, was unavoidable.
2
Chapter ll. Industry Background
Trucks are imponant business assets. According to the Bureau of Economic Analysis (BEA),
in 1989 U.S. business spent $36.5 billion on the purchase of new trucks, trailers, and buses. While
BEA does not identify trucks separately from buses and trailers, OTA estimates that nearly 80
percent of the BEA total ($28.9 billion) was spent on trucks alone (including tractor-trailer
combinations). Slightly more than half (52.2 percent) of this latter figure was spent on trucks with
a gross vehicle weight of 10,000 pounds or less. Business new truck purchases accounted for nearly
one-half of total domestic new private truck sales, and about seven percent of total business
investment in new equipment. Table 1 shows 1989 investment in new business-use trucks by gross
vehicle weight class.
Table 1. Investment in Business-Use Trucks by GVWR Class, 1989
(Weight in Pounds, Units in Thousands, Dollars in Billions)
Percentage
Distribution
GVWR Class
6,000 or less
6,001-10,000
10,001-19,500
19,501-33,000
More than 33,000
Total
Number of
Vehicles
Acquisition
Cost
Number
Cost
693
436
51
123
130
10.3
4.8
0.7
4.5
8.6
48.3
30.4
3.6
8.6
9.1
35.6
16.6
2.4
15.6
29.9
1,434
28.9
100.0
100.0
Sources: OTA estimates based on data from Bureau of Economic Analysis, Motor Vehicle
Manufacturers Association, and U.S. Bureau of the Census.
As noted in Table 1, trucks with a GVWR of 10,000 pounds or less dominate the number of
business purchases of new trucks. Within this weight class are a wide variety of body styles that
are designed for carrying passengers, cargo, or both. Such vehicles include four-wheel drive utilities
(e.g., Ford Bronco, Chevrolet Blazer, etc.), vans. mini-vans, station wagons built on a truck chassis
(e.g., GMC Suburban, Jeep Wagoneer, etc.), compact and conventional pick-up trucks, and other
light-duty trUcks. Most of these truck types are used by both households and businesses.
Ac~ording
-6-
to the Census Bureau's 1987 Truck Inventory and Use Survey (1987 TIUS), in tenns of aggregate
mileage driven, utility vehicles, vans, and pick-up trucks as a group were used about one-third for
business purposes and about two-thirds for household purposes.
In OTA's study of the depreciation of business-use passenger cars, a significant difference
in economic lives was found among cars held in fleets of 10 or more and all other ("non-fleet")
business-use passenger cars. This difference was attributed primarily to differences in intensity of
use, since fleet cars appeared to be driven on average nearly twice as many miles per year as non-fleet
passenger cars.
1
While evidence from the 1987 TIUS suggests that business-use light trucks in
fleets are driven somewhat more intensively than non-fleet trucks, the difference does not appear
to be as significant as for passenger cars. 2 Thus, no distinction was made in this study between
fleet and non-fleet status.
Trucks are distinguished from automobiles in this study primarily on the basis of information
contained in vehicle identification numbers (VINs). In general, any vehicle identified in its YIN
as a truck (whether complete or incomplete) or a multipwpose vehicle is regarded as a "truck." This
defInition generally includes sport utility vehicles and mini-vans, which are considered by some to
be more similar in function to passenger automobiles than to trucks. These vehicles constitute about
10 percent of the business-use trucks in Classes 1 and 2, although their shares of current investment
may be higher. 3
Under safety standard regulations issued by the National Highway and Traffic Safety
Administration (NHTSA), "multipurpose passenger vehicles" are distinguished from "passenger
cars" by being constructed either on a truck chassis or with special features for occasional off-road
operation. "Trucks" are defmed as being designed for the transportation of property or special
purpose equipment (49 CFR, sec. 571.3). Most passenger vans and sport utility vehicles would be
considered as "passenger automobiles" under NHTSA's fuel economy standards regulations.
1 It was found that fleet vehicles (passenger cars held by owners of 10 or more cars) were driven
on average about 25,000 miles per year, while non-fleet vehicles were driven on average only 15,000
miles per year.
According to the 1987 TIUS, business-use trucks in Classes 1 and 2 held in fleets of 20 or more
were driven on average about 16,000 miles per year; those held by businesses owning less than 20
trucks were driven on average 13,000 miles per year.
2
3 Vans (excluding mini-vans and multi-stop or step vans) and pick-up trucks constitute roughly 80
percent of business-use trucks having a GVWR of lO,OOO pounds or less. Pickups, vans, mini-vans,
station wagons on a truck chassis, and sport utility vehicles constitute almost 97 percent of Class
1 business-use trucks. These data come from an analysis of the 1987 Census Truck Inventory and
Use Survey.
-7 -
However, those regulations cover most pick-up trucks as well. "Listed property" under section
280F and "passenger vehicles" subject to the luxury tax under section 4001 of the Internal Revenue
Code generally include trucks, vans, and utility vehicles, as long as they have a gross vehicle weight
of6,000poundsorlessandaremanufacturedprirnari1yforuseonpublicstreets,roads,andhighways.
Regulations proposed under section 4001 explicitly state that the tenn "truck or van" includes sport
utility vehicles and mini-vans. The section 4064 gas "guzzler tax" does not cover sport utility
vehicles and pick -up trucks, but does cover "passenger automobiles" as defmed under the NHTSA
fuel economy standards regulations.
Chapter ID. Data Collection and Estimation Methods
A. Public meetings
Public meetings were held at the Treasury Department in January and March of 1990 to
determine the scope of the passenger car and light truck study, discuss the study design and general
methodology, and describe the kind of data needed for the study. The fIrSt public meeting was
announced in the Federal Register on December 21, 1989, and invitations were extended to each
of the major trade associations representing different sectors of the business-use car and light truck
industry. Invitations were also sent to executives of the largest leasing and rental fmns in the United
States.
At these meetings, it was determined that the scope of the study should include all automobiles
and light- and medium-duty trucks designed for use over-the-road and used in a trade or business.
This coverage was generally understood by Treasury and industry participants to include both fleet
and non-fleet vehicles, and vehicles that are either leased or owned by their users. Although no
attempt was made to formally defIne "light trucks", data collection for trucks was limited to all
those with a GVWR of 33,000 pounds or less.
Unlike many of the previous depreciation studies conducted by OTA, no survey of the industry
was conducted or proposed. Instead, data were solicited directly from a limited number of owners
of business-use vehicles based on vehicle specifications that were proposed and developed at the
public meetings. This procedure was adopted because of the relatively short time frame granted
by the Congress for completion of this study, and because of the availability of machine-readable
data from several of the fIrms that agreed to participate in the study.
B. Description of the Data
Finns participating in the study were asked to provide OT A with detailed data on certain
characteristics of cars and light general purpose trucks either disposed of during the last few years
or remaining in their inventory at the time the data were provided. Each observation in each data
set was to include, at a minimum, the vehicle's Vehicle Identffication Number (VIN), original
acquisition cost, the month and year of acquisition, and, in the case of dispositions, the proceeds
(net of refurbishing costs), and the month and year of disposition. Some data sets also included the
type of disposition and the mileage of the vehicles at disposition. All of the data were received by
OTA from May through August of 1990.
- 10 -
Table 2. Distribution of Data Observations
By Type of Firm and Analytical Purpose
Analytical Purpose
Estimation of
Age.Price Profile
Estimation of
Sales Distribution
Leasing Finns
97.2%
97.3%
Private Fleets
2.7%
2.7%
Non-Fleet Trucks
0.1%
0.0%
Total Observations
33,470
189,283
Type of Firm
Data for light general purpose trucks were received from five leasing fInns and four truck
fleet owners. I A data set covering a small number of independent owner-operators was also made
available to OTA. In addition, a few observations were also obtained from an analysis of a small
sample of IRS returns covering non-fleet truck dispositions. Truck data from three of the leasing
finns, from two of the private fleets, and from the non-fleet sources were used. 2 In total, there were
about 112,000 total usable observations. Table 2 shows the distribution of observations by type of
fInn and analytical purpose. It is apparent that data from the leasing companies dominate the usable
data, and thus significantly influence the results presented. Nevertheless, the available data do not
I Except for three of the leasing finns and one fleet owner who provided data directly to OT A, the
data were fIrst collected from the participating firms and examined by Price Waterhouse, which in
turn provided the data, together with a paper summarizing the results of~~eir preliminary analysis,
to OTA. This mechanism was chosen by the industry in order to maintain the confIdentiality of
several of the companies participating in the study, which were not revealed to OTA.
Data provided by one of the leasing fIrms and ont of the private fleet finns were not analyzed
because the data were incomplete. However, due to the large sample of complete data, these fIrms
were not asked to resubmit their information.
2
- 11 -
provide any strong evidence in favor of the view that leasing finn data differ in a systematic manner
from the data obtained from non-leasing finns. Table 2 also shows that estimates based on data
from non -leasing fInns would reflect almost exclusive}y the prices and retirements from truck fleets. 3
c.
Structuring the Data
Although the depreciation of trucks may vary by vehicle type and whether the vehicle is
designed for passengers or cargo, preliminary analysis of the data suggested that aggregation of the
data into four GVWR classes would make the analysis more manageable, and yet capture the more
significant differences in intensity of usage. Trucks were classmed to the following categories:
Class 1 - trucks having a GVWR less than or equal to 6,000 pounds; Class 2 - trucks with a GVWR
of more than 6,000 but less than or equal to 10,000 pounds; Class 3 - trucks with a GVWR of more
than 10,000 pounds but less than or equal to 19,500 pounds; and Class 4 - trucks with a GVWR of
more than 19,500 pounds but less than 33,000 pounds.
Equivalent economic lives, taking into account truck prices, retirements, and sales by age,
were derived (as described below and in Appendix B) for trucks in each weight class. A light truck
retirement probability distribution was obtained from a previous study of vehicle scrappage rates
observed over the period 1978 to 1988. 4 These rates were available through age 25. At that age,
about 22 percent of trucks were still registered. For the purpose of this study, all of those remaining
trucks were assumed to be retired in year 26. This truncation of the retirement curve does not affect
the fmal estimate of equivalent life, because of the additional assumption that the value of those
remaining trucks reaches zero at 26 years of age. The retirement curve used indicates a median
retirement age of 16.0 years and a mean age at retirement of 16.5 years. s
According to the 1987 nus, less than three percent of trucks in business use with a GVWR of
33,000 pounds or less are operated in fleets of more than 100 trucks. About 10 percent are operated
in fleets of more than 20 trucks, while one-half of business-use trucks are operated in small fleets
containing between 2 and 19 trucks. About 39 percent belong to flnns operating only a single truck.
Fleets of ten or more trucks, however, account for about 50 percent of new investment in business-use
light trucks.
3
Scrappage rates by age were produced by Shaw-Pin Miaou, "Study of Vehicle Scrappage Rates,"
Oak Ridge National Laboratory, Oak Ridge, TN,;August 1990. These rates were reported in Stacy
C. Davis and Patricia S. Hu, Transportation Energy Data Book: Edition 11, Oak Ridge National
Laboratory, Oak Ridge TN, January 1991.
4
estimate of mean age at retirement is affected by the assumption that all trucks are retired at
age 26. The median retirement age, however, is independent of that assumption.
5 The
- 12 -
Observations from all data sources were pooled in order to estimate the age-price curve and
age-sales probability curve for each weight category. Data for these curves were generally available
to about age ten for each GVWR class. Only observations representing bona fide anns-length sales
were used to produce estimates of the age-price curves. Sales to lessees or trade-in prices were
disregarded. The price curves were obtained by first adjusting observed prices for the effects of
inflation; the overall consumer price index for urban workers was used in this regard. Sales prices
were then expressed as ratios of the original acquisition costs, and these nonnalized prices were
averaged at each age to obtain a curve showing the mean relative price as a function of age. These
mean prices were extrapolated in a linear fashion for ages where price observations were insufficient,
reaching zero (by assumption) at age 26. 6 The arbitrary nature of this extrapolation is not important,
however, due to the discounting and the small value changes involved at ages above ten years.
7
All sales data were used in estimating the probability of truck sales at each age. This curve
was obtained by dividing the number of sales at each age by the number of assets in the sample
examined that had remained in business use to at least that age. The probability of truck sales was
set equal to zero for the years where fewer than five observations were available. No further
smoothing of either the price curve or sales distribution curve was employed.
All sales of trucks in Classes 3 and 4 were assumed to be to other businesses. For trucks in
Class 2, 75 percent of sales were assumed to be to other businesses, while 25 percent of sales were
assumed to be to households. For trucks in Class 1, 50 percent of sales were assumed to be to other
businesses and 50 percent to households. These repurchase percentages were assumed to be
independent of the age of the truck. 8
For each truck class at each age, the observed mean price was adopted as long as long as at least
five observations were available at that age. This criterion generally could not be met for ages
beyond ten or eleven years. Normally, the standard deviations of the mean price estimates were
well under one percent, although higher values were often experienced at age one and at ages above
eight years.
6
Assuming that prices trail off to a five percent minimum salvage value, instead of a zero value,
increases the estimated equivalent economic life for all light trucks by less than one-tenth of a year.
7
8 Analysis indicated that the estimates of equivalent economic lives are only mildly sensitive to
these assumptions. For example, raising the percentage of sales assumed to be made to other
businesses from 50 percent to 75 percent for Class 1 trucks, or from 75 percent to 100 percent for
Class 2 trucks, increases the estimated equivalent economic lives for these trucks by about one-tenth
of a year. Assuming that all truck sales in these two classes are to households decreases the estimated
equivalent economic life for Class 1 by one-tenth pf a year but leaves the equivalent economic life
for Class 2 trucks unchanged. However, assuming that no Class 1 trucks are sold to households
increases the estimated equivalent economic life by four-tenths of a year (to 4.5 years) for Class 1
trucks.
- 13 -
A single weighted average equivalent economic life for all light general purpose trucks was
obtained by weighting the observed characteristics (price-age and sales-age distributions and the
probability of business-to-business sales) for each weight class with the observed share of 1989
investment in new general purpose light trucks for the class. The observed investment shares were
adjusted to reflect the fact that some trucks in classes 3 and 4 were possibly heavy general purpose
trucks with empty weights in excess of 13,000 pounds. The weighted-average characteristics were
then used to obtain an overall equivalent economic life for trucks in Asset Class 00.241.9
D. Equivalent Economic Lives
As suggested in the General Explanation of the Tax Reform Act of 1986, the class life of an
asset is to be determined from the decline in its value with age. This life (which for clarity has been
referred to as the asset's equivalent economic life) can be either longer or shorter than its useful
life (Le., the period over which the asset provides service to business users).
For each weight category, an equivalent economic life was derived by equating the present
value of the average loss in economic value over time for those trucks that remain in business use
with the present value of tax deductions for those trucks in business use. The loss in economic
value includes both the decline in the value of assets which remain in business use and the economic
losses that are incurred upon the retirement of trucks from business use. The relevant tax deductions
taken into account include both the depreciation allowances available to taxpayers, as determined
by applying a straight-line schedule over the equivalent economic life, and the recognized losses
resulting from sales of trucks in business use and from retirements of trucks from business use.
Gains on sales and retirements are treated as negative 10sses.1O Both change-in-value curves are
discounted at a four percent annual discount rate. 11
These average characteristics are shown in Appendix B, where they are used to illustrate the
methods employed to compute equivalent economic lives.
9
10 In
the analysis, salvage values available upon the retirement of trucks are assumed to be zero.
This assumption is immaterial. Salvage value affects the recovery of capital equally under economic
depreciat!0n acco~ting and under.t~ accounting. It therefore has no direct impact on the value
of the esumated eqUIvalent economIC life. Salvage can have an indirect impact through an influence
~
on used asset prices, however.
11 The estimated equivalent e.conomic ~ives are only mildly dependent upon the actual discount rate
chosen.. F<?r example, halvmg the discount rate to two percent raises the estimated equivalent
econOmIC life for all trucks by less than one-tenth of a year. Doubling the rate to eight percent
lowers the estimated equivalent economic life by two-tenths of a year.
- 14 -
The straight-line tax depreciation allowances are calculated over a recovery period equal to
the equivalent economic life, starting with the year of acquisition, with the same recovery period
for both new and used trucks. However, both straight-line and economic depreciation are considered
only up to the truck's date of sale or retirement. See Appendix B for a more detailed description
of the analysis.
Chapter IV. Results of the Analysis
This chapter presents the results of applying the methods described in Chapter ill to obtain
equivalent economic lives for trucks in each of the four weight categories and the economic life for
all trucks in Asset Class 00.241. In addition, the estimated average useful life of trucks in each
weight category and the method of depreciation used for fmancial accounting purposes by the
participating fmns are noted.
120%
r---------------------------,
100%
C
u
E
'iii
!:
C
80%
" ;j
.5til)
·c
60%
C
u
40%
0
....
0
~
u
Q.,
20%
o
2
4
6
10
12
14
16
18
20
22
24
26
Age in Years
~
Value of Truck
-.- Straight-Line Depreciation Schedule
Figure 1. Age-price profile and straight-line depreciation schedule
for trucks with a GVWR of 6,000 pounds or less (Class 1).
Figure 1 illustrates the relationship between the observed age-price profile and the adjusted
basis obtained from the use of a straight-line depreciation schedule with a recovery period of 4.1
years (the estimated equivalent economic life) for trucks with a GVWR of 6,000 pounds or less.
The age-price profile drops rapidly over the fIrst year of service, and then at successively slower
rates over ages two through eight. A small increase in the average puce occurs between ages eight
- 16 -
and ten, but the absolute amount of economic depreciation is constant thereafter by assumption. l
The straight-line depreciation schedule underlying the tax basis curve in Figure 1 allows for a
half-year allowance in the fIrst taxable year, and reaches zero during the fifth taxable year.
2~ r---------------------------------------------------~
'"rJ
IS~
~
2
~
co
c
"2
";
eu
1~
0:::
'0
cu
~
~
5~
o
2
4
6
10
12
14
16
18
20
22
24
26
Age in Years
•
Retirements
m Sales to Households
Figure 2. Disposition probabilities (retirements and sales to households), by age of truck, for trucks with a GVWR of 6,000 pounds or
less (Class 1).
The depreciation of trucks remaining in business use does not reflect the total source of
economic loss; losses incurred upon retirement of trucks in business use must also be considered
in determining the equivalent economic life. Also, since sales of trucks also trigger the recognition
of tax losses or gains, these must also be taken into account. 2
Price observations were either few or nonexistent for ages above ten years for trucks in this weight
class.
2 Because the adjusted economic basis equals the market value when economic depreciation is used,
under this method of accounting no gains or losses are realized when trucks are sold.
1
- 17 -
12~
r--------------------------------------------------,
I~
C
Q)
E
80%
'">
Q)
..s
-;
.5
·cco
60%
0
.....0
c
Q)
~
40%
Q)
Q.,
20%
o
2
4
6
10
12
14
16
18
20
22
24
26
Age in Years
Figure 3. Fraction of initial investment in trucks that remains in
business use, by age of truck, for trucks with a G VWR of 6,000 pounds
or less (Class 1).
The estimated disposition frequencies (the fraction of remaining business-use Class 1 trucks
at each age that are either retired or sold to households) are shown in Figure 2.3 As described in
Chapter 3, no sales are assumed to occur after age 10 (the oldest age at which the number of
observations was five or more), and all trucks remciining in business use at age 25 were assumed
for convenience to be retired at age 26. The resulting fraction of trucks with a GVWR of 6,000
pounds or less remaining in business use at each age are shown in Figure 3.
As is discussed more fully in Appendix B, investment may be recovered in several ways in
addition to depreciation allowances. These include losses upon retirement of business-use trucks,
gain or loss realized when trucks are sold, salvage value received upon the retirement of trucks,
and payments received from the sale of trucks to households. Figure 4 shows the unrecovered
3 Since
one-half of business sales of Class 1 trucks are assumed to be to households, the values in
Figure 2 for sales to households merely need to be doubled in order to obtain the probability of total
truck sales at each age.
- 18 -
12~r-----------------------------------------------------------~
1001-
C
iii
§
'"
iii
801';
>
C
-;
.5
00
601';
'C
0
.....
0
C
iii
4O'k
~
Q':!
2~
o
2
3
4
567
9
10
II
12
13
Age in Years
___ Economic Depreciation
~
Straight-Line Depreciation
Figure 4. Unrecovered investment value as a fraction of the original
investment, by age of truck, based on economic depreciation and on
straight-line depreciation, for trucks with a GVWR of 6,000 pounds
or less (Class 1).
investment, measured as a fraction of the original investment in new trucks, by age of truck, based
on the use of economic depreciation and straight-line depreciation (and the recognition of losses
and gains) for trucks in this weight category. The two curves coincide at zero at age 26, when the
last trucks are assumed to be retired. The equivalent economic life is detennined by equating the
present values (discounted at a 4 percent rate) of the annual increase in recovered investment under
the two methods shown in Figure 4.
Table 3 lists the estimated equivalent economic lives by weight class, as well as the overall
equivalent economic life for trucks in Asset Class 00.241. These results show a positive relationship
between the estimated equivalent economic lives and gross vehicle weight; the equivalent economic
lives range from 4.1 years for Class 1 trucks to 6.6 years for Class 4 trucks. This is partly due to
differences in price profiles and sales distributions and partly due to the fact that lighter trucks are
- 19 -
Table 3. Equivalent Economic Lives and Useful Lives
For Trucks By GVWR Class
(Weight in Pounds, Lives in Years)
Economic
Equivalent
Life
Average
Useful
Life
6,000 or less
6,001-10,000
10,001-19,500
19,501-33,000
4.1
4.4
4.8
6.6
7.1
10.9
16.5
16.5
Asset Class 00.241
4.6
9.4
GVWRClass
also sold to households. It may also reflect the fact that observations used for analyzing Classes 3
and 4 may include some heavy general purpose trucks. 4 An overall equivalent economic life for
trucks in Asset Class 00.241 was estimated to be 4.6 years.
In addition to the equivalent economic lives, Congress has expressed an interest in the useful
lives of the assets studied. If the useful life is taken to be the period the trucks are used for business
purposes (regardless of the number of owners), the answer obtained is somewhat dependent upon
the assumed fraction of trucks sold that are purchased by households. It also is somewhat sensitive
to the assumption that all trucks remaining in use at age 25 are retired during the following year.
Based on the values of the repurchase percentages assumed for each weight class, useful lives for
trucks in each weight class, as well as an overall weighted average useful life for trucks in Asset
Class 00.241, may be obtained. These useful lives are noted in Table 3.5 Since no sales for personal
use are presumed to occur for trucks with a GVWR greater than 10,000 pounds, the useful life
equals the mean retirement age for trucks in Classes 3 and 4.
In addition to the categories shown in Table 3, an equivalent economic life was computed separately
for multipurpose vehicles with a GVWR of less than 6,000 pounds. These vehicles are comprised
mainly of sport utility vehicles and mini-vans; they constitute about 51 percent of the sample of
Class 1 trucks. Their equivalent economic life was estimated to be 4.1 years, indicating little
difference between multipurpose vehicles and light pickups and vans.
4
sThe useful life for Class 1 multipurpose vehicles was estimated to be 6.3 years.
- 20-
Congress was also interested in the method used to depreciate the assets for f'mancial
accounting purposes. All of the companies which reponed their methods of accounting for trucks
used the straight-line method of depreciation. The recovery periods ranged from 3 to 8 years, with
an investment-weighted average recovery period of 4.4 years.
Chapter V. Conclusions and Recommendation
The principal fmdings of this study are that trucks with a GVWR of 6,000 pounds or less
have an equivalent economic life of 4.1 years, while trucks with a GVWR of between 6,000 and
10,000 pounds have an equivalent economic life of 4.4 years. Trucks with a GVWR between 10,000
and 19,500 pounds have an equivalent economic life of 4.8 years, and those with a GVWR of
between 19,500 and 33,000 pounds have an equivalent economic life of6.6 years. These categories
cover virtually all vehicles included in Asset Class 00.241 (trucks having an unloaded weight of
less than 13,000 pounds). The values for truck classes 3 and 4 may also reflect the influence of
some heavy general purpose trucks with an unloaded weight of 13,000 pounds or more, which are
currently classified to Asset Class 00.242. The useful lives of the trucks ranged from 7.1 years (for
Class 1 trucks) to 16.5 years (for Class 3 and Class 4 trucks). The overall useful life for light general
purpose trucks is 9.4 years.
When the estimated equivalent economic lives for each weight class are combined by
weighting the results for each class by the adjusted share of business investment in new trucks in
that class, a single overall equivalent economic life of 4.6 years is obtained. Treasury thus recommends that, if the current definition of light general purpose trucks is retained, the class life for
Asset Class 00.241 be changed from 4 years to 4.5 years. Tractor units, trailers, trailer-mounted
containers, tractor-trailer combinations, and heavy general purpose trucks with an unloaded weight
of more than 13,000 pounds (i.e., trucks in Asset Classes 00.242, 00.26, and 00.27) were not
expressly examined in this study, and no recommendation is thus made in this report regarding the
appropriate class life for such trucks.
Under current law, this recommendation, if adopted, would have no effect on the depreciation
deductions claimed by taxpayers for light general purpose trucks. Section 168(e)(3)(B)(i) assigns
automobiles and light general purpose trucks to the five-year property recovery class, regardless of
their class lives. If this provision were repealed, light trucks would be assigned to the MACRS
three-year property recovery class if the recommended change in the class life were not enacted,
and to the MACRS five-year property recovery class if the recommendation were enacted.}
Likewise, under Section 168(g)(3)(D), the alternative depreciation system recovery period for
automobiles and light general purpose trucks is currently five years, regardless of their class lives.
}The three-year property recovery class generally includes property with a class life of four years
or less. The five-year property recovery class includes property with a class life of greater than
four years but less than ten years.
-21-
- 22-
If this provision were repealed, taxpayers using the alternative depreciation system could depreciate
their light trucks over four years (based on the current law class life) or over 4.5 years (based on
the recommended class life).
Appendix A. The Mandate for Depreciation Studies
Exhibit 1.
Section 168(i)(1)(B) of the Internal Revenue Code as Revised by the Tax Reform Act of 1986
(i) Definitions and Special Rules.
For purposes of this section-(1) Class Life.
(B) Secretarial authority.
The Secretary, through an office established in the
Treasury-(i)
shall monitor and analyze actual experience with respect to all depreciable
assets, and
(ii)
except in the case of residential rental property or nonresidential real
property-(I)
(IT)
(m)
may prescribe a new class life for any property,
in the case of assigned property, may modify any assigned item, or
may prescribe a class life for any property which does not have a class
life within the meaning of subparagraph (A).
Any class life or assigned item prescribed or modified under the preceding sentence shall
reasonably reflect the anticipated llsefullife, and the anticipated decline in value over time,
of the property to the industry or other group.
Exhibit 2.
Section 168(i)(1) of the Internal Revenue Code as Revised by the Technical and Miscellaneous
Revenue Act of 1988 and the Revenue Reconciliation Act of 1990.
Definitions and Special Rules.
For purposes of this section-(1) Class Life. Except as provided in this section, the term "class life" means the class
life (if any) which would be applicable with respect to any property as of January
1, 1986, under subsection (m) of section 167 (determined without regard to paragraph (4) and as if the taxpayer had made an election under such subsection). The
Secretary, through an office established in the Treasury, shall monitor and analyze
actual experience with respect to all depreciable assets. The reference in this
paragraph to subsection (m) of section 167 shall be treated as a reference to such
subsection as in effect on the day before the date of the enactment of the Revenue
Reconciliation Act of 1990 [11/5/90].
- 24-
Exhibit 3.
Provisions for Changes in Classification from the General Explanation of the Tax Reform
Act of 1986 (pp. 103.104)
The Secretary, through an office established in the Treasury Department is authorized to
monitor and analyze actual experience with all tangible depreciable assets, to prescribe a new class
life for any property or class of property (other than real property) when appropriate, and to prescribe
a class life for any property that does not have a class life. If the Secretary prescribes a new class
life for property, such life will be used in determining the classification of property. The prescription
of a new class life for property will not change the ACRS class structure, but will affect the ACRS
class in which the property falls. Any classification or reclassification would be prospective.
Any class life prescribed under the Secretary's authority must reflect the anticipated useful
life, and the anticipated decline in value over time, of an asset to the industry or other group. Useful
life means the economic life span of property over all users combined and not, as under prior law,
the typical period over which a taxpayer holds the property. Evidence indicative of the useful life
of property, which the Secretary is expected to take into account in prescribing a class life, includes
the depreciation practices followed by taxpayers for book purposes with respect to the property,
and useful lives experienced by taxpayers, according to their reports. It further includes independent
evidence of minimal useful life -- the tenns for which new property is leased, used under a service
contract, or fmanced -- and independent evidence of the decline in value of an asset over time, such
as is afforded by resale price data. If resale price data is used to prescribe class lives, such resale
price data should be adjusted downward to remove the effects of historical inflation. This adjustment
provides a larger measure of depreciation than in the absence of such an adjustment. Class lives
using this data would be determined such that the present value of straight-line depreciation
deductions over the class life, discounted at an appropriate real rate of interest, is equal to the present
value of what the estimated decline in value of the asset would be in the absence of inflation.
Initial studies are expected to concentrate on property that now has no ADR midpoint.
Additionally, clothing held for rental and scientific instruments (especially those used in connection
with a computer) should be studied to determine whether a change in class life is appropriate.
Certain other assets specifically assigned a recovery period (including horses in the three-year
class, qualified technological equipment, computer-based central office switching equipment,
research and experimentation property, certain renewable energy and biomass properties, semiconductor manufacturing equipment, railroad track, single-purpose agricultural or horticultural
structures, telephone distribution plant and comparable equipment, municipal waste-water treatment
plants, and municipal sewers) may not be assigned a longer class life by the Treasury Department
if placed in service before January 1, 1992. Additionally, automobiles and light trucks may not be
reclassified by the Treasury Department during this five-year period. Such property placed in
service after December 31, 1991, and before July 1, 1992, may be prescribed a different class life
if the Secretary has notified the Committee on Ways and Means of the House of Representatives
and the Committee on Finance of the Senate of the proposed change at least 6 months before the
date on which such change is to take effect.
Appendix B. Determination of Equivalent Economic Lives
This appendix describes the calculations used in this study to estimate an equivalent economic
life for light general purpose trucks. As an aid to the reader, the set of data used to detennine the
overall equivalent economic life for light trucks has been presented here in order to illustrate the
more fonnal algebra. Results of the calculations using these data are reported in the tables at the
end of this appendix.
The computations described assume the availability of certain data. These data include the
expected relative prices for trucks remaining in business use by age (the age-price profile), the
expected salvage values of retired trucks by age, the probability of retirement of business-use trucks
by age (the retirement distribution), the probability of business-use truck sales by age (the gross
sales distribution), and the probability that business-use trucks sold will be purchased for business
purposes (the repurchase percentage). In this study, the age-price profile and the gross sales distribution are obtained from data provided by the participating fmns. The retirement probability is
taken from Davis andHu (1991), while a zero salvage value and fIxed repurchase percentage (which
vary by weight class) are assumed. In keeping with the dictates of the General Explanation of the
Tax Reform Act of 1986, the observed truck prices are adjusted for general inflation prior to their
incorporation into the analysis.
The analysis of the depreciation of passenger cars focused on the relative number and relative
value of business-use passenger cars as continuous functions of a single variable -- the age of the
cars. Because used trucks as well as new trucks are acquired by businesses, in this study a second
variable -- the age of the truck at acquisition -- is needed. For convenience, a discrete rather than
continuous time framework is used. Thus, the analysis in this study utilizes matrices which specify,
among other things, the number of trucks remaining in business use, business-use truck retirements,
and business-use truck sales for trucks of a given age that were acquired at the same or an earlier
age.
OT A has interpreted the General Explanation as defIning the equivalent economic life as that
life which, when used as the recovery period for depreciation purposes (in association with the
straight-line depreciation method, a half-year depreciation timing convention, and other applicable
tax rules), equates the present value of the tax deductions associated with the business use of a group
of assets with the present value of the loss in the group's economic value while in business use.
This defInition takes as given the current law trtiatment of asset retirements and sales; in particular,
it relies on the principle that tangible asset sales and retirements are recognized as taxable events,
- 26-
and that any gains or losses associated with these taxable events enter together with depreciation
allowances into the taxable income of the asset owner.1 It also relies on the principle that a truck
sold from one business to another does not carry over its adjusted tax basis. Instead, the new owner
adopts his or her own cost as the new depreciable basis of the truck; the depreciation schedule for
the used truck is the same as that for new trucks. Thus, a truck that is sold once or twice during its
lifetime will have a different pattern of tax deductions associated with it than would an identical
truck that has been held entirely by a single owner.
Constructing the Data Matrices
The number of trucks in business use at the beginning of an accounting period is designated
as N (t, v), where t refers to the actual physical age of the trucks in the account, and v refers to the
age at which the trucks were most recently acquired.2 Thus, N(O,O) refers to an initial investment
in new trucks at the beginning of some given time period. N(l,O) refers to those trucks purchased
as new assets in the prior period that were neither retired from use nor sold before the end of that
period. N (l, 1) refers to one-period old trucks that were sold at the end of the initial period and
purchased by another business.
Using this notation, the business-use history of the initial truck investment, N(O, 0), can be
represented by the following matrix:
N(t, v)
I
N(O,O)
o
N(l,O)
N(l,l)
N(2,0)
N(2,1)
N(2,2)
N(m,O)
N(m,1)
N(m,2)
°
=
This assumes that taxpayers account separately for each truck, rather than use general asset
accounts.
2Trucks are assumed to be placed in service in the middle of the taxable year. Accounting periods
for the analysis, therefore, run from the middle of eafh taxable year to the middle of ~e following
taxable year. Economic deprecia~io?, sales, and retirements are assumed to occ1:ll' unifonnly over
each accounting year. Tax deprecIatIOn allowances were are assumed to occur uniformly over each
taxable year.
- 27 -
The passage of time implies a movement from one row to the next in N (t, v). Movement
down a particular column traces the number of trucks held in established depreciation accounts.
The transfer of a truck from one owner to another means a shift of a truck to the diagonal element
lying in a column to the right. For example, the sale of a truck from cell N (1,0) implies that N (2,0)
will be at least one less than N(I,O) and that N(2,2) will be increased by one. In this matrix, m
designates the maximum age that a business-use truck may reach. Consequently, the order of the
matrix is (m
+ 1 x m + 1). The last row (and column) of this matrix will be comprised of all zeros.
Given the diagonal elements of N (t, v), the probabilities of truck retirements and sales will
determine the values taken by the lower left-hand off-diagonal elements. 3 Let R(t, v) and Set, v)
designate the number of trucks expected to be retired and sold, respectively, during the t'th period
and which were most recently acquired at age v. Then,
N(t, v) =N(t -1, v)-R(t, v)-S(t, v),
t > v.
The incidence of truck retirements and sales are assumed to be a function solely of their age.
Let r(t) be the probability that a truck of age t - I will be retired before reaching age t. Then,
R(t, v)
=ret) xN(t -1, v),
t>v
=0,
t:::;; v.
Similarly, let s (t) represent the probability that an asset of age t - I which is not retired before
age t will be sold during the following period. Then,
S(t,v)=s(t)x[I-r(t)] xN(t-I,v),
=0,
t>v
t:::;; v.
It follows that
N(t, v)
3 The
=[I-s(t)] x [1-r(t)] xN(t -1, v),
t > v.
matrix elements above the diagonal are zero by defInition.
- 28 -
The diagonal elements, N(t,t), are detennined by the probabilities associated with the purchase of used trucks by business. The analysis assumes that (i) used trucks purchased for business
purposes are bought only from other businesses, and (li) the probability of a business-to-business
sale is dependent only upon the age of the truck. 4 Let the fraction of trucks sold that are purchased
for business use be represented by bet). Then,
N(t, t) = bet) x Set),
where Set) is the total number of sales of trucks of age t (i.e., the sum over v of Set, v) for v < t).
Thus, given the initial number of new trucks, N(O, 0), and the distributions, ret), set), and bet), the
complete N(t, v), R(t, v), and Set, v) matrices can be computed.
The number of trucks remaining in business use at each age, N(t), may be obtained by calculating the row sums of N(t, v), i.e., by taking the sum over v of N(t, v). Similarly, the number
of business truck retirements by age, R (t), and of gross business truck sales by age, S (t), are obtained
from the row sums of R(t, v) and Set, v), respectively. Used truck purchases by age, U(t), are zero
for t
=0 and equal to the diagonal elements, N (t, t), for t > 0, while net truck sales to households,
H(t), are equal to the difference between Set) and U(t). The fIrst column of N(t, v) represents the
number of remaining trucks that were purchased as new trucks, while the number of trucks remaining
at each age that were purchased used, W (t), can be obtained by subtracting N (t, 0) from N (t).
The data used here to construct N (t , v), R (t , v), and S (t, v) are displayed in columns (2) through
(4) of Table A-I. The percentages shown are ret), set), and [1- bet)] x set), respectively. The
maximum age is assumed to be 26, so that r(26) equals 100 percent. Table A-2 shows a number
of the results referred to in the previous paragraph. All numbers have been rounded to the nearest
integer for easier reading.
Calculation of Economic Loss
The calculation of the loss in economic value requires knowledge of the number of remaining
trucks at each age, N (t), and the number of retirements at each age, R (t). Since no gains or losses
are incurred on a truck sale when economic depreciation is used, sales are important in calculating
the economic loss only insofar as they determine the number of used trucks of the given vintage
that remain in business use. The calculation of economic loss also requires knowledge of the
expected price of remaining business assets,P(t), and of the salvage value, Vet), that can be expected
4
A constant repurchase percentage is actually used in the analysis for this report.
- 29-
to be received from a truck retirement. The hypothetical end-of-year values used in the numerical
example for these variables are shown in columns (5) and (6) of Table A-I. These prices have been
nonnalized so that the price of a new truck is unity.
The total loss in economic value is the sum of the loss in value that occurs while a truck is
employed in a trade or business (economic depreciation) and the loss in value occurring when trucks
are retired from business use. Economic depreciation, EDP(t), is a straightforward function of the
average number of trucks that are in business use during the prior period, times the depreciation
for a representative truck:
EDP(t)
=[N(t -1~ +NCt)] [pet _ 1) - P(t»)' t =1. .. m
=0,
t =0.
Economic loss on retirement, ELR (t), is the product of the number of truck retirements during
each period and the difference between the average expected price of trucks remaining in use and
the average expected truck salvage value at that time:
ELR(t)
=R(t) x [Pa(t) - Va(t)] ,
t
=1. ..m
=0,
t = 0,
where,
P ()=P(t)+P(t-l)
.J t
2
and
V(
a t)
=V(t)+V(t-1)
2
.
Total loss in economic value, ELV(t), is simply EDP(t) + ELR(t). Its present value, PVELV,
can be calculated directly as
m
PVELV
= L ~(t)ELV(t),
1=0
- 30-
where ~(t) is the relevant discount factor. 5 Note that the loss in economic value attime zero, ELV (0),
is equal to zero and that the loss in value occurring at the beginning of period one, ELV(l), is
discounted by a single period discount factor.
Values of economic depreciation, losses upon retirement, and total losses in value for the data
set are shown in columns (2) through (4) of Table A-3. PVELV is shown at the bottom of colurrm
(4) in the row labeled "PV. ,,6 The final colurrm of that table displays the remaining economic value
at each age, REV(t). This value declines to $148, rather than zero, and represents the revenues
obtained through sales to non-business entities. 7 Since there are 594 such sales, these sales have
an average price equal to about 25 percent of the initial investment value. The average age of trucks
sold at the time of such sales is 5.3 years.
Calculation of Tax Deductions and the Equivalent Economic Life
With the present value of the loss in economic value calculated, the equivalent economic life
can be computed through an iterative procedure. In this procedure, a trial value is chosen, and the
total tax deductions associated with the use of that life for depreciation purposes are calculated.
The present value of those tax deductions is computed and compared to the present value of the
loss in economic value that was previously calculated. The initial trial value is then adjusted, based
on the algebraic sign of the difference in the two present values. The iteration ends when the absolute
value of this difference fails to exceed some small preset tolerance value.
The first step in deriving the tax deductions associated with any given trial equivalent economic life is the calculation of the tax depreciation schedule, A(t). In this regard, a half-year
convention is employed; thus, the initial taxable year's deduction per dollar of investment, A (0), is
5A
four percent annual discount rate was employed in the example. The resulting discounting
function, ~(t), is shown in the last column of Table A-I.
6The present values shown in Tables A-3 and A-4 are expressed on a per asset basis; that is, they
have been divided by the initial investment value, N (0,0).
If positive salvage values were assumed in the analysis, this would be another source of capital
cost recovery.
7
- 31 -
held to be O.5/L, where L is the class life. Scheduled allowances for subsequent taxable years are
set at 11L per dollar of investment, and the final nonzero scheduled deduction is established so as
to make the sum of the A (t) equal unity. 8
The resulting schedule is applied separately to each column of N (t, v), weighted by the average
price element, Pa(t). The initial deduction is available to taxpayers with respect to the initial
investtnent in new trucks and with respect to each subsequent investment in used trucks. Thus, the
diagonal elements, Pa(t)N(t,t), are each multiplied by Aa(O), whereas the elements one period
removed from the diagonal, Pa(t)N(t + 1, t), are each multiplied by Aa(I), the second element from
the averaged depreciation schedule. The remaining off-diagonal elements are similarly constructed.
The depreciation allowances are represented by the elements of the tax depreciation matrix, D (t, v).
The sum over v of the elements of this matrix provide the total depreciation allowances available
by age, TDP(t).
Losses or gains on sales are computed from the basis matrix, Z(t, v) (whose elements indicate
the remaining tax basis), the previously computed sales matrix, S (t, v), and the retirements matrix,
R (t, v), along with the price function, P (t), and the salvage value function, V (t). These calculations
take into account the following facts: (i) the basis of each asset differs according to when the asset
was last placed in service, and (ii) since a truck's tax basis does not, in general, equal its market
value, asset sales as well as retirements result in the recognition of loss or gain for tax purposes.
To compute the remaining tax basis for each truck category, the depreciation matrix, D (t, v),
is divided element-by-element by the asset matrix, N(t, v). This result expresses the depreciation
allowances on a per asset basis. Cumulative sums for each column of this result are computed and
then subtracted from the column's applicable per asset average cost, Pa (v), resulting in a matrix
showing the beginning-of-period basis per truck, Z(t, v). In algebraic fonn, Z(t, v) is equal to
8 The tax basis curve shown in Figure 1 of the main text shows values at the end of each taxable or
calendar year. However, tax depreciation allowances are averaged in order to correspond to the
accounting periods used in the analysis. Thus, for example, the initial accounting year's tax
depreciation per dollar of investment consists of the flrst taxable year's depreciation allowance
(equal to 0.5/L, where L is the equivalent econl>mic life) plus one-half of the second taxable year's
allowance (0.5 x I/L) for total depreciation in the flrst accounting year of I/L. This averaging effect
is not reflected in the tax basis curve shown in Figure 1. The averaged depreciation allowances are
referred to as Aa(t)
- 32-
T~ I
D (i, v)
,
1=,. N(i, v)
Z( t,\'=
) P ()
v-.(..,
a
t>v
t
=v.
In this expression, T is the minimum of t and 't, where 't is the smallest value of t for whichN (t, v) =
o.
The tax loss (gain) matrix, TLG(t, v), is calculated as
TLG(t, v)
=[Z(t, v) -PaCt)] xS(t, v) + [Z(t, v) -
Va(t)] xR(t, v).
Sums over the columns of this matrix yield the total net tax loss (gain) by age, TLG(t). Summing
TDP(t) and TLG(t) yields total tax deductions by age, TDD(t). The present value, PVTDD, is
calculated with a fonnula identical to that used in calculating PVELV.
The final results from the iterative procedure for the numerical example are shown in Table
A-4. The life which yields a PVTDD of equal value to PVELV is 4.6 years. 9 The straight-line
depreciation schedule associated with this life is shown in column (2) of Table A_4.1O The depreciation allowances, loss deductions, and total deductions are shown in columns (3 )-(5).
Column (6) reports the remaining tax basis, RTB(t), associated with the initial investment of
$1,000. As with the remaining economic value column in Table A-3, this series ends with $148 of
remaining value.
This value represents capital investment that is recovered not through tax
deductions, but through sales to non-business truck users.ll The remaining tax basis is initially
above the remaining economic value curve, but drops below it by year foUI. This implies that, after
that point, truck sales will generate reportable taxable gainS. 12
9 The average period of business use for a truck in the example is 9.4 years, while the average
retirement age for a truck is 16.5 years. Use of either the average holding period or the average
retirement age as a useful life for straight-line depreciation purposes would yield a present value
of tax deductions that differs, perhaps substantially, from PVELV.
IOThe present value of the depreciation schedule is 0.8980, well above 0.7796, the present value of
the total economic loss in value. However, these values are not comparable. Only about 85 percent
of the original investment outlay in the example is recovered in the form of tax deductions, and
reported taxable gains offset a good portion of the depreciation deductions.
11 The unrecovered investment values shown in Figure 4 in the main text reach zero at age twenty-six.
Those curves were obtained by subtracting the proceeds from sales of trucks to households from
the remaining values shown in the fInal columns of Tables A-3 and A-4.
In the early years, the remaining tax basis exceeds the remaining economic value of the original
investment. In this period, a sale generates a tax l~ss. It is assumed that transaction costs are
12
significant enough to inhibit tax-motivated wash sales in tangible depreciable assets, so that the
probability of sales remains unchanged.
- 33 -
Table A-I
Truck Prices and Retirement and Sale Probabilities by Age
Initial Investment: $1,000
Period Discount Rate: 4.0 percent
Probability Distributions
(Percent)
Age
t
Retirements
ret)
(1)
(2)
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
0.0
0.2
0.4
0.6
0.9
1.3
1.9
2.6
3.5
4.5
5.4
6.3
7.0
7.6
8.0
8.3
8.4
8.6
8.7
8.7
8.7
8.8
8.8
8.8
8.8
8.8
100.0
Prices
(Normalized)
Gross Sales
Net Sales
[1 - bet)] set)
set)
(3)
(4)
0.0
1.0
10.3
21.5
26.5
41.5
43.0
36.5
25.6
28.4
33.7
15.4
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.3
1.5
7.3
9.0
14.0
14.5
12.3
8.7
9.6
11.4
5.2
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
Remaining
Assets
pet)
Salvage
Vet)
(5)
(6)
1.000
0.655
0.467
0.344
0.280
0.241
0.172
0.118
0.106
0.109
0.103
0.093
0.087
0.081
0.075
0.068
0.062
0.056
0.050
0.044
0.037
0.031
0.025
0.019
0.012
0.006
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
0.000
Discount
Factors
~(t)
(7)
1.000
0.981
0.943
0.907
0.872
0.838
0.806
0.775
0.745
0.717
0.689
0.662
0.637
0.612
0.589
0.566
0.544
0.524
0.503
0.484
0.465
0.448
0.430
0.414
0.398
0.383
0.368
- 34 -
Table A-2
Retirements, Sales, and Assets Remaining in Business Use by Age of Trucks
Remaining Business
Assets
Business Asset Sales
Age
Total
Assets
Used
Assets
Business
Asset
Retirements
Gross
Sales
Household
Purchases
Business
Purchases
t
N(t)
Wet)
R(t)
Set)
H(t)
Vet)
(1)
(2)
(3)
(4)
(5)
(6)
(7)
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
1000
994
956
881
795
675
566
483
426
368
308
274
255
235
217
199
182
166
152
139
127
116
105
96
88
80
0
0
7
74
193
294
385
404
383
354
319
277
249
232
214
197
181
166
152
138
126
115
105
96
88
80
73
0
0
2
4
6
8
10
0
10
102
204
232
326
285
201
119
115
117
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
3
35
69
78
110
96
68
40
39
40
15
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
7
68
135
153
216
188
133
79
76
78
29
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
1756
594
1162
Sum
13
15
17
19
20
19
19
19
19
18
17
16
14
13
12
11
10
9
8
8
80
406
44
- 35 -
Table A-3
Loss in Economic Value by Age of Trucks
Age
Economic
Depreciation
Economic
Losses on
Retirements
Total Loss in
Economic Value
Remaining
Economic
Value
t
EDP(t)
ELR(t)
ELV(t)
REV(t)
(1)
(2)
(3)
(4)
(5)
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
0
344
183
113
54
29
43
29
5
-1
2
3
2
2
1
25
26
1
1
1
1
0
0
2
2
2
2
3
3
2
2
2
2
2
2
2
1
1
1
1
1
1
0
0
0
0
0
0
0
0
346
185
115
56
31
45
31
7
1
4
5
3
3
3
3
2
2
2
2
1
1
1
1
1
1
0
1000
654
468
354
297
266
221
190
183
182
178
173
170
167
164
161
159
157
155
154
152
151
150
149
149
148
148
Sum
PV
817
0.7536
36
0.0260
852
0.7796
24
1
1
1
1
1
1
1
- 36 -
Table A-4
Tax Deductions and the Resulting Equivalent Economic Life
Equivalent Economic Life: 4.6 years
Age
Depreciation
Schedule
Depreciation
Allowances
Loss
Deductions
Total Tax
Deductions
Remaining
Tax Basis
t
A(t)
TDP(t)
TLG(t)
TDD(t)
RTB(t)
(1)
(2)
(3)
(4)
(5)
(6)
0
1
2
3
4
5
6
7
8
9
10
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
0.0
10.9
21.8
21.8
21.8
21.8
2.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0.0
0
218
216
201
169
84
29
22
17
13
9
6
4
3
2
1
0
0
0
0
0
0
0
0
0
0
0
0
1
3
-9
-32
-54
-28
-8
-3
-5
-7
-2
1
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
219
219
193
137
30
1
14
14
7
2
4
5
3
2
1
0
0
0
0
0
0
0
0
0
0
0
1000
781
562
369
232
202
201
187
173
166
164
160
155
151
149
148
148
148
148
148
148
148
148
148
148
148
148
Sum
PV
100.0
0.8980
995
0.8969
-143
-0.1173
852
0.7796
11
References
Miaou, Shaw-Pin, "Study ofVehic1e Scrappage Rates," OakRidge National Laboratory, Oak Ridge,
TN, August 1990, cited in Davis, Stacy C. and Hu, Patricia S., Transportation Energy Data Book:
Edition 11, Oak Ridge National Laboratory, Oak Ridge TN, January 1991.
U.S. Department of Commerce, Bureau of Economic Analysis, Wlpublished business fIxed
investment worksheets, 1990.
U.S. Department of Commerce, Bureau of the Census, 1987 Census of Transportation: Truck
Inventory and Use Survey, United States. U.S. Govenunent Printing Office, Washington, DC,
August, 1990.
Acknowledgments
The analysis in this report was conducted by David W. Brazell. Robert E. Yuskavage and Lowell
Dworin provided editorial assistance.
-37-
Report to The Congress on
The Tax Treatment of
Bad Debts by' Financial Institutions
Department of the Treasury
September 1991
DEPARTMENT OF THE TREASURY
WASHINGTON
ASSISTANT SECRETARY
September 1991
The Honorable Dan Rostenkowski
Chairman
Committee on Ways and Means
U.S. House of Representatives
Washington, D.C. 20515
Dear Mr. Chairman:
The Conference Report for the Tax Reform Act of 1986
directed the Treasury Department to study and report on the
appropriate criteria to be used in determining whether a debt is
worthless for Federal income tax purposes, and specifically to
consider the circumstances under which it would be appropriate to
provide a conclusive or rebuttable presumption of worthlessness
(H.R. Conf. Rep. No. 841, 99th Congo 2d Sess. II-316 (1986».
Pursuant to that directive, I hereby submit this
"Report to the Congress on the Tax Treatment of Bad Debts by
Financial Institutions."
I am sending a similar letter to Representative
Bill Archer.
Sincerely,
~-(J.~
enneth W. Gideon
Assistant Secretary
(Tax Policy)
Enclosure
DEPARTMENT OF THE TREASURY
WASHINGTON
ASSISTANT SECRETARY
September 1991
The Honorable Lloyd Bentsen
Chairman
Committee on Finance
United states Senate
Washington, D.C. 20510
Dear Mr. Chairman:
The Conference Report for the Tax Reform Act of 1986
directed the Treasury Department to study and report on the
appropriate criteria to be used in determining whether a debt is
worthless for Federal income tax purposes, and specifically to
consider the circumstances under which it would be appropriate to
provide a conclusive or rebuttable presumption of worthlessness
(H.R. Conf. Rep. No. 841, 99th Congo 2d Sess. 11-316 (1986».
Pursuant to that directive, I hereby submit this
"Report to the Congress on the Tax Treatment of Bad Debts by
Financial Institutions."
I am sending a similar letter to Senator Bob Packwood.
Sincerely,
~{J.~
Kenneth W. Gideon
Assistant Secretary
(Tax Policy)
Enclosure
TABLE OF CONTENTS
I. Introduction
n.
1
A. Bad debt deductions
1
B. Nonaccrual of interest
5
Comparison of the Charge-Orr and Reserve Methods
7
A. Reasons for repeal of the reserve method
7
B. Accounting for loan losses
7
C. The taxation of income from a portfolio with loan losses
8
11
D. Conclusion
m. Conformity of Tax to Regulatory Standards of Worthlessness
13
A. Regulatory framework
13
B. Regulatory classification of assets for determining loss asset charge-offs
15
C. Relationship of regulatory loss standard to deductibility of bad debts
under section 166
16
D. Regulatory standards for nonaccrual of interest
24
E. Relationship of regulatory nonaccrual standard to tax accrual rules
25
IV. Standards for Unregulated Institutions
29
V. Conclusion
35
Appendix-mustration of Economic and Tax Accounting for Loan Portfolios
with Loan Losses
37
A. Accounting for loan losses
37
B. Taxation of income from a portfolio with early loan losses
37
C. Effect of loan losses late in the life of \he contract
42
- v-
LIST OF TABLES
Table
1
illustration of the Pricing of a Loan Portfolio
38
2
illustration of Economic and Tax Accounting for the Loan Portfolio
With Early Loan Losses
39
3
Income and Tax Deferral for the Loan Portfolio With Early Loan Losses
43
4
Illustration of the Pricing of a Loan Portfolio With Late Loan Losses
44
5
illustration of Economic and Tax Accounting for the Loan Portfolio
With Late Loan Losses
46
Income and Tax Deferral for the Portfolio With Late Loan Losses
48
6
LIST OF FIGURES
1
Loans and Assets - Insured Commercial Banks
20
2
Loan Losses and Income - Insured Commercial Banks
21
J
- VI -
I.
INTRODUCTION
The Internal Revenue Code (the Code) has from its inception permitted holders of business
debts to deduct the losses resulting from the nonpayment of those debts. Historically, the Code
has prescribed two alternative methods for determining the amount of the business bad debt
deduction allowed for any taxable year. Taxpayers generally could choose to compute their bad
debt deduction either by determining on a loan-by-Ioan basis the debts that had become
uncollectible (the specific charge-off method of accounting for bad debts)l or by determining
the amount of the addition for the taxable year to a reserve for bad debts required to cause that
reserve to equal the debts held by the taxpayer that are expected to become worthless (the
reserve method of accounting for bad debts).2 Once a taxpayer properly selected a method, the
consent of the Commissioner was generally required to change it. 3
The Tax Reform Act of 1986 (the 1986 Act) repealed the reserve method for all taxpayers
other than thrift institutions and commercial banks that are not "large" banks. 4 Accordingly,
large banks, non-depository financial institutions, and taxpayers generally may use only the
specific charge-off method for determining their bad debt deduction. When it repealed the
reserve method for most taxpayers, Congress directed the Treasury Department to study and
report on the appropriate criteria to be used in determining whether a debt is worthless for
Federal income tax purposes and specifically to consider the circumstances under which it would
be appropriate to provide a conclusive or rebuttable presumption of worthlessness. S
A. Bad debt deductions
The two methods that have historically been used to compute the bad debt deduction under
section 166 of the Code are the specific charge-off method and the reserve method.
II.R.C. § 166(a); Treas. Reg. §1.166-1(a)(1).
2See Treas. Reg. § 1. 166-1(a)(2). Prior to its repeal in 1986, section 166(c) provided
statutory authority for the reserve method. Special rules have governed the reserve methods
available to commercial banks and savings and loan institutions (hereinafter "thrift institutions"
or "thrifts"). See, ~.g., I.R.C. §§ 585 and 593.
3Treas. Reg. § 1.166-1(b)(2).
4Pub. L. No. 99-514, § 805(a) (1986). A bank is a large bank if the average adjusted bases
of its assets exceed $500 million or if it is a member of a controlled group the average adjusted
bases of all assets of which exceed $500 million. I.R.C. § 585(c)(2). For purposes of this
report , all banks not meeting the definition of a~ large bank are referred to as "small" banks.
sH. R. Conf. Rep. No. 841, 99th Cong., 2d Sess. 11-316 (1986).
- 1-
-21.
Specific charge-off method
A debt that is completely worthless may be deducted only in the year it becomes worthless. 6
Thus, the bad debt deduction claimed for any year must be supported by a showing that the debt
had some value at the beginning of the year and that some change in the debtor's ~ndition
occurred during the year. 7 In determining whether a debt is worthless, f'all pertinent evidence,"
including the adequacy of the collateral and the financial condition of the debtor, will be
considered. 8 An inherent difficulty in identifying the year of deduction is that worthlessneSs
often results from a gradual deterioration in the debtor's financial condition rather than
easily
identified event. A special 7-year statute of limitations applicable to refund claims based on
worthless debts mitigates the hardship that may arise when a debt is determined to have become
worthless in a year earlier than the one in which the taxpayer claimed it as a bad debt
deduction. 9
an
If it can be determined that only part of a debt is recoverable, the worthless portion may be
deducted in the year in which the taxpayer charges it off for book purposes. IO Unlike the case
of a wholly worthless debt, the taxpayer need not show that the partial worthlessness occurred
in the year of deduction, thereby permitting the taxpayer a certain amount of flexibility in the
timing of such deductions. II Another important way in which deductions for partially worthless
and wholly worthless debts differ is that Congress has delegated to the Commissioner discretion
to allow the deduction for a partially worthless debtY As a result, the taxpayer may bear a
heavier burden in establishing the correctness of the partial worthlessness write-off, because the
issue in litigating a taxpayer's disallowed partial worthlessness deduction is not whether the debt
is partially worthless, but whether the Commissioner's denial of the deduction is arbitrary or
unreasonable. 13
6I.R.C. § 166(a)(1).
7See Denver & R.G.W.R.R. Co. v. Commissioner, 279 F.2d 368 (10th Cir. 1960).
8Treas. Reg. § 1.166-2(a). Except in the case of the special rule applicable to regulated
financial institutions described below, there is no specific requirement that a wholly worthless
debt be charged off for book purposes in the year it becomes worthless.
9I.R.C. § 651l(d)(1).
IDJ.R.C. § 166(a)(2).
liThe extended statute of limitations under I.R.C. § 6511(d) does not apply to deductions
clai med for partially worthless debts. Treas. Reg. § 301. 6511 (d)-1 (c) .
•
121.R.C. § 166(a)(2); Treas. Reg. § 1.166-3(a)(ii).
13See Brimberry v. Commissioner, 588 F.2d 975 (5th Cir. 1979).
-3Special rule applicable to depository institutions
Treasury regulations provide a special rule that allows regulated financial institutions a
conclusive presumption that debts that are properly charged off for regulatory purposes are
worthless for purposes of applying section 166 if certain conditions are met. 14 This conformity
of tax and regulatory accounting generally applies only to "loans classified under regulatory
standards as loss assets, which are evaluated according to criteria comparable to those applied
under section 166. 15 Therefore, the conclusive presumption does not apply where the
institution writes down real estate or other property obtained in foreclosure in compliance with
regulatory requirements that such assets be carried at the lower of net book or current market
value. 16 The history and current operation of the conformity rule is discussed in greater detail
at pages 16-19, below.
Amount of allowable bad debt deduction
Generally, a deduction for a wholly worthless debt is allowed to the extent of outstanding
principal and previously reported but uncollected interest. 17 The amount of the deduction can
therefore not exceed the taxpayer's adjusted basis in the debt, computed in the manner used for
determining the loss from the sale or other disposition of the property. In the case of
repossessions and foreclosures, the amount of the deduction is equal to the amount by which the
taxpayer's basis in the debt exceeds the fair market value of the repossessed or foreclosed
property. 18 If a bad debt deduction is allowed for a partially worthless debt, the basis of the
debt is reduced by the amount of the deduction. If the taxpayer recovers an amount on a debt
after having deducted it as a bad debt, the amount recovered is taxable income to the taxpayer
in the year of recovery. 19
2.
Reserve method
Prior to the repeal of section 166(c) in 1986, the reserve method generally permitted a bad
debt deduction for a year equal to an amount determined to be a reasonable addition to the
14Treas. Reg. § 1.166-2(d).
15Regulators may occasionally require institutions to charge off loans that are very weak but
not yet deserving of loss classification.
16Rev. Rul. 84-95, 1984-2 C.B. 53.
17I.R.C. § 166(b); Treas. Reg. § 1. 166-1(d)(1).
l
18Treas. Reg. § 1.166-6; I.R.C. § 595(a).
l~reas.
Reg. § 1. 166-1(f).
-4taxpayer's reserve for bad debts for that year. 20 The reasonable addition to the reserve for any
year was that amount necessary to bring the beginning bad debt reserve balance, adjusted for
actual bad debt losses and recoveries during the year, to the permitted ending reserve balance,
which had to be computed under an approved method. 21 The most widely used formula for
determining the ending reserve balance was based on a six-year moving average, determined by
dividing the sum of the bad debts actually charged off for tax pUrposes22 (net of actual
recoveries) for the most recent six years (including the current year) by the sum of the debts
owed the taxpayer at the end of each year of the same six-year period. This average bad debt
ratio was multiplied by the sum of the debts outstanding at the close of the year to produce the
permitted ending reserve balance for the current year.23 This method (the experience method)
produces an ending reserve balance based on past experience that approximates the bad debt
charge-offs expected to occur in a single taxable year.
The 1986 Act severely limited the use of the reserve method for computing bad debt
deductions. It is now available only for thrifts and small banks. Small banks using the reserve
method are limited to the experience method described above. 24 Thrifts eligible to use the
reserve method under section 593 may use either the experience method or the percentage of
taxable income method. 25 Under the percentage of taxable income method, the addition to the
20See Treas. Reg. § 1.166-1(a)(2).
2lTreas. Reg. § 1.166-4.
22In determining the amount of debts actually charged off, depository institutions using the
reserve method were permitted to apply the conclusive presumption of worthlessness described
at p. 5, above.
23This formula is based on the decision in Black Motor Company v. Commissioner, 41
B.T.A. 300 (1940), affd, 125 F.2d 977 (6th Cir. 1942).
24I.R.C. § 585(b)(2).
25I.R.C. § 593(b)(2). Until 1951, thrifts were exempt from federal income tax. Although
they became subject to the corporate income tax in 1952, thrifts were generally allowed a bad
debt reserve deduction for a taxable year equal to 100 percent of taxable income for the year.
In 1962, Congress reduced the percentage of taxable income that could be claimed as a bad debt
reserve deduction to 60 percent. This amendment was designed to produce some level of tax
from thrifts and at the same time to encourage the residential real estate loans that constituted
the bulk of thrifts' lending activities. Between ·1969 and 1979, the allowable percentage of
taxable income reserve method fell gradually from 60 percent to 40 percent. The 1986 Act
reduced the allowable percentage to the present 8 percent.
-5reserve for a year is generally equal to 8 percent of the institution's taxable income for that
year. 26 In any given year, thrifts may use either the experience method or the percentage of
taxable income method, whichever is more advantageous?7
B. Nonaccrual of interest
An accrual method taxpayer generally takes amounts into income when the right to the
income is fixed and the amount of the income can be determined with reasonable accuracy. 28
Under an exception to this general rule, income must not be accrued if, at the time the right to
the income arises, the income is uncollectible. 29 In the case of interest on a loan,
uncollectibility is determined based on not only whether the debtor is currently delinquent but
also whether there is evidence that the income will never be paid. Therefore, mere untimeliness
of payment is not necessarily substantial evidence of uncollectibility and will not alone support
non accrual of the income. 3O Other factors, such as the solvency of the debtor and the course
of dealings between the debtor and the creditor, must be taken into account. There is no special
rule applicable to regulated institutions permitting a presumption of uncollectibility for interest
on loans that are placed in nonaccrual status under financial institution regulatory standards.
26rfhe excess of the deduction produced by the percentage of taxable income method over
the taxpayer's actual loss experience is a preference item for purposes of the corporate
alternative minimum tax. I.R.C. § 57(a)(4).
27Treas. Reg. § 1.593-6A(a)(I); Rev. Rul. 79-123, 1979-1 C.B. 215.
28Treas. Reg. §§ 1.446-1(c)(ii), 1.451-1(a).
29Corn Exchange Bank v. United States, 37 F.2d 34 (2d Cir. 1930).
30See Georgia Schoolbook Depository v. Commissioner, 1 T.C. 463 (1943)(inadequacy of
amounts held in state beer tax fund to be used as sole source for payment of amounts owed to
taxpayer not sufficient basis for nonaccrual of income where source of funds would increase in
subsequent years); Koehring Company v. United States, 421 F.2d 715 (Ct. Cl. 1970)(unpaid
royalties owed to taxpayer constituted accrued income because business reverses causing
nonpayment were temporary and ultimately full payment could be expected); and Union Pacific
Railroad Co. v. Commissioner, 14 T.C. 401 (1950)(taxpayer's failure to receive interest income
on bonds it held did not justify nonaccrual because issuer's business reverses, although
protracted, were temporary).
II.
COMPARISON OF THE CHARGE-OFF AND RESERVE METHODS
A. Reasons for repeal of the reserve method
The legislative history of the 1986 Act cites two interrelated reasons for the general repeal
of the reserve method. First, Congress believed that in permitting current tax deductions for
statistically computed losses that will occur in the future, the reserve for bad debts was
inconsistent with the treatment of other deductions, which may generally not be taken into
account for tax purposes until the event to which the deduction is economically related has
occurred. Second, because the deduction for the increase in the tax bad debt reserve represents
a current deduction for the full amount of losses to be incurred in the future, the reserve method
results in overstated deductions. 31
In seeking to conform the treatment of bad debt deductions to other types of deductions,
Congress was revisiting certain time value of money issues it had first addressed in the Tax
Reform Act of 1984, when it enacted the "economic performance" requirement of section
461(h). Section 461(h) governs the time at which accrual method taxpayers may take liabilities
into account for tax purposes. Prior to 1984, accrual method taxpayers could generally deduct
the amount of a liability if the fact of the liability was fixed and the amount of the liability could
be determined with reasonable accuracy (the all-events test). Because the rule permitted a
current deduction for amounts that might be paid far into the future and made no adjustment in
the amount of the deduction to take account of the time value of money, the rule produced
overstated deductions. In crafting a remedy for the overstated deduction problem in 1984,
Congress recognized that the correct deduction could be reached in one of two ways -- either
by allowing a deduction for the present value of the deduction at the time the all-events test is
satisfied or by deferring the deduction until the liability giving rise to the deduction is satisfied.
Congress opted to defer the deduction, in view of the administrative complexities that would
accompany the discounting approach. 32 In repealing the reserve method and requiring most
taxpayers to use the specific charge-off method for bad debts, Congress in 1986 approached the
time value of money issue much as it had in 1984 -- by deferring the deduction until the event
giving rise to the loss had occurred. 33
31See H.R. Rep. No. 426, 99th Cong., 1st Sess. 640 (1985) and S. Rep. No. 313, 99th
Cong., 2d Sess. 155 (1986).
32H.R. Rep. No. 432, Pt. 2, 98th Cong., 2d Sess. 1254-1255 (1984).
33In the case of bad debts, the discounting approach would be even more administratively
unwieldy than in the case of other deductions, .since the time at which the default will occur
cannot be known with certainty at the time the loan is originated.
-7-
-8B.
Accounting for loan losses
A loan is a financial contract stipulating a stream of payments to be made by the borrower
to the lender. The value of the contract at any point in time is the present value of its future
cash flows, discounted at a market rate of interest that represents the return on alternative uses
of the lender's funds. This discount rate usually is not the contract rate of interest. 34 The
value of a loan contract in any period during the life of the loan may differ from the value
implied by the stated terms of the contract at the time of origination because of the possibility
that those terms may not be fully satisfied. The borrower may default on the loan, producing
a loss for the lender that reduces the implied value of the contract. 35 Because the lender
recognizes the possibility of borrower default when he makes the loan, the terms of the lender's
cash advance to the borrower will take into account the lender's expectation of future losses.
A common method of pricing a contract to account for a lender's expected loan losses is to
compute for a given nominal principal a contract interest rate that incorporates a "risk
premium." The addition of the risk premium yields a discounted present value for the contract's
expected future payments that is equal to the nominal principal. This approach builds a cushion
into the contractual payment stream to absorb the expected losses.
The effect of the charge-off and reserve methods on the value of a loan portfolio depends
upon the timing of the recognition of the income associated with the risk premium and the
deduction associated with the loan loss. If the timing of the income recognition does not match
the timing of the loss deduction, income and tax liability will be either deferred or accelerated.
The following section describes the effects of the charge-off and reserve methods on the value
of a loan portfolio and compares those methods to an economically efficient income tax system
in which tax is imposed on economic income.
C. The taxation of income from a portfolio with loan losses
Under an economically efficient income tax system, the imposition of tax does not distort
an investor's choices among assets, because it does not change the price of the asset relative to
34The market interest rate may fluctuate in response to changes in economic conditions,
whereas the contract rate may be fixed for the term of the loan. Assuming that market
conditions and hence interest rates do not change, the contract rate and the discount rate are
expected to be equal only when there is no risk of default and the price paid for the contract is
the nominal contract principal.
3sThe effect of an expected failure of the borrower to honor the terms of a financial contract
generally cannot be distinguished from the effect of an unexpected increase in market interest
rates during the term of the loan. In either case: the value of the contract becomes less than that
implied by the terms of the loan. References in this discussion to changes in the value of loans
include only changes effected by borrower defaults.
-9the price that would exist in the absence of the tax. In the case of investment in depreciable
assets, economic efficiency requires a deduction for tax depreciation that is equal to the decline
in the value of an asset, so that tax is imposed on economic income. In the case of a physical
asset, such a decline in value is referred to as economic depreciation, which must be deducted
from gross income to arrive at economic income. 36 Similarly, the efficient allocation of
investment in financial assets also requires taxation of economic income. 37
To determine the economic income produced by the ownership of an asset, it is necessary
to track the asset's value over its life. In the case of a loan portfolio that includes debts that will
become uncollectible, the value of the portfolio generally changes over time in a manner that
depends upon the timing of the expected nonperformance. In each period, economic income
earned on the portfolio equals the net cash flow received in that period plus the changes in the
value of the portfolio. Since conceptually the current value of an asset is the present value of
its expected future income stream, the decline in the value of the loan portfolio is the reduction
in the present value of its expected future income stream. 38
The present tax treatment of loan losses generally mismeasures economic income, because
neither the charge-off nor reserve methods accurately reflects changes in the market value of the
loan portfolio. Under both the charge-off and reserve methods, the timing of the recognition
of income attributable to the risk premium differs from the timing of the recognition of the
associated loss, which may result in a deferral or acceleration of income. If the present value
of unrecognized income is positive, income and tax liability are deferred and the value of the
portfolio increases relative to its pre-tax value. Alternatively, if the present value of the
unrecognized income is negative, the after-tax value of the portfolio is less than its pre-tax value.
1.
The effect of early loan losses
The effect of the charge-off and reserve methods on the value of a loan portfolio depends
upon the timing of the losses during the life of a loan. 39 When losses occur early in the life
36See Paul A. Samuelson, "Tax Deductibility of Economic Depreciation to Insure Invariant
Valuations," Journal of Political Economy (December 1964), pp. 604-6.
37See Arnold C. Harberger, "Tax Neutrality in Investment Incentives," in The Economics
of Taxation, H. J. Aaron and M. J. Boskin, eds., Washington, D.C.: The Brookings Institution
(1980), pp. 303-6.
38When economic income is taxed, the effective tax rate (the percentage reduction in the
internal rate of return attributable to taxes) is equal to the statutory tax rate.
39The Appendix illustrates the effect of the timing of debtor nonperformance using two
hypothetical loan portfolios in which losses occur early and late in the life of the loans,
respectively. It analyzes the economic accrual of the loan losses and compares such accrual to
the tax accounting for the loan losses. These hypothetical examples assume that the timing of
- 10 of a loan, both the charge-off and reserve methods increase the value of a loan portfolio because
they defer the recognition of income attributable to the risk premium relative to the deduction
for the associated loss. The present value of after-tax cash flows from the loan portfolio will
exceed the present value of before-tax cash flows, because the lender has deducted defaulted
amounts before he has taken into income payments reflecting the risk premium charged on all
loans. Because the pre-tax and after-tax portfolio values differ, investment decisions are likely
to be distorted.
The disparity between the after-tax value of the loan portfolio and its pre-tax value is greater
under the reserve method than under the charge-off method, because the mismatch between the
time the deductions attributable to loan losses are taken and the time the risk premium is
included in income is more extreme under the reserve method. Under the charge-off method,
declines in the value of the loan portfolio are recognized when loans are charged off. The
reserve method anticipates future loan losses. Neither method reflects unrealized changes in the
market value of the loan portfolio.
Under the charge-off and reserve methods taxable income is lower than economic income
in the early years of the contract and higher in the later years. This pattern occurs because the
recognition of income attributable to the risk premium covering expected losses tends to be
deferred relative to the deduction for the associated loss. As a result, both methods defer
income and tax liability. Under the reserve method, however, the deferred income and tax
liability are larger, because the reserve method tends to accelerate deductions relative to the
economic decline in the value of the portfolio to a greater extent than the charge-off method.
2.
The effect of late loan losses
When loan losses occur late in the life of a loan, the charge-off and reserve methods may
favor or disadvantage the loan portfolio. The charge-off method disadvantages the portfolio
because it defers the recognition of loan losses relative to the recognition of income attributable
to the risk premium. The reserve method favors the portfolio because it allows deductions for
losses before they accrue.
Compared with economic income, taxable income under the charge-off and reserve methods
is higher in the early years of the contract and lower in the later years. The charge-off method
defers deductions for declines in the value of a loan portfolio attributable to defaults until the
default occurs. The reserve method permits a deduction in the year of origination for defaults
that occur late in the life of the contract in addition to deductions allowed under the charge-off
method. As a result, taxable income under the reserve method is lower than under the chargeoff method. Whereas the charge-off method reduces the value of the portfolio by deferring
debtor nonperformance and the rate of return the lender would receive on alternative investments
are known with certainty (Le., that all "losses" are expected). These factors are difficult to
ascertain in practice.
- 11 losses (the present value of deferred tax liability is negative), the reserve method increases the
value of the portfolio by accelerating deductions (the present value of the deferred tax liability
is positive.)
D. Conclusion
An economically efficient income tax system would measure accurately the lender's
economic income, which consists of principal and interest payments and changes in the value
of the portfolio. The market value of the portfolio is based on the portfolio's expected cash flow
and the expected return on alternative investments. To measure economic income correctly, the
value of a portfolio of loans would have to be adjusted annually to reflect changes in its market
value. In practice, such adjustments would be problematic, because they would require annual
price quotes or knowledge of the lender's expectations of future loan losses and rate of return
on alternative investments.
Neither the charge-off nor reserve methods measure economic income accurately. The
charge-off method may favor or disadvantage a loan portfolio, depending upon the timing of the
loan losses. When losses occur early in the life of the contract, the charge-off method will
increase the value of the portfolio by deferring income and tax liability. When losses occur late
in the life of the contract, the charge-off method will disadvantage the portfolio by deferring
losses. Although neither method correctly measures economic income, the reserve method tends
to accelerate deductions relative to the true economic decline in the value of the portfolio, and
thus favors the portfolio regardless of the timing of the losses. The best practical alternative to
taxing economic income is the consistent taxation of realized income. In achieving this purpose,
the Charge-off method is preferable to the reserve method, because it is less distortionary for a
wide variety of fully anticipated loan default characteristics.
III. CONFORMITY OF TAX TO REGULATORY STANDARDS
OF WORTHLESSNESS
As described at page 3, above, there has long been a rule that debts held by depository
institutions that are charged off for regulatory purposes are conclusively presumed to be
worthless for purposes of the bad debt deduction if certain conditions are met. This section of
the report describes the federal regulatory framework applicable to commercial banks and thrift
institutions, outlines the system for classifying assets for regulatory purposes, and analyzes the
history and policy considerations underlying the conformity of tax and regulatory treatment of
loss assets.
A. Regulatory framework
Under the present regulatory framework, federal supervisory authority over depository
institutions is exercised by several regulatory bodies that are charged with the oversight of
particular groups of institutions. The distribution of supervisory responsibilities is summarized
below.
1.
Commercial banks
Responsibility for the regulation of commercial banks is distributed among the Office of the
Comptroller of the Currency (OCC), the Board of Governors of the Federal Reserve (FRB) and
the Federal Deposit Insurance Corporation (FDIC). The OCC charters, regulates and supervises
national banks.40 It carries out its supervisory functions through both on-site examinations and
off-site review of regular reports and other relevant information that banks are required to
supply.41
The FRB was created in 1913 to provide stability and uniformity to the banking system
through a system of regional Federal Reserve Banks. All national banks are required to be
members of the Federal Reserve System (FRS), and state-chartered banks may elect to become
members. 42 The FRB also has sole jurisdiction over bank holding companies. 43 The FRB
plays the same regulatory role with respect to its state-chartered members and their affiliates as
the OCC plays with respect to national banks. 44
40 12 U.S.C. § 1.
41Comptroller of the Currency, Handbook for National Bank Examiners -- Commercial,
International (hereinafter "Handbook") § 1.1 (1979).
42U.S.C. §§ 222, 321.
43 12 U.S.C. § 1844(b).
4412 U.S.C. §§ 325, 338, 248(a) and 483.
- 13 -
- 14 -
The FDIC was established in 1933 to insure the deposits of all FRS member banks as well
as state nonmember banks.45 It performs examination functions analogous to those of the OCC
and the FRB with respect to state banks that are not members of the FRS.
2.
Thrift institutions
Prior to the passage of the Financial Institutions Reform, Recovery and Enforcement Act
of 1989 (FIRREA),46 the Federal Home Loan Bank Board (FHLBB) operated the Federal Home
Loan Bank System, a central bank system for the thrift industry, chartered and supervised
federal thrifts, and insured the deposits of member institutions through the Federal Savings and
Loan Insurance Corporation (FSLIC). FIRREA abolished the FHLBB and the FSLIC and
redistributed their responsibilities. 47 Under the current structure, the Office of Thrift
Supervision (OTS) supervises all federal and state thrift institutions;48 the Federal Housing
Finance Board is the principal overseer of the credit operations of Federal Home Loan Banks;49
and the FDIC insures the deposits of member S&Ls and manages defaulted savings
associations. 50
Despite the division of regulatory responsibilities involved in the supervision of financial
institutions, a high degree of consistency in the application of regulatory standards is provided
by the Federal Financial Institutions Examination Council (FFIEC). The FFIEC, which was
created in 1978, is an interagency entity composed of representatives of each of the federal
regulatory bodies and is charged with promoting the uniform examination and supervision of
banks. The FFIEC achieves this by prescribing uniform principles, standards, and reporting
forms. 51 The FFIEC also provides schools for training federal examiners and makes the
schools available to state regulators as well. 52
45 12 U.S.C. § 1811 et. seq.
46pub. L. No. 101-73, 103 Stat. 183 (1989).
47FIRREA § 301.
48FIRREA § 301.
49FIRREA § 702(a).
50FIRREA § 211, 12 U.S.C. § 1821(a)(1)-(7).
51 12
52
U.S.C. § 3305(b).
12 U.S.C. § 3305(d).
- 15 B. Regulatory classification of assets for determinin& loss asset charge-offs
Under the uniform standards adopted by the federal regulatory bodies, assets that are suspect
are placed in one of the four following classifications:
1. Other assets especially mentioned (OAEM). These assets are currently protected
by the paying capacity of the obligor or the pledged collateral but there are signs that the asset
has the potential to become a loss asset.
2. Substandard. These assets are inadequately protected by the current sound worth
and paying capacity of the obligor or the collateral securing the assets. Substandard assets in
the aggregate represent some loss potential, but this classification does not necessarily reflect
loss potential in any individual asset.
3. Doubtful. These assets show all of the characteristics of substandard assets and,
in addition, the facts and circumstances are such that collection or liquidation of the assets is
highly questionable or improbable. Nevertheless, their classification as loss assets is deferred
because of other factors that may strengthen the assets. An asset generally does not remain in
the doubtful category for successive examinations.
4. Loss. These assets are considered uncollectible and, despite some potential for
salvage or recovery, that potential is not sufficient to justify continued treatment as bankable
assets. These assets are charged off as worthless for regulatory purposes.
An additional regulatory classification applies to loans to foreign borrowers. When the
quality of an institution'S international loans becomes impaired by a protracted inability of
foreign borrowers to make payments on their external indebtedness, regulators require either that
the institution establish an allocated transfer risk reserve (ATRR) in the amount of the portion
of the loans affected or charge-off the requisite amounts as a loss. S3
The specific regulatory criteria for determining whether a loan should be placed in loss
status depend on the type of credit the institution has extended. Generally, the status of
commercial and real estate loans is considered in light of the value of the collateral securing
the loan or other factors affecting the current creditworthiness of the borrower ..54 Other types
53Handbook, § 215.1. Although citations throughout this section lILA. will be to the OCC
Handbook, comparable standards apply to institutions supervised by the FRS, the FDIC, and the
OTS.
Amounts required to be added to the A'fIRR are treated as charge-offs to which the
conclusive presumption of Treas. Reg. § 1. 166-2(d) applies. Rev. Rul. 84-94, 1984-1 C.B. 34.
54Handbook, §§ 206.3 and 213.3.
- 16 of high-volume loans, such as consumer installment loans, credit card plans, and check credit
plans, are subject to more mechanical, automatic charge-off procedures. Consumer installment
paper that is delinquent 120 days or more and credit card or check credit debt that is delinquent
180 days or more are considered loss assets for regulatory purposes. 55
Regulators determine the financial condition of institutions under their jurisdiction on the
basis of quarterly reports (Call Reports) furnished by the institutiotf6 and on-site examinations
that may occur as frequently as more than once a year or as infrequently as once every three
years.
The on-site examination generally includes a review of the institution's own internal loan
review and loss classification standards. 57 An institution's loan officers are responsible for
ensuring that each asset is properly classified according to its current risk status. As a result,
institutions typically adopt an internal loan rating system that is designed to provide senior
management with an accurate current assessment of the quality of the loan portfolio. Federal
examiners review the methods institutions use to evaluate the quality of their loans and test the
extent to which an institution's internal loan review procedures conform to federal regulatory
standards by reviewing a sampling of the institution's commercial and real estate loans and by
confirming that the proper automatic charge-off procedures have been adopted for installment
and credit card loans. 58
C. Relationship of regulatory loss standard to deductibility of bad debts under section 166
For 70 years, the tax treatment of bad debts by depository institutions has been linked to the
treatment of such debts for regulatory purposes. This section of the study traces the evolution
of this tax/regulatory relationship and the policy considerations underlying the conformity of tax
to regulatory treatment under certain circumstances.
55Handbook, §§ 209.1, 211.1 and 212.1.
56The FFIEC has developed for use by the bank regulatory agencies uniform "Reports of
Condition and Income" (Call Reports), which contain extensive information regarding the
classification of the institution's assets and the condition of its income. Uniform rules set forth
the proper treatment of assets and income items.
57Handbook, § 205.1, pp. 8-9.
58 Handbook, § 900.205.1.
- 17 I.
History of the presumption of worthlessness for regulated financial institutions
The ability of banks and other supervised corporations to use their regulators' evaluation in
determining whether debts are worthless for purposes of the bad debt deduction originated in
1921. Treasury Decision 3262, which promulgated regulations under the bad debt provisions
of the 1921 Revenue Act, provided a rebuttable presumption that debts charged off in whole or
in part "in obedience to the specific orders or in accordance with the general policy of" bank
supervisors were worthless for purposes of the bad debt deduction. As interpreted by the Board
of Tax Appeals in Murchison National Bank, this presumption did not provide banks with any
particular advantage over unsupervised taxpayers, because the bank examiner's treatment did not
conclusively determine the appropriate tax treatment. 59
The Murchison approach set the tone for almost a decade. But in a 1935 case, the Fourth
Circuit held that a charge-off made in obedience to a regulatory order justified a bad debt
deduction, regardless of the reason for the regulatory charge-off. 60 The court's rationale was
that "[t]here should be at least some semblance of co-ordination between the several branches
of government in dealing with the taxpayer . . .. Otherwise the banks would be compelled to
keep two sets of books, one, as directed by the bank examiner, and the other for purposes of
making a tax return. ,,61
Despite the opinion of the Fourth Circuit, the Board of Tax Appeals held to its earlier
opinions and continued to interpret the tax regulation as providing only a rather easily rebutted
presumption. 62 The conflicting interpretations were resolved in favor of the Fourth Circuit's
view by a 1936 amendment to the regulation that unambiguously changed the rebuttable
59
1 B.T.A. 617 (1925). The Board stated its views as follows:
"The fact that the entire amount of the debt was charged off in accordance with what
was assumed to be the policy of the national bank examiners, seems to us to have no
bearing on the question presented here. It is well known that national bank examiners,
in accordance with sound banking and good business methods, often times require banks
to charge off overdue paper. This action cannot be construed as indicating in any way
that the paper so charged off is worthless, but only that its value is doubtful and it is
desirable that banks shall include in their balance sheet only such assets as have
unquestioned value." Id. at 621.
6°Citizens National Bank of Orange v. Commissioner, 74 F.2d 604 (4th Cir. 1935).
61Id. at 605.
62See Second National Bank of Philadelphia v. Commissioner, 33 B.T.A. 750 (1935) and
Citizens National Bank of Orange v. Commissioner, 33 B.T.A. 758 (1935), rem'd, 87 F.2d 999
(4th Cir. 1937).
- 18 presumption to a conclusive presumption of worthlessness. 63 The amended regulations
provided that debts charged off, in whole or in part, in obedience to the specific orders of bank
supervisors were conclusively presumed to be worthless for purposes of the bad debt deduction.
At the request of the Comptroller of the Currency, the conclusive presumption of
worthlessness was amended' in 1973 to expand the presumption to include charge-offs made in
accordance with the established policies of the institution's regulatory authority, so long as the
authority confirms in writing in connection with the first examination following the charge-off
that the charge-off would have been specifically ordered if the examination had been made on
the date of the charge-off. 64 Instructions for bank examiners were issued concurrently with the
amendment to the regulations. Those instructions required that, in making the necessary review
prior to issuing the confirmation letter required under the amended regulations, the loans
voluntarily charged off by the institution be considered individually.
At the time of the 1973 amendment to the regulations, it was the policy of the Comptroller's
office that installment loans for which no payment had been received for 90 days should be
charged off. Without the amendment, banks were not entitled to the conclusive presumption of
worthlessness for such loans because their charge-off was not in obedience to a specific order
but rather in voluntary compliance with a regulatory policy. The regulations were amended
specifically to allow banks adopting this procedure to enjoy the benefit of the conclusive
presumption with respect to installment debt.
In 1980, the FDIC published a statement that ultimately became a new interagency standard
for the classification of consumer installment credit as loss assets. It lengthened the 90-day
delinquency period to 120 days for closed-end consumer installment loans and to 180 days for
open-end consumer credit card loans. The change in the loss classification standard included
the following guidance to examiners: "[t]he general classification policy recognizes that
evaluating the quality of a consumer credit portfolio on a loan-by-Ioan basis is inefficient and
unnecessary. ,,65
The shift from loan-by-Ioan review to greater reliance on statistical surveillance made the
confirmation letter procedure more difficult to administer. The Treasury Department recently
proposed that its bad debt regulations be amended to take account of these changed conditions.
Under the proposed regulation, a depository institution is permitted to make a "conformity
election" under which a debt that is charged off in whole or in part on the bank's books is
conclusively presumed to be worthless for tax purposes if either (1) the charge-off results from
a specific order by the regulator or (2) the charge-off corresponds to the institution's
63T.D. 4633 (XV-l C.B. 118).
64T.D. 7254, 1973-1 C.B. 77.
65FDIC, "Uniform Policy for Classification of Consumer Installment Credit Based on
Delinquency Status" (1980).
- 19 classification of the debt, in whole or in part, as a loss asset. The second requirement is deemed
to be met only if the institution's regulators have expressly determined in connection with the
most recent examination of the institution's internal loan review process that the institution
maintains and applies loan review and loss classification standards that are consistent with the
regulatory standards of the supervisory authority. 66
2.
Policy considerations related to tax/regulatory conformity
As is evidenced by the early disagreement between the Board of Tax Appeals and the Fourth
Circuit, the development of tax/regulatory conformity has been informed by two competing
views. First, there is a sense that a regulated entity should not be subject to inconsistent
treatment by different regulatory agencies. Although the Fourth Circuit's concern for the
burdens that may be imposed by requiring the taxpayer to keep two sets of books has become
less compelling with the advent of sophisticated computerized recordkeeping systems, there
remains a belief that the "semblance of coordination" it sought to achieve among government
agencies remains desirable. 67
At the same time, an aee examiner's perspective in assessing the worthlessness of an
institution's loan might well differ from that of the tax auditor. The conservatism that serves
the government well in its role as regulator may not produce the result that best serves the
proper protection of the fisc.
In addition to these competing considerations, there is the practical question of
administration. Since the specific charge-off method under section 166 and the analysis of loan
portfolios for regulatory purposes both require a determination of worthlessness on a loan-byloan basis, the absence of some sort of conformity rule would require two independent
investigations of the factual basis for a particular debt's worthlessness.
As Figure 1 shows, loans constitute more than half of all assets of insured commercial
banks. Moreover, as shown in Figure 2, loans charged off by insured commercial banks for
regulatory purposes have risen from approximately $5 billion, just over one-fifth of net income
before tax in 1980 to more than $33 billion, more than half of net income before tax in 1990.68
In light of the large volume of loans charged off annually for regulatory purposes, ease of
administration is not enough to justify a regulatory/tax conformity rule. Such a conformity rule
is, however, desirable to the extent that the regulatory criteria governing the charge-off of debts
are similar enough to the criteria for worthlessness under section 166 to make regulatory criteria
6656 Fed. Reg. 24,154 (1991).
67See Rev. Rul. 80-180, 1980-2 C.B. 66.
68Net income before tax includes net interest income, service charges, gains on securities not
held in trading accounts and certain other income and excludes provisions for loan and lease
losses.
Figure 1
Loans and Assets • Insured Commercial Banks
3,500+
••••••••••••••••••••••••••••••••••••••••••••••••••••••••
3,000+
•••••••
(/)
c
o
22,500+
()
. , ()() +
en
",."
69-
••••••••••••••••
...............................
,.,"".
IV
o
1,000
500+
I
oJ
1980
1981
1982
1983
1984
1985
Loans
Source: Federal Deposit Insurance Corporation
1986
1987
1988
.............'..... Total Assets
1989
1990
Figure 2
Loans Losses and Income · Insured Commercial Banks
60
50
VI
C
....
" ,...............,.
..
..
40
-h
"",,'
"~,I
N
, ,"~,I
""', ,
o
II
••••••••••••••••••• ..
......
",.,...
30
I
... ..
...................,', " "
I-'
,,,,""'"
20
10'
o
t----
1980
1981
----
----------------------1982
Loan recoveries
1983
1984
1985
1986
1987
1988
1989
.............
Loan charge-ofts
Source: Federal Deposit Insurance Corporation
Income before
loan charge-otts
1990
- 22 and examination by the regulatory authorities an acceptable surrogate for an independent
investigation by the Internal Revenue Service.
As described above at page 13, federal regulatory standards classify an institution's problem
loans along a prescribed descending scale of probable collectibility. Generally, an asset is
charged off for regulatory purposes to the extent it is classified as a loss asset. Accordingly,
in considering the appropriate scope of tax and regulatory conformity, we must compare the
regulatory standards governing loss classification with the tax criteria for worthlessness. . The
proximity of these two standards of worthlessness can be analyzed at several levels. First, to
what extent are the objective definitions of loss assets and worthless debts compatible? Second,
is the factual basis on which a regulatory loss classification rests similar to that which would be
required to support a deduction under section 1661 Finally, is a bank examiner's assessment (or
the assessment of a bank officer applying regulatory criteria) of whether an asset is a loss asset
a satisfactory substitute for that of a tax auditor?
First, we turn to a comparison of the definitions of worthlessness employed for regulatory
and tax purposes. For regulatory purposes, loss assets are those that, on the basis of specific
factual criteria, are deemed "uncollectible" and of such little value that their retention as
bankable assets is not warranted. Classification as a loss asset does not preclude the possibility
of partial recovery, but deems the possibility too small to provide a sufficient reason for
deferring a write-off.
Worthlessness for section 166 purposes has no succinct definition; it is determined on the
basis of "all pertinent evidence. In making the determination of worthlessness, however, "the
taxpayer must follow a rule of reason, avoiding alike the Scyllian role of the 'incorrigible
optimist' and the Charybdian character of the 'stygian pessimist.' [Citations omitted.] . .. The
taxpayer is not required to postpone his entitlement to a deduction in the expectancy of uncertain
future events nor is he called to wait until some turn of the wheel of fortune may bring the
debtor into affluence. ,,69 Thus, the regulatory and tax definitions of assets that should be
charged off are quite similar in that they are both based on apparent uncollectibility,
notwithstanding the possibility of partial recovery at some time in the future.
II
Given similar definitions, the next question is whether the factual basis that supports
classification of an asset as a loss asset for regulatory purposes approximates the facts and
circumstances that would support a finding of worthlessness under section 166. In general,
institutions classify commercial and real estate loans on the basis of the borrower's financial
statements, the borrower's condition compared to the industry average, whether a borrower has
complied with the repayment terms of the loan, the adequacy of the collateral or income stream
that secures repayment, the existence of contingent liabilities, the likelihood of the borrower's
69Minneapolis, St. P. & S. Ste. M. R.R. v. United States, 164 Cl. Ct. 226, 241 (1964).
- 23 business success, and the overall economic conditions affecting the borrower. 7o By contrast,
high volume consumer installment loans and credit card plans are classified solely on the basis
of the length of delinquency.
The breadth of circumstances taken into account in classifying commercial and real estate
loans for regulatory purposes is comparable to the inquiry that would be appropriate for a
finding of worthlessness for purposes of section 166. Although the classification of consumer
installment loans and credit card plans depends on a single fact, length of delinquency, the
unsecured (or as may be the case with consumer loans secured by household items,
undersecured) nature of these loans may cause that single fact to be an adequate measure of
worthlessness for tax purposes. In any event, the high volume of such loans and their
comparatively low face value would make an in-depth inquiry into all relevant facts and
circumstances a very burdensome task for the lending institution. In the absence of persuasive
evidence, such as an unusually high recovery rate for such loans, that the automatic charge-off
criteria for these types of high volume loans results in overstated losses, it is appropriate to
permit the regulatory loss classification to determine the worthlessness of such debts for tax.
purposes.
The last issue is whether an examiner or a bank loan officer would find the loss asset
definition satisfied at a time when the Internal Revenue Service auditor would consider a
determination of worthlessness premature. There are inherent in the roles of the two agencies
divergent inclinations with respect to the timing of a charge-off. A bank examiner charged with
preserving the safety and soundness of a financial institution is more apt to lean toward the
"stygian pessimist" view of a loan showing signs of weakness; the tax auditor, as the collector
of revenue and protector of the fisc, should necessarily incline more to the "incorrigible
optimist" role. Adoption of a regulatory conformity rule necessarily favors, however slightly,
the more conservative approach.
It is unlikely, however, that regulated institutions generally would exploit the conservatism
of the regulators to the serious detriment of the tax system. An institution could obtain
excessive bad debt deductions by charging off loans only at the price of adverse consequences
to its apparent financial soundness. The diminished earnings and capital that would result from
excessive charge-offs could create adverse perceptions in the securities markets and, ultimately,
7°Handbook, §§ 206.3, 213.3, and 217.1.
- 24 weaken consumer confidence in the institution's stability. Failure to meet regulatory capital
requirements would have similar adverse consequences. 71 These conclusions led the Treasury
Department to issue the recent proposed regulations discussed at pages 18-19.
D. Regulatory standards for nonaccrual of interest
acc guidance and FFIEC Call Report forms require that institutions not accrue on their
required quarterly reports interest income on nonperforming loans. A loan is put into nonaccrual
status if principal or interest payments are in default for 90 days or more, unless the loan is well
secured and in the process of collection.72 A debt is "well secured" if the principal and accrued
interest are fully collateralized or guaranteed by a financially responsible person. 73 A debt is
"in the process of collection II if collection is proceeding either through legal action, including
judgment enforcement procedures, or other collection efforts that are reasonably expected to
result in repayment of the debt or restoration to current statuS. 74 The treatment of previously
accrued but uncollected interest and subsequent payments are governed by generally accepted
accounting principles. 75 These principles do not require the write-off of previously accrued
interest if principal and interest are ultimately protected by sound collateral values. Under acc
guidance, a nonaccrual loan may be returned to accrual status when (1) principal and interest
are no longer due and unpaid or it otherwise becomes well secured and in the process of
collection, and (2) prospects for future payment are no longer in doubt. 76
The FFIEC standards for accounting for nonaccrual loans do not apply to consumer loans
7lIn addition, the threat of impending bank failures has resulted in an increasingly important
emphasis on capital. See FDIC, Differences in Capital and Accounting Standards Among the
Federal Banking and Thrift Agencies: Report to Congressional Committees, 55 Fed. Reg.
34,339 (1990). New standards will require higher capital-to-asset ratios and will require the
ratios to be computed on a risk-adjusted basis.
It appears therefore that the eagerness of regulated financial institutions to satisfy regulatory
capital requirements and maintain the appearance of financial health would provide an adequate
safeguard against abuse of a conformity rule.
72Handbook, § 205.1, p. 8.
73
12 C.F.R. § 5.61(c)(2).
7412 C.F.R. § 5.61(c)(3).
75Handbook, § 205.1, p.8.
76Id. The FRB and the FDIC have adopted parallel accounting standards for institutions
under their jurisdiction.
- 25 or residential real estate loans secured by one to four dwellings.
OCC guidance
directsinstitutions to formulate their own non accrual policies with respect to such loans to ensure
Institutions file their required quarterly reports on the
that net income is not overstated. n
basis of the nonaccrual policy they have adopted.
The FFIEC has recently requested comment on a proposed change to the reporting standard
applicable to nonaccrualloans. 78 The proposed standard would ease the ability of an institution
to return a non accrual loan to accrual status without waiting for the loan to come into current
payment status. Under this "loan-splitting" rule, institutions could charge off that portion of a
nonaccrualloan that is not currently protected by pledged collateral or a dedicated income stream
and return to accrual status the reduced loan balance that can be fully protected by the collateral
or other security. 19 Only one such partial charge-off may be made with respect to a loan in
nonaccrual status. If a loan restored to accrual status under the proposed standard is
subsequently placed in nonaccrual status, the current criteria apply for returning the loan to
accrual status. 80
The proposed FFIEC rule in effect allows an institution to write off an asset that has not
been classified as a loss asset. Under the conformity election of the proposed regulations under
section 166, discussed above at pages 18-19, the conclusive presumption that generally applies
to charge-offs made in conformity with regulatory treatment would not apply to charge-offs
permitted under the proposed rule unless they were specifically ordered, because the conformity
election extends only to the charge-off of assets classified as loss assets for regulatory
purposes. 81 As a result, a bad debt deduction claimed in connection with a partial charge-off
under the proposed FFIEC rule would generally have to be supported with the facts and
circumstances required in connection with a claim of partial worthlessness under general tax
principles.
77Id. Similar guidelines apply for FRS- and FDIC-regulated institutions.
Federal Financial Institutions Examination Council, Reporting Standard Concerning the
Return of a Loan With a Partial Charge-off to Accrual Status, 56 Fed. Reg. 11,441 (1991).
78
79Id. at 11 ,442.
8OJd. at 11,443.
SITo permit a bad debt deduction for the partial charge-off of nonaccrualloans contemplated
under the proposed FFIEC rule would be effecti\tely to embrace market value accounting for
diminutions in value. If there is to be some movement in the regulatory area from a realization
based system to a market value accounting system, the tax treatment of assets can be tied to such
a system only if it applies equally to augmentations and diminutions in value.
- 26 E. Relationship of regulatory nonaccrual standard to tax accrual rules
As described above at page 5, current law generally requires that an accrual method
taxpayer include an accrued item in income unless it is uncollectible at the time the lender's right
to it becomes fixed. Thus, unless there is no reasonable expectancy that the accrued but unpaid
interest on a debt will be paid, an accrual basis lender must include it in income, notwithstanding
the debtor's delinquency. 82
The income accrual rules of section 61 and section 451 of the Code have historically been
applied independently of the treatment of nonperforming loans for regulatory purposes.
Accordingly, the Internal Revenue Service makes its own investigation of whether the standard
for nonaccrual of interest is met regardless of whether the loan may have been placed in
nonaccrual status for regulatory purposes.
The Treasury Department has been urged to adopt a conclusive presumption that interest on
loans placed in nonaccrual status in accordance with Call Report rules be considered
uncollectible for tax purposes and, therefore, not taken into account as income. In support of
this proposal, advocates argue that such a policy would provide greater efficiency and uniformity
in the administration of the relevant tax laws and reduce disputes and litigation; would substitute
the experience of bank examiners, who are credit experts, for what advocates assert may be the
less specialized judgment of Internal Revenue Service agents; would relieve the tax managers
of banking institutions of the burden of a loan-by-Ioan review for compliance with what may be
vague Internal Revenue Service criteria; and would allow banking institutions to determine their
tax liability with greater certainty.
Current law does not provide for any conformity of the regulatory and tax treatment of
interest on non accrual loans that have not been classified as loss assets.83 Indeed, as the
proposed conformity election amendment to the bad debt regulation makes clear, absent a
specific charge-off order, the conclusive presumption under section 166 does not extend even
82See Georgia Schoolbook Depository v. Commissioner; Koehring Company v. United
States; and Union Pacific Railroad Company v. Commissioner, note 30, &!P!Jl.
83Rev. Rul. 81-18, 1981-1 C.B. 295, involved the charge-off of interest on a loan that was
earned but uncollected for a period in excess of 90 days. At the time of the charge-off, FHLBB
regulations required that such interest be classified and accounted for as uncollectible income.
See 12 C.F.R. § 563c.l1 (1978). The ruling found that the cited regulation established a policy
to which the conclusive presumption of Treas. Reg. § 1. 166-2(d) applied, and held that the
interest charged off as uncollectible that had already been accrued was deductible under section
166 and that interest that had not yet been reported in income need not be accrued. No other
federal regulator of depository institutions has pIiomulgated such a regulation, and 12 C.P.R. §
563c.ll has been withdrawn, effective January 1, 1989. ~ 53 Fed. Reg. 337 (1988). Rev.
Rut. 81-18 is therefore obsolete.
- 27 -
to regulatory charge-offs that are not made as a consequence of the classification of an asset as
a loss asset. 84 In considering whether it would be desirable to depart from current law by
providing a presumption that interest on loans placed in nonaccrual status for regulatory purposes
be considered uncollectible for purposes of section 61 and section 451, we look to the policy
basis on which rests our support of the conformity rule in the case of determining the
worthlessness of debts.
Whether conformity of tax and regulatory accounting in the case of nonaccrual loans is
desirable tax policy depends on the criteria used by regulators in determining that interest income
should not be accrued for regulatory accounting purposes. These criteria should approximate
the criteria that would be required under the Internal Revenue Code to conclude that interest
income should not be included in taxable income.
In determining whether a conclusive presumption for nonaccrual loans is appropriate, the
relevant questions are (1) whether the regulatory definition of a nonaccrualloan is compatible
with the tax definition of interest that may be omitted from an accrual method taxpayer's
income; (2) whether the factual basis for a regulatory finding that a loan should be in nonaccrual
status comports with the facts and circumstances that justify the nonaccrual of interest for tax
purposes; and (3) whether the regulator's assessment of the appropriateness of ceasing to accrue
interest is a satisfactory substitute for the judgment of a tax auditor.
The definition of a nonaccrual loan for regulatory purposes is one that is delinquent in
interest or principal payments for some stated period (unless it is fully secured or guaranteed or
in the active process of collection). Bank examiners require loans to be placed in nonaccrual
status to avoid overstatement of the bank's current income, not necessarily to reflect a judgment
as to their ultimate collectibility. By contrast, the definition of interest that a lender may omit
from accrued income for tax purposes is interest the ultimate collectibility of which is in doubt.
Nonaccrual of interest in this context is a recognition that the value of the right to income held
by the lender when the interest comes due may never be realized and therefore should not be
taken into account for tax purposes. Thus, there is not the comparability of basic definitions that
is present in the case of the conclusive presumption of worthlessness of debts under section 166.
Given the differences in the basic definitions, it is not surprising that the factual basis that
underlies classification as a nonaccrual loan for regulatory purposes also differs from the facts
required to support nonaccrual of interest for tax purposes. Loans are placed in nonaccrual
status for regulatory purposes on the basis of delinquency in principal or interest payments that
extends beyond a certain period, usually 90 days. The 90-day threshold does not apply,
however, to consumer loans and certain residential mortgage loans. The formulation of a
nonaccrual policy with respect to these types of loans is left to the individual institution. For
84This is consistent with the principles of RfYV. Rul. 84-95, cited at note 16, supra, holding
that the presumption encompasses only those charge-offs that are based on bad debt criteria
under section 166.
- 28 tax purposes, because ultimate uncollectibility is the standard for nonaccrual, delinquency alone
would not justify the omission of unpaid interest from income.
Finally, it appears that the judgments made in accordance with the regulatory standards
governing nonaccrual would not provide an adequate substitute for the judgment of a revenue
agent regarding whether the interest from such a loan must be included in income. The
regulatory standards governing the classification of nonaccrual loans lack the uniformity of
standards that is present in the classification of loss assets. Because individual institutions are
free to set their own nonaccrual policies with regard to consumer loans and certain residential
mortgage loans, standards for such loans may vary from institution to institution. In those cases,
a conformity rule would tie tax treatment to a regulatory standard that cannot be readily
identified.
In light of these factors, the Treasury Department has concluded that it is not appropriate
to adopt a conclusive presumption that accrued but unpaid interest on loans that are placed in
non accrual status for regulatory purposes be considered uncollectible for tax purposes.
IV. STANDARDS FOR UNREGULATED INSTITUTIONS
In addition to the depository institutions that are the subject of Part ITI of this study, there
are a great many nondepository providers of consumer financial services. These companies
range from independently owned consumer finance offices to very large financial services and
retail and automobile companies and hold approximately one quarter of all consumer credit debt
outstanding in the United States.
These nondepository institutions resemble regulated lenders in a number of ways. They
typicall y hold large portfolios of homogeneous loan receivables. Like large banks, they are not
permitted to use the reserve method in computing the deduction for bad debts. As a
consequence, they face similar difficulties in evaluating the quality of the assets in their
portfolios on a loan-by-Ioan basis for purposes of determining their bad debt deductions. But
because they are not subject to the regime of state and federal regulation that governs depository
institutions, the conclusive presumption allowing conformity of tax and book treatment of
worthless debts is not available to them. Therefore, in the absence of the reserve method, these
taxpayers must use the specific charge-off method for deducting worthless debts and support
such deductions with "all pertinent evidence" if challenged by the Internal Revenue Service.
In view of many similarities between these unregulated lenders and depository institutions
and the burdens imposed by the loan-by-Ioan analysis required under the specific charge-off
method, it is worthwhile to consider whether such lenders should have some sort of book/tax
conformity rule comparable to the conformity rule now available to banks and thrifts.
As discussed at page 23 above, excessive charge-offs under the conformity rule are
restrained by the very real tension that exists between the tax benefits resulting from the chargeoffs and the adverse effects such charge-offs would have on an institution's regulatory rating and
depositor confidence. In considering whether some type of conformity rule would be appropriate
for the worthless debts of unregulated lenders, an important factor is whether, in the absence
of federal regulatory requirements, there would be some comparable restraint on overly
aggressive charge-off policies.
Recoveries on bad debts must be included in income, hence a lender's net deductions for
bad debts over time will not exceed the amount of debts that are not repaid, regardless of how
aggressive the taxpayer's charge-off policy may be. Nevertheless, a deduction taken in an early
year on a loan on which recovery is realized (and taken into income) in some later year has the
effect of deferring tax on the amounts recovered for the period between the year of charge-off
and the year of recovery. This deferral can have serious revenue consequences. The effects of
such deferral are exacerbated during periods of declining tax rates and high interest rates.
It has been suggested that unregulated lenders are effectively discouraged from taking an
overly aggressive charge-off position by administrative and record keeping considerations, the
disincentive effect that charge-offs have on collection efforts and the negative impact of chargeoffs on book income. In many cases these con~ms may not be an adequate substitute for the
- 29 -
- 30 oversight of federal and state regulators and the watchfulness of depositors. Accordingly, the
Treasury Department does not believe that a conclusive presumption that would permit
unqualified conformity of book and tax treatment is appropriate. Some additional governor on
the timing of charge-offs is needed to protect the fisc.
Described below are several approaches that might be considered in developing a proxy for
regulatory oversight that would address these concerns: (1) a "look-back" approach; (2) an
"identical standards" approach; and (3) a "recovery rate safe harbor" approach.
The "look-back" approach
One way of assuring that the fisc is not disadvantaged by taxpayers' charge-off policies is
to permit charge-offs at any time, but to require that the government be made whole for any loss
it suffers as a consequence of the erroneous (in hindsight) Charge-off. 85 Under this look-back
approach, recoveries would be taxed at no less than the marginal rates at which the deduction
reduced tax in the year of the charge-off and an interest charge would be imposed on the taxes
deferred from the year of deduction until the year of recovery.
Because the government would ultimately be receiving the "right" amount, regardless of the
year of the charge-off, the look-back approach would effectively eliminate timing concerns
regarding excessive charge-offs. Nevertheless, we are aware that the look-back approach would
require lenders to track the vintages of their loans and perform interest and other tax
calculations. For lenders holding large numbers of relatively small loans, the recordkeeping
requirements of this approach could well outweigh the benefits.
The "identical standards" approach
The identical standards approach would look to the standards for worthlessness applied to
consumer debt held by regulated institutions and would grant a conclusive presumption of
worthlessness for similar debts of an unregulated lender that are charged off according to
85For an analysis of this approach, see Committee on Income Management of the American
Taxation Association, "A Time Value of Money Approach to Bad Debts," 40 Tax Notes 1075
(1988) and Crane, "Refining the Time Value Approach to Bad Debts, " 42 Tax Notes 803. The
look-back approach eliminates concerns relating to the timing of bad debt deductions. Although
the discussion of the look-back approach appears in the section of the study dealing with the
treatment of unregulated lenders, it would be equally efficacious if generally applied to all
taxpayers, including regulated lenders.
The look-back approach would not solve the,problem of premature charge-off of loans that
ultimately become uncollectible. The Treasury Department believes that the combination of
administrative efficiency and revenue protection that would result from the look-back approach
would compensate for losses attributable to that problem.
- 31 identical standards. Under this approach, a consumer installment loan held by a finance
company would be conclusively presumed to be worthless for purposes of section 166 if it (1)
had been delinquent for 120 days or more in the case of a closed-end installment loan or 180
days or more in the case of an open-end installment loan, and (2) had been written off as
uncollectible for financial reporting purposes in accordance with the taxpayer's established policy
set forth in the taxpayer's audited financial statements. These thresholds for determining
worthlessness mirror the regulatory standards applied by the oee in determining whether
consumer installment loans, credit card plans and check credit are loss assets. 86
For purposes of the proposed presumption, "finance companies" would include companies
that derive 80 percent or more of their gross income from the business of making consumer
loans. "Consumer installment loans" would generally include loans or lines of credit calling for
monthly payments of principal and interest that have been extended to individuals for household
or personal expenditures. Loans or lines of credit either secured by collateral in the possession
of the lender or secured by real estate would not be treated as consumer installment loans for
this purpose because of the likelihood that the lender will recover a substantial portion of such
loans even if amounts are uncollectible from the debtor.
The identical standards approach is appealing in that it adopts identifiable objective standards
for determining worthlessness and seeks to create parity between the treatment of regulated and
unregulated lenders with respect to similar types of loans. A drawback of this approach,
however, is that any Internal Revenue Service audit of compliance with the conditions required
for eligibility for the conclusive presumption would require the loan-by-loan review that the
conclusive presumption is intended to eliminate. That is, there would be no way to confirm that
the debts charged off satisfied the requisite delinquency periods short of a review of the
individual debt histories. Administrative efficiency, one of the major benefits of conformity,
could therefore be substantially reduced. Nevertheless, we believe the substance of this proposal
may provide a promising basis for the development of a workable conformity rule and would
have an insignificant revenue effect. 87
The "recovery rate safe harbor" aru>roach
The recovery rate safe harbor approach is based on the premise that the most reliable
measure of the validity of a lender's charge-off policies is its own recovery rate on charged~ff
loans. This approach would take into account the fact that unregulated lenders, as a group,"do
not apply uniform criteria in charging off loans. Loans may be charged off at various stages
of
86See discussion at pages 13-14, above. To maintain the desired parity with regulated
institutions, the criteria for worthlessness would have to be adjusted to take account of changes
in the regulatory debt classification criteria.
87We estimate that this approach would produce a revenue loss of less than $50 million over
five years.
- 32 -
delinquency (90 - 180 days), on the occurrence of certain events or conditions, on foreclosure
or repossession, or upon the sale of repossessed or foreclosed collateral. Because such lenders
may evaluate the effectiveness of their particular charge-off standards by monitoring the level
of their bad debt recoveries, it has been suggested that a conclusive presumption limited by safe
harbor recovery rates is appropriate.
Under this approach, holders of high-volume homogeneous receivables and loans would
enjoy a rebuttable presumption that both partially and wholly worthless debts that are written off
for book purposes are worthless debts for purposes of section 166. This presumption would
become conclusive if a taxpayer met a safe harbor under which the taxpayer's average recoveries
over the six-year period up to and including the taxable year of the claimed chargeoff did not
exceed 25 percent of average charge-offs for the same six-year period. If the safe harbor were
not met, the Service could rebut the presumption by applying a facts and circumstances test on
a loan-by-Ioan basis. A pure facts and circumstances test would remain available for taxpayers
whose particular circumstances may make book conformity inappropriate.
The effectiveness of this proposal depends very heavily on the precision with which the
appropriate safe harbor percentage could be determined. Based on the experience of a sample
of the unregulated lending industry, it appears that the determination of the proper percentage
should take into account a number of factors. First, there are disparities in average recovery
rates, depending on the type of loan outstanding. The average recovery rate on car loans for
the 1985-1989 period, for example, has been approximately 12 percent. This is substantially
lower than the average rate for unsecured personal loans (15.5 percent), which is lower than the
average rate for consumer installment loans (17.4 percent). There are also disparities in
recovery rates, depending on the size of the lender; companies with over $1 billion in assets
have lower average recovery rates than companies under that threshold. Because large
companies experience lower recovery rates, the averages stated above represent a very broad
range of rates experienced by the industry as a whole. For example, although the average
recovery rate on automobile loans is 12 percent, rates for some lenders on such loans are in the
50-60 percent range. Similar patterns are present in the case of personal loans and consumer
installment loans.
Given the disparities in unregulated lenders' experience, the benefits of the adoption of a
single 25 percent safe harbor rate would fall unevenly on lenders, depending on the type of debt
they hold and their size. It would also provide significant flexibility in charge-off policies, and
accompanying income management opportunities, for companies whose historical experience has
been substantially below the 25 percent safe harbor rate. At the same time, fashioning and
administering multiple safe harbor rates based on loan type would introduce unacceptable
complexity into an approach designed to provide simplicity and administrability. Based on the
available data, it appears that a 25 percent safe harbor recovery rate would provide a conclusive
- 33 presumption for a substantial majority of unregulated lenders. It would also have measurable
revenue consequences. 88
Although we are not persuaded that recovery rates alone provide an effective basis for a
conformity rule, we believe they do provide a useful measure of the validity of charge-off
policies. Accordingly, should Congress enact a conformity proposal for unregulated lenders,
we believe that the benefit of the conformity rule that would be provided by the identical
standards approach should be limited to those lenders whose recovery rates do not exceed a
prescribed recovery rate ceiling. Were the recovery rate limit and identical standards approaches
combined as suggested, the revenue loss arising from adoption of such a proposal would be
negligible. 89
88We estimate that the proposal would produce a revenue loss of between $35-$100 million
over five years. This revenue estimate includes consumer credit held by finance companies and
excludes debt held by retailers and gasoline compabies.
89The revenue loss for this proposal would be slightly less than the revenue loss resulting
from the identical standards approach. See footnote 87.
v.
CONCLUSION
As stated above, proposed regulations are pending to implement the Treasury Department's
conclusions concerning needed changes in the longstanding regulatory conformity rules for
banks. Extension of the conformity rules to unregulated lenders would be a significant departure
from settled policy and practice. We believe that extension of the conformity rule to unregulated
lenders is a question for the Congress and should not be resolved by unilateral regulatory action.
- 35 -
APPENDIX
lllustration of Economic and Tax Accounting
for Loan Portfolios with Loan Losses
A. Accounting for loan losses
Table 1 illustrates the pricing of a loan portfolio which includes a risk premium in the
contract interest rate to cover the lender's expected loan losses using a hypothetical portfolio of
loans, each with the same contractual terms. Assume that the lender expects complete contract
fulfillment -- receipt of four payments of $126.80 and one payment of $1,126.80 -- for 85
percent of the loans (Class A loans). The lender also expects that five percent of the contracts
will pay $126.80 per year for Years 1 and 2, $25.36 per year for Years 3 and 4, and $1,025.36
for Year 5 (Class B loans); five percent of the loans will pay full interest in Year 1 and default
at the end of Year 2, leading to a realization of $100 of principal (Class C loans); and five
percent of the loans will default in Year 1 with $200 realized (Class D loans). With these
expectations and a 10 percent market rate of interest, the lender would set the contract interest
rate at 12.68 percent to be assured that he will earn 10 percent on a portfolio of loans, with 2.68
percentage points constituting his risk premium. 90 Table 1 shows the stream of payments for
this portfolio. With this risk premium included in the contract, the lender would be willing to
pay $1,000 for a portfolio with a $1,000 principal.
B. Taxation of income from a portfolio with early loan losses
Table 2 shows the calculation of economic income for the portfolio described in Table 1 and
demonstrates that the taxation of economic income does not change the value of the portfolio and
thus does not distort investment choices. The income of the lender is the sum of the payments
received from the borrower, whether characterized as principal or interest, and the change in
the market value of the portfolio. During the first holding period (Year 1), the economic income
is $100 ($130.46 - $30.46). The value of the portfolio in each year is the present discounted
value of the future expected cash flows. 91 As noted in Table 2, the present discounted value
of the portfolio before and after taxes is the same ($1,000). The price of the portfolio is
unaffected by taxation, because when the annual decline in the value of the portfolio is used to
901n order to identify the risk premium, it is assumed that there is no market risk attributable
to changes in overall economic conditions, or changes over time in factors specifically related
to the risk characteristics of the loans in the portfolio.
91The lender's after-tax discount rate (6.6 percent) is used to discount the after-tax cash
flows.
- 37 -
- 38 -
Table 1
Illustration of the Pricing of a Loan Portfolio
Principal
$1,000.00
Contract Rate (percent)
12.68
Discount Rate (percent)
10.00
Fraction
of Loan
Class in
Portfolio
Year 0
Year 1
Year 2
Year 3
Year 4
Year 5
Payments received on
loans in each class
per $1,000 of loan principal
Class
Class
Class
Class
A Loans
B Loans
C Loans
D Loans
0.85
0.05
0.05
0.05
$126.80
126.80
126.80
200.00
$126.80
126.80
100.00
0.00
$126.80
25.36
0.00
0.00
$126.80 $1,126.80
25.36 1,025.36
0.00
0.00
0.00
0.00
0.85
0.05
0.05
0.05
107.78
6.34
6.34
10.00
107.78
6.34
5.00
0.00
107.78
1.27
0.00
0.00
107.78
1.27
0.00
0.00
957.78
51.27
0.00
0.00
130.46
119.12
109.05
109.05
1,009.05
Payments received on loan
portfolio per $1, ()()() of
portfolio principal 1
Class
Class
Class
Class
A Loans
B Loans
C Loans
D Loans
Total payments
Present value
$1,000
lPayments shown are the weighted average of loan payments for each loan class, weighted
by the share of each loan class in the portfolio.
- 39 -
Table 2
illustration of Economic and Tax Accounting for the Loan Portfolio With Early Loan Losses 1
Year 0
1. Total payments 1
Yearl
Year 2
Year 3
Year 4
YearS
$130.46
$119.12
$109.05
$109.05
$1,009.05
969.54
30.46
100.00
34.00
96.46
947.37
22.17
96.95
32.96
86.16
933.06
14.31
94.74
32.21
76.84
917.32
15.74
93.31
31.72
77.32
0.00
917.32
91.73
3l.19
977.86
1,000.00
120.46
120.46
950.00
114.12
114.12
900.00
114.12
109.05
905.07
114.76
109.05
910.79
109.05
109.05
40.00
80.46
27.36
103.10
45.00
69.12
23.50
95.62
0.00
114.12
38.80
70.25
0.00
114.76
39.02
70.03
10.79
98.26
33.41
975.64
20.53
60.53
59.93
20.38
110.08
19.50
43.97
70.15
23.85
95.27
18.48
-1.03
115.15
39.12
69.90
18.58
0.10
114.66
38.98
70.06
18.70
10.90
98.14
33.37
975.68
ECONOMIC ACCOUNTING:
2.
3.
4.
5.
6.
7.
Before tax value2
Decline in value='
Economic income [(1)-(3)]
Income tax [(4)x.34]
After-tax payments [(1)-(5)]
Present value after tax4
$1,000.00
1,000.00
TAX ACCOUNTING: 6
8. Beginning principal7
9. Interest accrued 8
10. Interest received 1
Charee-Off Method:
11.
12.
13.
14.
15.
Deduction9
Taxable income [(10)-(12)]
Income tax [(13)x.34]
After tax payments [(1)-(14)]
Present value after tax4
1,001.85
Reserve Method:
16.
17.
18.
19.
20.
21.
0.00
Ending reserve10
Deduction (addition to reserve)ll
Taxable income [(10)-(19)]
Income tax [(20)x.34]
After tax payments (1)-(21)]
1,007.86
Present value after tax4
- 40Table 2 (continued)
lThe amounts shown are based upon the loan portfolio shown on Table 1.
2present value of remaining future payments shown on line (1).
3Difference between the before-tax value (line 2) for the current year and the previous year.
"Present value of after-tax payments (line 6) discounted at the lender's after-tax rate of return (6.6
percent).
SRatio of the present value of the tax payments (lines 5, 13, or 19) to the present value of the
economic income (line 4).
6
Assumes that the taxpayer uses the accrual method of accounting.
7Nominal principal less loans retired plus additions to principal attributable to interest accrued but not
received.
8Beginning principal (line 8) multiplied by the contract rate of interest (12.68 percent).
9J...oss of principal defaults during the year.
10R,eserve fraction multiplied by loans outstanding at end of prior year (line 8). The reserve fraction
was estimated by dividing the sum of loan losses (line 11) by the sum of loans outstanding (line 8) for
Years 1 through 5.
llThe sum of the loss and the excess of the ending reserve the reserve for the prior year. Total
deductions appear to exceed the losses shown in line 11 because deductions in excess of actual losses
are not fully recaptured until all loans outstanding mature or default.
- 41 compute taxable income, the lower after-tax payments received are offset by the lower discount
rate used to evaluate these reduced cash flows.
Under the specific charge-off method, a taxpayer may generally take a bad debt deduction
with respect to a loan (or part of a loan) in the year that it becomes worthless. Table 2
demonstrates the application of the specific charge-off method by an accrual method taxpayer
to the $1,000 loan portfolio described in Table 1. In Year 1, Class D loans default. The
borrowers pay no interest and only $10.00 of the $50.00 principal owed. The lender deducts
the $40.00 of unpaid principal. In Year 2, Class C loans default. The lender receives no
interest, receives $5.00 of the $50.00 principal due, and deducts $45.00 of unpaid principal.
For Years 3 through 5, Class B loans pay $1.27 of interest. The interest accrued but not
received ($5.07) is included in the lender's income each year and added to the principal of the
loan, in effect extending more credit to the borrower. In Year 5, the lender deducts the increase
in principal attributable to accrued but un received interest.
In this example, the present value of the after-tax cash flows from the portfolio of
investments exceeds the present value of the before-tax cash flows, because the lender has
deducted defaulted amounts before he has taken into income payments reflecting the risk
premium charged on all loans. As a result of this mismatch, the value of the loan contract
increases from $1,000.00 (before tax) to $1,001.85 (after tax). Because the pre-tax and after-tax
portfolio values differ, investment decisions are likely to be distorted.
Table 2 also illustrates the effect of the reserve method for an accrual method taxpayer. The
reserve method allows a deduction for the amount necessary to produce the appropriate reserve
balance. Based upon the lender's historical experience with loan losses, which is assumed to
be identical to the expected losses for the portfolio illustrated in Table 1, the lender would
maintain an end-of-year reserve equal to 2.053 percent of his outstanding loans at the beginning
of the year.92 In Year 1, the lender would be permitted a deduction of $60.53, the sum of the
excess of the ending reserve ($20.53) over the ending reserve for the prior year ($0) and the loss
incurred during the year ($40.00). In Year 2, the lender charges the loss of principal on Class
C loans ($45.00) against the $20.53 reserve balance at the beginning of the year. The lender
would be permitted a bad debt deduction of $43.97, the amount needed to restore the reserve
balance to $19.50. 93 In Years 3 and 4, the lender adds the accrued but unreceived interest on
Class B loans to the principal of the loan, in effect extending more credit to the borrower. In
92The reserve fraction was estimated by dividing the sum of loan losses determined under
the charge-off method (line 11) by the sum of loans outstanding (line 8) for the five years shown
on Table 2. In actual practice, a moving average rather than a fixed average is used, but this
should not have an appreciable effect on the results shown.
l
93The tax deduction is the sum of the loss ($45.00) and the excess of the ending reserve
($19.50) over the ending reserve for the prior year ($20.53).
- 42 Year 5, the additional principal attributable to the accrued but unreceived interest payments are
charged against the reserve.
Under the reserve method, the present value after-tax of the loan portfolio exceeds its pretax value ($1,007.86 v. $1,000.00). The disparity between the after-tax value of the loan
portfolio and its pre-tax value is greater under the reserve method than under the charge-off
method, because the mismatch between the time the deductions attributable to loan losses are
taken and the time the risk premium is included in income is more extreme under the reserve
method. 94
Table 3 compares economic and taxable income for the loan portfolio shown on Table l.
The charge-off and reserve methods defer income and tax liability, because the recognition of
income attributable to the risk premium covering the expected losses tends to be deferred relative
to the deduction associated with the loss. Under the reserve method the present value of the
deferred income and tax liability are larger than under the charge-off method--$7. 87 under the
reserve method and $1.86 under the charge-off method. 9S These deferred tax liabilities account
for the increase in the after-tax values of the loan portfolio over its pre-tax value shown on Table
2.
C. Effect of loan losses late in the life of the contract
The example described above shows that both the charge-off and reserve methods favor a
loan portfolio characterized by early defaults. This section illustrates the effects for an
alternative portfolio where defaults occur late in the life of the loans. It shows that the taxation
of economic income does not affect the price of the portfolio, whereas the charge-off and reserve
methods may favor or disadvantage a portfolio with late loan losses.
In this example, shown on Table 4, Class A loans (85 percent of the total) fulfill the terms
of the contract -- four payments of $122.73 and a fifth payment of $1,122.73. Class B loans
five percent of the total) pay the full amount of interest $122.73 for Years 1 and 2 and $24.55
94The calculations in Table 2 assume that the taxpayer continues to acquire in future years
a loan portfolio with the same characteristics as the portfolio illustrated in Table 1, and thus was
able to establish a loss reserve at the end of Year 5 of $18.70. Were it instead assumed that the
taxpayer discontinues his lending operations and thus reduces the loss reserve to zero, the aftertax value of the portfolio would be $1,003.27. Even in this extreme case the reserve method
is more distortionary than the charge-off method.
95Total deductions under the reserve method will appear to exceed total deductions under the
charge-off method, because the excess deductions under the reserve method are not fully
recaptured until all loans outstanding mature or default.
- 43 -
Table 3
Income and Tax Deferral for the Loan Portfolio With Early Loan Losses l
Year 0
1. Economic income2
Year 1
Year 2
Year 3
Year 4
Year S
$100.00
$96.95
$94.74
$93.31
$91.73
80.46
19.54
6.64
69.12
27.83
9.46
114.12
-19.38
-6.59
114.76
-21.46
-7.30
98.26
-6.53
-2.22
59.93
40.07
13.62
70.15
26.81
9.11
115.15
-20.41
-6.94
114.66
-21.35
-7.26
98.14
-6.41
-2.18
Charge-Off Method: 3
2.
3.
4.
5.
Taxable income4
Deferred income [(1)-(2)]
Deferred tax [(3)x.34]
Present value of
deferred taxS
$1.86
Reserve Method: 3
6.
7.
8.
9.
Taxable income6
Deferred income [(1)-(6)]
Deferred tax [(7)x.34]
Present value of
deferred taxS
7.87
IThe amounts shown are based upon the $1,000 loan portfolio shown on Table 1.
2Line 4 from Table 2.
3Assumes the taxpayer uses the accrual method. of accounting.
4Line 12 from Table 2.
sPresent value of the deferred taxes shown on the preceding line discounted at the lender's
after-tax discount rate (6.6 percent).
6Line 18 from Table 2.
- 44-
Table 4
Illustration of the Pricing of a Loan Portfolio With Late Loan Losses
Fraction
of Loan
Class in
Portfolio
Year 0
Year 1
Year 2
Year 3
Year 4
Year 5
0.85
0.05
0.05
0.05
$122.73
122.73
122.73
0.00
$122.73
122.73
0.00
0.00
$122.73
24.55
0.00
450.00
$122.73
24.55
295.00
0.00
$1,122.73
1,024.55
0.00
0.00
0.85
0.05
0.05
0.05
104.32
6.14
6.14
0.00
104.32
6.14
0.00
0.00
104.32
1.23
0.00
22.50
104.32
1.23
14.75
0.00
954.32
51.23
0.00
0.00
116.59
110.45
128.04
120.29
5.54
Payments received on loans
in each class per $1, ()Q()
of loan principal
Class
Class
Class
Class
A Loans
B Loans
C Loans
D Loans
Payments received on loan
portfolio per $1, ()Q() of
portfolio principal1
Class
Class
Class
Class
A Loans
B Loans
C Loans
D Loans
~otal
payments
'resent value
$1,000
IPayments shown are the weighted average of loan payments for each loan class, weighted by
the share of each loan class in the portfolio.
- 45 per year for Years 3 through 5, and the full principal ($1,000) in Year 5. Class C loans (five
percent) pay the full amount of interest for Year 1, no interest for years 2 and 3, and default in
year 4. The lender recovers $295 of the $1,000 principal owed. Class D loans pay no interest
for Years 1 and 2 and default in Year 3. The lender recovers $450 of the principal in Year 3.
Assuming that the lender would earn 10 percent on alternative investments, he would set the
contract interest rate at 12.213 percent, -for which 2.273 percentage points constitute the lender's
risk premium. With this risk premium included in the contract, the lender would be willing to
pay $1,000 for a portfolio with a $1,000 principal.
Table 5 shows the economic and tax accounting for the loan portfolio shown on Table 4.
The taxation of economic income recognizes declines in the value of the portfolio in the early
years attributable to accrued but unreceived interest and the late loan defaults. Under the
charge-off method, such declines in the value of the portfolio are not recognized until the loans
default (Years 3 and 4). Thus, under the charge-off method the value of the portfolio declines
from a pre-tax value of $1,000.00 to an after-tax value of $998.25. Since the reserve method
recognizes losses attributable to the late defaults in the year of origination, the value of the
portfolio increases from $1,000.00 (before tax) to $1004.24 (after tax).
Table 6 shows the unrecognized income and losses under the charge-off and reserve methods
for the portfolio with late loan losses. Taxable income under the charge-off and reserve methods
is higher than economic income in the early years of the contract and lower in the later years.
However, taxable income under the reserve method is lower than taxable income under the
charge-off method. The reserve method permits a deduction in the year of origination for
defaults that occur late in the life of the contract in addition to deductions allowed under the
charge-off method. Thus, the present value of the deferred tax liability under the charge-off
method reduces the value of the portfolio relative to its pre-tax value by $1.75. Under the
reserve method, the present value of the deferred taxes increases the value of the portfolio by
$4.24.96
96Table 5 assumes that the taxpayer contindes to acquire a loan portfolio in the future that
has the same characteristics as the portfolio shown on Table 4. Alternatively, if the taxpayer
were assumed to discontinue his lending activities and thus reduce his ending reserve in Year
5 to zero, the after-tax value of the portfolio would be $999.70.
- 46-
Table S
Illustration of Economic and Tax Accounting for the Loan Portfolio With Late Loan Losses
Year 0
1. Total payments 1
Year!
Year 2
Year 3
Year 4
Year 5
$116.59
$110.45
$128.04
$120.29
$1,005.54
983.41
16.59
100.00
34.00
82.59
971.30
12.11
98.34
33.44
77.02
940.39
30.91
97.13
33.02
95.02
914.13
26.25
94.04
31.97
88.32
0.00
914.13
91.41
31.08
974.46
1,000.00
122.73
116.59
1,006.14
123.48
110.45
1,019.16
117.34
105.54
967.94
111.06
105.54
910.42
105.54
105.54
0.00
122.73
41.73
74.86
0.00
123.48
41.98
68.47
40.53
76.82
26.12
101.93
48.28
62.78
21.34
98.95
10.42
95.12
32.34
973.20
0.00
20.23
102.49
34.85
81.74
20.23
0.12
123.35
41.94
68.51
20.36
40.79
76.55
26.03
102.02
20.62
47.24
63.82
21.70
98.60
19.59
9.26
96.29
32.74
972.81
ECONOMIC ACCOUNTING:
2.
3.
4.
5.
6.
7.
Before tax value2
Decline in valu~
Economic income [(1)-(3)]
Income tax [(4)x.34]
After-tax payments [(1)-(5)]
Present value after tax4
$1,000.00
1,000.00
TAX ACCOUNTING: 6
8. Beginning principal'
9. Interest accrued8
10. Interest received1
Char&e-Off Method:
11.
12.
13.
14.
15.
Deduction9
Taxable income [(10)-(12)]
Income tax [(13)x.34]
After tax payments [(1)-(14)]
Present value after tax4
998.25
Reserve Method:
16.
17.
18.
19.
20.
21.
Beginning reserve10
Deduction (addition to reserve)l1
Taxable income [(10)-(19)]
Income tax [(20)x.34]
After tax payments [(1)-(21)]
1,004.24
Present value after tax4
- 47 -
Table 5 (continued)
lThe amounts shown are based upon the loan portfolio shown in Table 4.
2J7esent value of remaining future payments shown on line (1).
3Difference between the before-tax value (line 2) for the current year and the previous year.
"Present value of after-tax payments (line 6) discounted at the lender's after-tax rate of return (6.6
percent).
'Ratio of the present value of the tax payments (lines 5, 13, or 19) to the present value of the
economic income (line 4).
6Assumes that the taxpayer uses the accrual method of accounting.
'Nominal principal less loans retired plus additions to principal attributable to interest accrued but not
received.
BJ3eginning principal (line 8) multiplied by the contract rate of interest (12.68 percent).
~ss
of principal defaults during the year.
l~eserve
fraction multiplied by loans outstanding at end of prior year (line 8). The reserve fraction
was estimated by dividing the sum of loan losses (line 11) by the sum of loans outstanding (line 9) for
Years 1 through 5.
llThe sum of the loss and the excess of the ending reserve the reserve for the prior year. Total
deductions appear to exceed the losses shown in line 11 because deductions in excess of actual losses
are not fully recaptured until all loans outstanding mature or default.
- 48 -
Table 6
Income and Tax Deferral for the Portfolio With Late Loan Losses 1
Year 0
1. Economic income2
Year 1
Year 2
Year 3
Year 4
Year 5
$100.00
$98.34
$97.13
$94.04
$91.41
122.73
-22.73
-7.73
123.48
-25.14
-8.55
76.82
20.31
6.91
62.78
31.26
10.63
95.12
-3.71
-1.26
102.49
-2.49
-0.85
123.35
-25.01
-8.50
76.55
20.58
7.00
63.82
30.22
10.28
96.29
-4.87
-1.66
Charge-Off Method: 3
2.
3.
4.
5.
Taxable income4
Deferred income [(1)-(2)]
Deferred tax [(3)x.34]
Present value of
deferred taxS
$-1.75
Reserve Method: 3
6.
7.
8.
9.
Taxable income6
Deferred income [(1)-(2)]
Deferred tax [(3)x.34]
Present value of
deferred taxS
4.24
IThe amounts shown are based upon the $1,000 loan portfolio shown on Table 4.
2Line 4 from Table 5.
3Assumes the taxpayer uses the accrual method of accounting.
4Line 12 from Table 5.
sPresent value of the amounts shown on the prkeding line discounted at the lender's after-tax
discount rate (6.6 percent).
6Line 18 from Table 5.
TREASURY'RA'
531WS
o.
I...artmant
til. Traasurw •
FOR RELEASE AT 2:30 P.M.
September 17, 1991
wasiil~itlcJ. ..'.
Te.ellhone 5&&-204
E~ETafficiYOf Financing
.
202/376-4350
TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice,
invites tenders for two series of Treasury bills totaling approximately $21,200 million, to be issued September 26, 1991. This
offering will provide about $2,925 million of new cash for the
Treasury, as the maturing bills are outstanding in the amount
of $18,263 million. Tenders will be received at Federal Reserve
Banks and Branches and at the Bureau of the Public Debt, Washington, D. C. 20239-1500, Monday, September 23, 1991,
prior to
12:00 noon for noncompetitive tenders and prior to 1:00 p.m.,
Eastern Daylight Saving time, for competitive tenders. The two
series offered are as follows:
91-day bills (to maturity date) for approximately
$10,600 million, representing an additional amount of bills
dated
June 27, 1991,
and to mature December 26, 1991
(CUSIP No. 912794 XS 8), currently outstanding in the amount
of $10,459 million, the additional and original bills to be
freely interchangeable.
182-day bills for approximately $ 10,600 million, to be
dated September 26, 1991, and to mature March 26, 1992,
(CUSIP
No. 912794 YF 5).
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their'par amount will
be payable without interest. Both series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be is§ued for c~sb and in exchange for
Treasury bills maturing September 26, 1991. In addition to the
maturing 13-week and 26-week bills, there are $10,630 million of
maturing 52-week bills. The disposition of this latter amount was
announced last week. Tenders from Federal Reserve Banks for their
own account and as agents for foreign and international monetary
authorities will be accepted at the weighted average bank discount
rates of accepted competitive tenders. Additional amounts of the
bills may be issued to Federal Reserve Banks, as agents for foreign
and international monetary authorities, to the extent that the
aggregate amount of tenders for such accounts exceeds the aggregate amount of maturing bills held by them. For purposes of determining such additional amounts, foreign and international monetary
authorities are considered to hold $1,529 million of the original
13-week and 26-week issues. Federal Reserve Banks currently hold
$ 1 , 759 million as agents for foreign and international monetary
authorities, and $6,002 million for their own account. These
amounts represent the combined holdings of such accounts for the
three issues of maturing bills. Tenders for bills to be maintained
on the book-entry records of the Department of the Treasury should
be submitted on Form PD 5176-1 (for l3-week series) or Form
PD 5176-2 (for 26-week se~i~s).
HQ-1458
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Paqe 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%.
Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished.
others are only permitted to submit tenders for their
own account.
Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
competitive tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.
1/91
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from anyone
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bids
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.
8/89
De.artment of the Tr•• surv • Washington, D.C•• Tala.hone 588-204'
EP 1~ j I , I I.. 3 4 6
FOR RELEASE AT 2:30 P.M.
September 18, 1991
EPT. Of THE THEASURY
CONTACT:
Office of Financing
202/219-3350
TREASURY TO AUCTION 2-YEAR AND 5-YEAR NOTES
TOTALING $22,250 MILLION
The Treasury will auction $13,000 million of 2-year notes
and $9,250 million of 5-year notes to refund $18,061 million
of securities maturing September 30, 1991, and to raise about
$4,200 million new cash. The $18,061 million of maturing securities are those held by the public, including $1,527 million
currently held by Federal Reserve Banks as agents for foreign
and international monetary authorities.
The $22,250 million is being offered to the public, and
any amounts tendered by Federal Reserve Banks as agents for
foreign and international monetary authorities will be added
to that amount. Tenders for such accounts will be accepted
at the average prices of accepted competitive tenders.
In addition to the public holdings, Federal Reserve Banks,
for their own accounts, hold $1,310 million of the maturing
securities that may be refunded by issuing additional amounts
of the new securities at the average prices of accepted competitive tenders.
Details about each of the new securities are given in the
attached highlights of the offe~ings and in the official offering circulars.
000
Attachment
NB-1452.
HIGHLIGHTS OF TREASURY OFFERINGS TO THE PUBLIC
OF 2-YEAR AND 5-YEAR NOTES TO BE ISSUED SEPTEMBER 30, 1991
September 18, 1991
Amount Offered to the Public
$13,000 million
Description of Security:
Term and type of security ..... . 2-year notes
Series and CUSIP designation .. . Series AF-1993
(CUSIP No. 912827 C4 2)
Maturity date ................. . September 30, 1993
Interest rate ................. . To be determined based on
the average of accepted bids
Investment yield .............. . To be determined at auction
Premium or discount ........... . To be determined after auction
Interest payment dates ........ . March 31 and September 30
Minimum denomination available . $5,000
Terms of Sale:
Method of sale ................ . Yield auction
Competitive tenders ........... . Must be expressed as
an annual yield, with two
decimals, e.g., 7.10%
Noncompetitive tenders ........ . Accepted in full at the average price up to $1,000,000
Accrued interest payable
by investor . . . . . . . . . . . . . . . . . . . . None
Payment Terms:
Payment by non-institutional
investors ...................... Full payment to be
submitted with tender
Deposit guarantee by
designated institutions
Acceptable
Key Dates:
Receipt of tenders .............
a) noncompetitive ..............
b) competitive .................
Settlement (final payment
due from institutions):
a) funds immediately
available to the Treasury
b) readi1y-co11ectib1e check
$9,250 million
5-year notes
Series T-1996
(CUSIP No. 912827 C5 9)
September 30, 1996
To be determined based on
the average of accepted bids
To be determined at auction
To be determined after auction
March 31 and September 30
$1,000
Yield auction
Must be expressed as
an annual yield, with two
decimals, e.g., 7.10%
Accepted in full at the average price up to $1,000,000
None
Full payment to be
submitted with tender
Acceptable
Tuesday, September 24, 1991
prior to 12:00 noon, EDST
prior to 1:00 p.m., EDST
Wednesday, September 25, 1991
prior to 12:00 noon, EDST
prior to 1:00 p.m., EDST
Monday, September 30, 1991
Thursday, September 26, 1991
Monday, September 30, 1991
Thursday, September 26, 1991
TREASURY NEWS
D_..artmant of the Tr.aSUIY • washington, D.C•• Tale.hone 588·2041
FOR RELEASE AT 2:30 P.M.
September 18, 1991
CONTACT:
Office of Financing
202/219-3350
TREASURY TO AUCTION 2-YEAR AND 5-YEAR NOTES
TOTALING $22,250 MILLION
The Treasury will auction $13,000 million of 2-year notes
and $9,250 million of 5-year notes to refund $18,061 million
of securities maturing September 30, 1991, and to raise about
$4,200 million new cash. The $18,061 million of maturing securities are those held by the public, including $1,527 million
currently held by Federal Reserve Banks as agents for foreign
and international monetary authorities.
The $22,250 million is being offered to the public, and
any amounts tendered by Federal Reserve Banks as agents for
foreign and international monetary authorities will be added
to that amount. Tenders for such accounts will be accepted
at the average prices of accepted competitive tenders.
In addition to the public holdings, Federal Reserve Banks,
for their own accounts, hold $1,310 million of the maturing
securities that may be refunded by issuing additional amounts
of the new securities at the average prices of accepted competitive tenders.
Details about each of the new securities are given in the
attached highlights of the offerings and in the official offering circulars.
000
Attachment
NB-14SCf.
HIGHLIGHTS OF TREASURY OFFERINGS TO THE PUBLIC
OF 2-YEAR AND 5-YEAR NOTES TO BE ISSUED SEPTEMBER 30, 1991
September 18, 1991
Amount Offered to the Public ... $13,000 million
$9,250 million
Description of Security:
Term and type of security ...... 2-year notes
Series and CUSIP designation ... Series AF-1993
(CUSIP No. 912827 C4 2)
Maturity date .................. September 30, 1993
Interest rate .................. To be determined based on
the average of accepted bids
Investment yield ............... To be determined at auction
Premium or discount ............ To be determined after auction
Interest payment dates ......... March 31 and September 30
Minimum denomination available. $5,000
5-year notes
Series T-1996
(CUSIP No. 912827 C5 9)
September 30, 1996
To be determined based on
the average of accepted bids
To be determined at auction
To be determined after auction
March 31 and September 30
$1,000
Terms of Sale:
Method of sale ................. Yield auction
Competitive tenders ............ Must be expressed as
an annual yield, with two
decimals, e.g., 7.10%
Noncompetitive tenders ......... Accepted in full at the average price up to $1,000,000
Accrued interest payable
by investor .................... None
Payment Terms:
Payment by non-institutional
investors . . . . . . . . . . . . . . . . . . . . . . Full payment to be
submitted with tender
Deposit guarantee by
designated institutions ........ Acceptable
Yield auction
Must be expressed as
an annual yield, with two
decimals, e.g., 7.10%
Accepted in full at the average price up to $1,000,000
None
Full payment to be
submitted with tender
Acceptable
Key Dates:
Receipt of tenders .............
a) noncompetitive ..............
b) competitive . . . . . . . . . . . . . . . . .
Settlement (final payment
due from institutions):
a) funds immediately
available to the Treasury
Tuesday, September 24, 1991
prior to 12:00 noon, EDST
prior to 1:00 p.m., EDST
Wednesday, September 25, 1991
prior to 12:00 noon, EDST
prior to 1:00 p.m., EDST
Monday, September 30, 1991
b) readi1y-co11ectib1e check
Thursday, September 26, 1991
Monday, September 30, 1991
Thursday, September 26, 1991
PUBLIC DEBT NEWS
Department of the Treasury • Bure~iB~f~~n\e(1~6b'f.Pslyl~ Washington, DC 20239
FOR IMMEDIATE RELEASE
September-19, 1991
;tp l 'j. Jl
(I
\
CONTACT: Office of Financing
~ 241 4
202-219-3350
RESULTS OF TREASURY'S AUCTION OF 52-WEEK BILLS
,,' T''"'EASURY
Tenders for $12,547 miii£brl ri~fr\ 52-week bills to be issued
September 26, 1991 and to mature September 24, 1992 were
accepted today (CUSIP: 912794YY4).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.25%
5.26%
5.26%
Investment
Rate
5.56%
5.57%
5.57%
Price
94.692
94.682
94.682
Tenders at the high discount rate were allotted 54%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Received
20,420
32,086,380
10,020
20,745
18,860
19,045
1,481,320
20,620
4,005
23,065
6,965
647,185
272,810
$34,631,440
Acce12ted
20,420
11,709,980
10,020
20,745
18,860
17,125
283,220
10,780
4,005
23,065
6,965
148,685
272,810
$12,546,680
Type
competitive
Noncompetitive
subtotal, Public
$31,641,300
560,140
$32,201,440
$9,556,540
560,140
$10,116,680
2,300,000
2,300,000
130,000
$34,631,440
130,000
$12,546,680
Federal Reserve
Foreign Official
Institutions
TOTALS
NB-1460
For Release Upon Delivery
Expected at 10:00 a.m. (12:00 EST)
September 20, 1991
REMARKS BY
JAMES H. FALL, III
DEPUTY ASSISTANT SECRETARY (DEVELOPING NATIONS)
DEPARTMENT OF THE TREASURY
BEFORE THE
U.S.-ROC ECONOMIC· COUNCIL'S JOINT BUSINESS CONFERENCE
SALT LAKE CITY, UTAH
It is a pleasure to speak again to this distinguished
audience, particularly in light of the lively discussion we had
last year in Taipei. In my remarks, I will focus on the current
state of financial relations between the united States and
Taiwan. My emphasis will be on the need for further
liberalization and internationalization in Taiwan's financial
sector. These developments are in Taiwan's interests.
The comments of all participants at this conference are made
against the backdrop of the historic events unfolding around the
world. Former one-party states have moved toward democracy,
borders and boundaries have been redrawn; newly-independent
countries are being created, and centrally-planned, command
economies are embracing capitalism. In short, freedom of choice
and the role of the market are becoming the key features which
characterize a major portion of the world economy.
These features are, of course, well-established in Taiwan.
However, as Taiwan's economy becomes a growing force in the
world, the nature of its economic and financial relations with
the rest of the world will increasingly be shaped by changes
elsewhere. New demands for capital and expanded investment and
trade opportunities have emerged from economic restructuring in
Eastern Europe and Latin America. These developments cannot be
lost on economic policy-makers everywhere. For Taiwan, major
opportunities, challenges, and sources of competition are
emerging.
NB-1461
- 2 -
It is axiomatic that these rapid changes demand that
industrialized and newly-industrializing economies assume
increased responsibilities. They must pursue policies that will
encourage growth and stability in the world economy, provide open
markets, and shape domestic policies that foster global
cooperation and openness. Economies with large imbalances in
saving relative to investment can best assume these
responsibilities by increasing investment in their
infrastructure, liberalizing their financial sectors and exchange
regimes, reducing barriers to trade and expanding the choices
available to consumers.
Taiwan's Growinq Role in the Global Economy
As its economic strength has grown, Taiwan has increasingly
broadened the scope of its foreign economic policy. Taiwan's
growing foreign aid program assists countries undertaking
economic restructuring, and in so doing, modestly reduces its own
global imbalances. Taiwan has offered assistance to countries
attempting to improve relations with the international financial
institutions. These efforts are helping certain developing
nations regain access to IMF, World Bank and Inter-American
Development Bank lending, which will set them more firmly on a
path of economic reform.
Many developing countries are at a stage of development
similar to Taiwan twenty years ago. The success that an outwardlooking economic development strategy has brought to Taiwan
should encourage other economies to move toward a more open,
market-based growth and development strategy. We welcome the
cooperation and example Taiwan has offered in this area.
However, the most constructive efforts Taiwan can make in
advancing this cooperative strategy lie in a concerted effort to
reduce its persistent trade and current account surpluses.
Taiwan has made some progress over the past several years, but
further improvement is still needed. The perennial imbalance in
trade between our two economies seems to be easing slightly,
although progress has come slowly. According to the most recent
data from Taiwan, its trade surplus with the u.s. has fallen by
more than 21 percent in the first eight months of this year
against the comparable period last year. Nevertheless, the
overall level of the bilateral imbalance is still unsustainable.
In addition, over the same period, Taiwan's global trade surplus
has actually increased by 0.4%.
International reserves also
remain at near-record levels. From the perspective of Taiwan's
major trading partners, these developments will continue to
generate increasing concern.
-
3 -
As we have long urged, the adjustment process will be
facilitated if trade barriers are removed. Barriers such as
e~cessively high tariffs on agricultural products, import
l1censing requirements, ineffective enforcement of intellectual
property rights and restrictions on investment in the financial
services and telecommunications sectors should be given priority
attention. Likewise, as we have made known in our discussions
with Taiwan's authorities and in reports to our Congress,
exchange rate appreciation must continue to play a role in this
process.
Limitations on capital flows, particularly on capital
inflows, and on foreign exchange transactions restrain the
adjustment process. These impediments to the full operation of
market forces clearly effect the exchange rate. The u.s. will
continue to watch closely the pace of adjustment in the overall
and bilateral trade balance and the role of the exchange rate in
that process.
To counter the continued global trade surplus, Taiwan's
policy officials need to focus less on export promotion, and more
on strengthening domestic demand. In this regard, Taiwan's
encouraging proposals for a Six-Year National Development Plan
offer an excellent opportunity to further reorient the economy
away from its dependence on exports by stimulating investment
through spending on infrastructure. This will help build the
foundation for sustained economic growth and diversification of
the domestic economy while reducing Taiwan's external surpluses.
It will also provide increased opportunities for foreign firms in
a variety of sectors. At the same time, it will require further
internationalization of the economy, particularly in the
financial sector, if the people of Taiwan are to benefit fully
from the improvements in economic efficiency that the proposed
National Development Plan is designed to achieve.
Internationalization of the Financial sector
A more complete opening of the financial sector has become
increasingly crucial when seen against the background of the
competing demands for capital in other regions of the world.
Global capital flows are most likely to achieve the desired
results of improved trade, growth and development in Taiwan and
other regions of the world when these flows are unencumbered.
Financial sectors in all countries must become deeper, more
efficient, more flexible, and more stable. Policy-makers and
businessmen in most global and regional financial centers have
recognized the challenges and competition ahead and are
increasing the pace of modernization. Taiwan cannot be separate
from this process. It must press the pace of liberalization in
order to avoid losing ground to well-established or emerging
financial centers, including in Asia.
- 4 -
I stress this point because there is a widely-held view that
the development of Taiwan's financial system has lagged behind
that of the economy as a whole. To cite some examples,
businessmen on Taiwan do not have access to certain sophisticated
financial products available in advanced economies. Their access
to international capital is restricted, and the cost of capital
is probably higher than it might otherwise be, a daunting
prospect to domestic businessmen wishing to participate in the
National Development Plan.
While Taiwan's economy has grown and matured even in the
absence of a truly modern and open financial sector, many would
argue that the financial sector may serve as a drag on current
growth and may retard the transformation to a more balanced and
diversified economy with better prospects for steady and strong
growth into the next century.
Taiwan's authorities appear to understand the problem the
economy faces, and appear prepared to make the financial sector
more efficient. However, efforts to date have also been
accompanied by a substantial measure of caution. Treasury's
general assessment is that Taiwan has made sUbstantial progress
towards reducing impediments to a market-determined exchange rate
and the free flow of foreign exchange, while the pace of
modernization on financial services issues has lagged.
The benefits to liberalization are many, and should be
evident in the success of countries that have already followed
this path. Most importantly, easing restrictions on both
domestic and foreign investors will increase the efficiency of
the financial market by increasing its depth and stability.
Doing so will lower the cost of capital for all firms and provide
domestic capital to fund the shift away from an export-oriented
strategy. This will be especially important given the magnitude
of public spending envisioned by the National Development Plan,
which will require a more sophisticated financial sector if
domestic and foreign resources are to be efficiently channeled to
investment opportunities.
An effort to expand opportunities for foreign firms must be
an integral part of the financial modernization program. Further
opening to foreign participation will be necessary to link Taiwan
into the network of global financial centers and increase access
to global capital markets and worldwide financial services. such
linkages will assist domestic firms in their efforts to do
business internationally, and will facilitate Taiwan's
development as a regional financial center. Foreign expertise
will also help Taiwan develop the technological infrastructure
necessary to support an advanced financial sector. If sufficient
opportunities are provided, foreign firms will provide these
services to Taiwan. In return though, they will expect a firm
commitment of a permanent role in Taiwan's economy. The present
-
5 -
unev 7n pace of liberalization is clearly sending mixed signals to
fore1gn firms and detracting from the desirability of Taiwan as a
regional financial center.
Taiwan can move boldly to incorporate itself into the new
world, or it can be a cautious, tentative observer. Taiwan, we
believe, can become a dynamic player in global markets, including
financial markets. But it must think of markets not just in
terms of goods, but in terms of services as well.
u.s.
Interest in Further Liberalization
In that vein, Taiwan in recent years has taken some steps to
modernize the financial sector and expand opportunities for
foreign firms. However, the slow pace of these efforts will
continue to frustrate Taiwan's trading partners, adding
unnecessary friction to bilateral relations. It will continue to
raise questions about Taiwan's commitment to further opening its
economy. Ultimately, the lack of significant movement casts
doubts on the feasibility of establishing Taiwan as a regional
financial center.
The situation faced by foreign financial firms in Taiwan
continues to concern the u.s. While modest improvements have
been made, significant denials of national treatment continue.
In many instances, there is outright discrimination against
foreign firms. In the banking sector, for example, the number
and location of additional foreign bank branches is still
restricted. Special ceilings, over and above those faced by
domestic banks, are imposed on loans made by a foreign bank to
any single customer. Foreign banks also cannot deal directly in
short-term money market instruments.
Foreign firms wishing to participate in the securities
market also face significant denials of national treatment. For
example, substantial restrictions are placed on foreign
institutional investment in the stock market, while investments
by foreign individuals are prohibited altogether. Foreign firms
cannot manage private pension funds. These types of restrictions
and barriers are increasingly difficult to justify to the
Congress or to cast in a positive light.
As global competition in the financial services industry
heightens, the Administration will face increased political
pressure to open foreign markets to U.s. firms. Congress, the
Administration, and the financial services industry all want to
ensure that U.s. firms abroad are given national treatment, as
well as the opportunity to offer a full range of financial
services and products. This has not been the case in Taiwan.
Treasury's last National Treatment Study report to Congress had
to note that despite some improvements, important and significant
denials of national treatment remain for U.S. firms in Taiwan.
- 6 -
Last year, the Administration introduced a far-reaching
package of financial reform proposals. Under these proposals, we
will continue to offer national treatment, as well as
liberalization and expanded activities for foreign banks. In
return, we will continue to seek national treatment and
liberalization in foreign markets.
The final outlines of the financial services reform package
are still being debated in the Congress. But it is clear that in
return for granting new privileges to domestic and foreign banks,
the congress will continue to press for liberalization overseas.
As Senator Garn will no doubt describe, there has been a
continuing movement in congress to shift away from national
treatment and equality of competitive opportunity towards
reciprocity of national treatment. Financial policy-makers
abroad must recognize that it is politically unrealistic to
assume that the U.s. can offer foreign banks opportunities that
are not available to U.s. firms in foreign markets.
This sentiment is reflected in proposed legislation under
consideration by the Congress. For example, under the Fair Trade
in Financial Services Act sponsored by Senator Garn, the Treasury
would be given additional leverage to assure fair treatment of
U.S. financial firms in foreign financial markets. The bill
essentially would give U.S. financial regulators, in consultation
with the Secretary of the Treasury, the ability to deny
applications to foreign financial firms in the U.S. if those
foreign countries do not allow u.s. firms to participate in their
markets. This proposal is part of the Senate Banking Committee's
financial modernization legislation. In addition, under existing
legislation, another National Treatment Study is due in 1994.
Between now and then, there will also be periodic updates and
requests for testimony. The issue will not go away.
Our concerns are shared by Taiwan's other trading partners.
For example, the recent U.K.-Taiwan trade talks emphasized
financial services, and the E.C. as a whole is likely to pay much
closer attention to Taiwan. But pressure from the other nations
should not be the reason Taiwan continues to liberalize its
financial markets. Liberalization is, first and foremost, good
for the growth and development of Taiwan.
Concludinq Remarks
The fast pace of changes in the world will increase the
internationalization of national economies, and thus the number
of areas in which the economic and financial interests of the
U.S. and Taiwan converge. Cooperation on financial and economic
issues has been good and we sincerely hope it will continue.
Taiwan's efforts have not gone unappreciated. Like Taiwan's
leaders, we anticipate that Taiwan will play an increasingly
significant role in the world economy as it further assumes the
- 7 -
responsibilities of an industrialized economy. But to attain
that goal, Taiwan will need to make progress on a variety of
issues, particularly in the financial sector. We hope to work
together to secure these outcomes.
TREASURY L~EWS
811artment of the Treasury • Washington, D.C. • Telellhane 5&&.204'
SEP
FOR IMMEDIATE RELEASE
September 21, 1991
Lbjj I I j 0 6 7
Contact:
',.~f)T
~- - '
C)::;-Ti./j:T . - - ; r l l ' ' ; , '
•• '- I
t I _
' . ' , ~ . '\ ' __
'...,1
I \
i
Claire Buchan
202/566-8773
Treasury Statement on
Office of Government Ethics Review of
Comptroller Clarke's Financial Filings
The Office of Government Ethics (OGE) review of Comptroller of
the Currency Robert Clarke's financial filings confirms that Mr.
Clarke has abided by ethical standards of conduct and that no
conflict of interest has in fact occurred during Mr. Clarke's
tenure as Comptroller.
In determining that Mr. Clarke adhered, to ethics rules, the
report says, "He disclosed all interests, executed and abided by
all recusal agreements and most importantly ... sought advice from
ethics officials when he had any question as to the manner and
appropriateness of his private sector financial transactions."
The OGE review notes that Mr. Clarke continually sought and
adhered to legal advice. The review also notes that Mr. Clarke's
recusals and disclosures resolve any issue of appearance of
conflict of interest.
The review agrees with Treasury's conclusion in nearly all
instances, with the single exception of a difference of opinion on
an interpretive issue regarding a Treasury regulation.
In this
instance, the OGE again notes that Mr. Clarke did seek and adhere
to legal advice.
As a matter of prudence, Mr. Clarke has elected to undertake
additional steps to avoid even an appearance of conflict of
interest.
These steps include establishing a blind trust and
improved coordination and review of his holdings and transactions
by ethics officials at OCC, FDIC and the RTC.
-30-
NB-1462
L1nitt:d StJtes
S.
Office of Government Ethics
Suitt: 500, 1201 Nt:w York Avenue, N.\'<I.
Washington, D.C. 20005-391<)
September 20, 1991
The Honorable Carl Levin
Chairman
Subcommittee on Oversight of
Government Management
United States Senate
Washington, DC 20510
Dear Mr. Chairman:
This is in response to your letter of June 14, 1991,
concerning the report prepared by the Department of the Treasury
(Treasury) on certain financial filings and activities of Robert
Clarke, Comptroller of the. Cu~rency.
You requested that this
Office review all aspects of Mr. Clarke's financial disclosure and
possible conflicts of interest to determine whether. Treasury's
disposition of these matters was appropriate.
By his letter of June 4, 1991, Dennis I. Foreman, Treasury's
Designated Agency Ethics Official, transmitted to this Office the
Department's report on their review of Mr. Clarke's financial
filings and activities.
The report discussed specific issues
arising from Mr. Clarke's financial dealings as well as more
general matters such as cooperation and interaction among ethics
officials of the Office of the Comptroller of the Currency (OCC) ,
the Federal Deposit
Insurance Corporation
(FDIC),
and the
Resolution Trust Corporation (RTC) regarding conflict of interest
reviews for individuals like Mr. Clarke, who may serve all three
agencies.
Based upon our review, we believe there is no demonstration
that Mr. Clarke conducted his personal financial affairs with
disregard for ethics standards.
He disclosed all interests,
executed and abided by all recusal agreements and most importantly,
according to Treasury, sought advice from ethics officials when he
had any question as to the manner and appropriateness of his
pri vate sector financial transactions.
F.S discussed below, we
believe, however, that the advice Mr. Clarke received in one
instance was inaccurate and Treasury's review of his financial
disclosure statements was incomplete.
Finally, there is no
demonstration that Mr. Clarke received any additional profit from
bond market activities because of his Government position, a
statement in which the FDIC concurs.
I have an appointment with
( )( ,I··· It Ii,
(h loiler
Iq~;'J
M~.
C:arke
cbserva~ions
to
on
discuss the
t~ese issues.
results
of
this
review
and
my
This Office believes that the actions proposed by Treasury
and oce officials will eliminate any problems associated with
Mr. Clarke's finan~ial interests and will improve the cooperation
on conflict of interest issues among oce, FDIC, and RTC.
We note
that !'~.:-. Clarke r.as made commitments to establish a qualified
diversified trust under the blind trust provisions of the Ethics
in Government Act of 1978, as amended; to avoid parallel business
interests or investment with employees of the OCC; and, to recuse
himself from all particular matters involving Citizens and Southern
National Bank of Atlanta.
Further, he will pre-clear all
investment transac~ions with OCC, FDIC, and RTC ethics officials,
provide FDIC and RTC ethics officials with copies of his public
financial disclos~re reports for review, and strengthen existing
procedures for prior review of FDIC and RTC Board meeting agendas
to prevent his participation in matters from which he is precluded
because of recusal commitments.
Once these commitments are in
place, we believe that Mr. Clarke will be in compliance with
applicable laws and regulations governing conflicts of interest.
With regard to Mr:-Cl~rke's financial disclosure statements,
you asked that we address the adequacy of Treasury's review of
these statements and the documentation supporting the reviewing
officials' inquiries.
It is our opinion that the reviewing
officials at Treasury and OCC did not, in one instance, adequately
explai:1 in a ~cr.\ment or assist Mr. Clarke in eliminating all
possible ambiguities on his financial disclosure reports and
corresponolng attachments.
Mr. Clarke's financial disclosure
reports for calendar years 1987 through 1989 and his new entrant
report submitted in December 1990, indicate that he held a
promissory no~e :.:-om Mr. Dana Cook, the Special Advisor to the
Comptrol~er.
~he Department's report concludes that the promissory
[',ote v:as not a loan but rather a joint investment between the
parties.
The Department, in its initial review of the 1987
:inancial dis~:8s~re report should have resolved any inconsistency
iD this entry and Mr. Clarke should have been advised at that time
of the proper manner in which to report the arrangement.
Additionally, you asked us to examine two complex transactions
involving Mr. Clarke and Mr. Dana Cook which related to Pawleys
Island Hammock CQ., Ltd. (P. I. Ltd.) and St. Andrews Partners. You
are interested in the rules with which the Office of Government
E~hics
(OGE) attributes corporate and partnership interests to
indi victuals.
YQ"c.l also asked whether or not OGE agrees vli th
':'reasury's cO:1clusion that !'1r. Cook's interest in P.I. Ltd. is
2
"both indirect and very small" and that, therefore, lv1r. Clarke's
loans to P.I. Ltd. do not constitute direct or indirect loans to
Mr. Cook.
We believe that attribution principles should be employed with
respect to the application of appearance standards in the context
of non-public entities. Therefore, while we agree with Treasury's
conclusion that Mr. Cook's interest in P.I. Ltd. was small, we
disagree that it was indirect.
As the sole owner of all the
corporate stock of the general partner, we believe that Mr. Cook
has a one percent direct interest in the limited partnership.
In
the case of providing working capital to P.I. Ltd., as opposed to
the loan guarantees which we do not view as loans, we disagree with
the conclusion that Treasury reached in its report.
We also note that Mr. Clarke sought advice on this issue and
was advised by the OCC Chief Counsel, as well as its ethics
official, that his facilitation of loans to P.I. Ltd. was proper
under OCC guidelines.
We have discussed these issues with representatives of the
Department.
As noted above, Mr. Clarke will refrain from having
any parallel business-- in"terests or investments in non-public
entities with OCC employees.
Further, OCC will strengthen and
clarify the application of attribution rules. Also, OCC, RTC, and
FDIC have agreed to consider a formal- approach to dealing with
indirect financial interests.
You also asked this Office to consider how and when the
mUlti-agency review should be accomplished.
Multiple agency
service presents a unique set of problems.
At this time, the
ethics officials of the RTC and the FDIC are actively consulting
with their counterparts at Treasury and OCC to fashion appropriate
rules for an official in the multiple roles performed by the
Comptroller of the - Currency.· Under the decentralized ethics
program mandated for the executive branch, agencies may have rules
requiring differing remedies and approaches. However, it is our
opinion that the ethics offic~als of all agencies served by such
multi-tasked officials should coordinate their approach for
officials who, for whatever reason, are not already formally
encompassed by the rules of all the agencies served. The decisions
reached through such coordi~ation should be the subject of formally
adopted and announced policies and procedures.
3
O~C,
FDI~
and RTC have established an agreement to improve
the existing procedures for dealing with potential conflicts of
i~~erest and other Government ethics considerations applicable to
the Comptroller of the Currency's positions as a director of FDIC
and RTC. Specifically, the three agencies will work cooperatively
in the review of the Comptroller's public financial disclosure
statement. OCC will stare with FDIC and RTC ethics officials any
comments or amendments tc the statements raised by Treasury
officials or this Office.
Mr. Clarke has agreed to make all
appropriate information from the qualified diversified trust
agreement available to the OCC, FDIC and RTC and acc will provide
any other significant d~cumentation such as waivers, recusals, and
official correspondence related to the Comptroller's financial
interests, available to FDIC and RTC officials.
We will monitor
the results of these efforts.
hope this infor~ation has been helpful to you.
any further questions, please contact me.
~
If you have
Sincerely,
~L~0
C-S'tephen D. Potts
Director
Enclosure
4
United States
Office of Government Ethics
Suite 500, 1201 New York Avenue, N .W.
Washington, D.C. 20005-3919
September 20, 1991
Dennis I. Foreman
Designated Agency Ethics Official
Department of the Treasury
15th and Pennsylvania Avenue, NW.
Washington, DC 20220
Dear Mr. Foreman:
Pursuant to 5 C.F.R. §2638 you transmitted to this Office a
copy of the June 4, 1991 repor~ prepared by the Department of the
Treasury (Treasury), which reviews the financial filings and
activities of Robert Clarke, Comptroller of the Currency; and
requested this Office's review and comments.
Our initial observations are that through the use of
disclosure, recusal and seeking advice from agency officials,
Mr. Clarke has insulated himself from what might otherwise be taken
as valid public criticism of his handling of his personal financial
affairs. Although not completely documented, we have accepted the
representations of Office of the Comptroller of the Currency (OCC)
officials that Mr. Clarke sought the advice of personnel within his
agency regarding the matters addressed in the report and that he
followed that advice.
Our conclusions regarding the activities discussed in the
Treasury report are as follows:
High Yield Bonds
We found no evidence which demonstrates that Mr. Clarke
received
any -additional
profit
from
the
occurrences
and
transactions discussed because of his Government position. Through
discussions with officials at the Federal Deposit Insurance
Corporation, we understand that they have arrived at the same
conclusion.
We further note that Mr. Clarke has made full
disclosure of these holdings in all of his public financial
disclosure reports.
Your report concludes that Mr. Clarke's investment activity
did not give rise to any actual conflict of interest.
However,
Mr. Clarke has decided to establish a qualified diversified blind
trust in order to eliminate even the potential for an appearance
OGE-106
question. This appearance of impropriety issue seems to be at the
core of the public interest in these matters.
While we agree that after a review of the facts the average
person with such knowledge would not be concerned with the
transactions, we feel that it would be appropriate in high
visibility matters such as those confronting the Resolution Trust
Corporation (RTC) that better documentation and review of personal
holdings are in order to preclude public confusion on these iss~es.
A notation on the use of the advice of an institutional investment
advisor as well as a more specific explanation of the aCC/RTC staff
screening role, coupled with the actual entries on the financial
disclosure report,
would go far in eliminating unnecessary
discussion of appearance issues.
The Home Loan
This loan was liquidated in accordance with its original terms
and in accordance with the acc Policy and Procedures Manual.
The Investment Loan
We agree that acc policy does not provide specific guidance
on renewing a loan originally made with a state bank after the
state bank has merged with a national bank.
However, the ace
April 7, 1986, Policies and Procedures manual clearly states that
new employees may not renegotiate or renew a loan from a national
bank.
Guidelines involving an issue of this nature should be
consistent, clear and unambiguous for all employees and in written
form.
Mr. Clarke's recusal and disclosure of the loan, however, seem
to resolve this issue notwithstanding the agency's lack of a clear
renewal policy.
The Credit Card
Your report states that acc policy generally requires an
employee holding a credit card issued by a state bank that is taken
over by a resulting national bank to terminate the use of the
credit card. The acc Policies and Procedures manual also states,
fer new employees, that credit cards, on which a national bank
holds the receivable, may not be used.
Al though ace has given
permission for employees to borrow from a national bank when an
existing recusal is in place, there is no formal written guidance
addressing this exception. Any future acc policy dealing with the
2
use of credit cards should include a discussion of the effects of
recusal on such a policy.
We believe that Mr. Clarke's recusal and disclosure of the
credit card resolve this issue.
1985 Ethics Commitment Regarding Partnerships
In our opinion, Mr. Clarke fully complied with the terms of
his 1985 ethics agreements.
Tax Certificates
With regard to entries on his calendar years 1987 through 1989
financial disclosure statements reporting a promissory note from
Mr. Dana Cook, you concluded that these entries incorrectly
characterized the financial
relationship between these two
individuals. Your analysis concludes that these transactions did
not involve lending by Mr. Clarke or borrowing by another OCC
employee, rather they are correctly viewed as joint investments.
Further, a memorandum dated April 30, 1991, prepared by a
Treasury ethics official, now deceased, would indicate that the
Department has known this since this entry was first reported on
his calendar year 1987 annual statement.
However, there is no
contemporaneous
documentation
which
confirms
Treasury's
understanding of this arrangement, nor were any of the financial
disclosure statements corrected to reflect this understanding.
Mr. Clarke did not change this entry until his calendar year 1990
annual statement.
The Department, in its initial review of the
1987 financial disclosure report should have resolved any
inconsistency in this entry and Mr. Clarke should have been advised
at that time of the proper manner in which to report the
arrangement.
Pawleys Island Hammock Company Ltd.
Partners L.P.
(P.I. Ltd.)
and St. Andrews
We disagree with your conclusion that the working capital
advanced by Mr. Clarke to P.I. Ltd. did not constitute at least an
indirect loan to Mr. Cook.
This is so notwithstanding his
corporate ownership of the general partner.
Our review of the organizational structure of P.I. Ltd. and
St. Andrews Partners L.P. substantiates your position that Dana
Cook's 1 percent interest in P.I. Ltd. and his .55 percent interest
in Signature Broadcasting Ltd. were the only superior-subordinate
3
relationships involved in these ventures.
However, we reconfirm
our earlier stated position that dealings in businesses in which
a subordinate also has an interest carries the potential for
creating an appearance of conflict of interest.
While there is no way for us to confirm your representations,
it is indeed fortunate that there is no indication that a conflict
was in fact created during Mr. Cook's employment at acc. However,
viewing these business relationships in their totality,
we
conclude that Treasury, because of the unique nature of its
regulatory duties, must develop a more comprehensive prohibited
attribution rule.
The only documentation of advice in this area
involving Mr.
Clarke's personal
financial
activities
is a
November 19, 1987, memorar..dum from an acc ethics advisor which
seems to be too technical an application of rules regarding what
may be perceived as an appearance issue.
The issues raised here, and the need for such a report,
demonstrate the importance of documenting advice provided by ethics
officials in their role as counselors. This is particularly true
in cases where the financial disclosure reports of high-level
officials come under close scrutiny by members of the public and
the press.
Further f it demonstrates the need for well written
policies which are made known to agency personnel at all levels and
adhered to by those fulfilling their counseling roles.
Sincerely,
~~
Stephen D. Potts
Director
4
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Citation Information
Document Type: Transcript
Number of Pages Removed: 5
Author(s):
Title:
CNN's Moneyline, Guest: Treasury Secretrary Nicholas Brady
Date:
1991-09-19
Journal:
Volume:
Page(s):
URL:
Federal Reserve Bank of St. Louis
https://fraser.stlouisfed.org
TR EASU RAw HOOf'l~ EWS
.epartment of the Treasurv • Washington, D.C . • Tele.hone 588.204'
SEP Lb~ i I I j 0 6 6
For Immediate Release
September 23, 1991
contact:
)EPT. Ot" THE TREASURY
Anne Kelly Williams
(202) 566-2041
SEARCH COMMITTEE FOR RTC CHIEF OFFICER
SELECTS ALBERT V. CASEY
The search committee to find a new chief executive officer
for the Resolution Trust Corporation (RTC) announced its
selection of Albert V. Casey.
secretary of the Treasury Nicholas F. Brady said, "AI Casey
is a seasoned manager with strong experience in the private and
public sectors. His record of success fills the bill for the RTC
chief executive officer."
The search committee includes Secretary Brady, Chairman of
the Federal Deposit Insurance Corporation L. William Seidman,
Office of Thrift Supervision Director Timothy Ryan, RTC Oversight
Board Member Robert C. Larson, and Deputy Secretary of the
Treasury John E. Robson, who served as director of the committee.
"Mr. Casey is a smart, tough, proven leader with an
excellent background in finance and business and an impressive
track record of successfully managing large complex
organizations," Robson said.
"He will give the RTC strong
direction."
L. William Seidman, FDIC Chairman, said, "I think he is an
excellent choice and I am very pleased that he is willing to do
it."
Mr. casey's corporate and public sector experience includes:
- chairman and chief executive officer of American
Airlines and its parent AMR Corporation (1974-85);
- various senior executive posts with the Times Mirror
company, including president of the corporation (19631974);
- Postmaster General of the united States (1986);
- chairman and chief executive officer of the First
RepublicBank Corporation (1988-1989);
- Ann Cox Distinguished Professor of Business Policy at
the School of Business of Southern Methodist University
(1986-1988);
his early business experience includes management
positions at Southern Pacific Company and REA Express.
He is a director of several corporations and holds a
number of civic posts, including director of the
International Executive Service Corps, trustee of the
Urban Institute, director of the University Medical
Center, and director of the University of Dallas.
Mr. Casey, 71, is a widower with two grown children and
lives in Dallas, Texas.
The search committee will recommend Mr. Casey for the CEO's
position to the RTC Board of Directors, which makes the formal
appointment. Mr. Casey is expected to assume his position midOctober.
000
PUBLIC DEBT NEWS
Department of the Treasury • Bureau of the Public D.$!bt
UBRAH,( flOOtA 5 ~l O
FOR IMMEDIATE RELEASE
September 23, 1991
SEP
l G~l \ \ J
• Washington, DC 20239
CONTACT: Office of Financing
065
202-219-3350
RESULTS OF TREASURY'S AUCTION OF 13-WEEK BILLS
- ,~ TRf ASllRY
Tenders for $10,607)~Il~i~Wor I3-week bills to be issued
September 26, 1991 and to mature December 26, 1991 were
accepted today (CUSIP: 912794XS8).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.16%
5.18%
5.18%
Investment
Rate
5.31%
5.33%
5.33%
Price
98.696
98.691
98.691
Tenders at the high discount rate were allotted 52%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Received
30,045
31,228,650
23,380
50,395
39,175
45,390
1,199,115
52,695
6,550
33,205
23,140
652,600
717,480
$34,101,820
30,045
9,374,095
23,380
50,395
39,175
44,430
162,475
17,895
6,550
33,205
23,140
85,200
717,480
$10,607,465
Type
Competitive
Noncompetitive
Subtotal, Public
$30,457,060
1,422,850
$31,879,910
$6,962,705
1,422,850
$8,385,555
1,761,110
1,761,110
460,800
$34,101,820
460,800
$10,607,465
Federal Reserve
Foreign Official
Institutions
TOTALS
NB-.1464
Acce~ted
UBLIC DEBT NEWS
Department of the Treasury • ~1ja~A ~lr t'~~IR RQt • Washington, DC 20239
FOR IMMEDIATE RELEASE
September 23, 1991
" ,", '\ \ \ )
~EP Lb J
,J
0 tCONTACT:
b L.t
Office of Financing
202-219-3350
RESULTS OF TREASURY'S AUCTIOf OF 26-WEEK BILLS
Ji.:.PT. OF THE TREASUR
Tenders for $10,711 million of 26-week bills to be issued
September 26, 1991 and to mature March 26, 1992 were
accepted today (CUSIP: 912794YF5).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.22%
5.23%
5.23%
Investment
Rate
5.45%
5.46%
5.46%
Price
97.361
97.356
97.356
Tenders at the high discount rate were allotted 48%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Received
34,495
31,390,220
20,605
34,335
41,935
46,730
930,555
36,125
12,330
42,580
23,150
760,860
700,820
$34,074,740
AcceRted
34,495
9,508,515
20,605
34,335
41,935
45,210
129,155
16,125
12,330
42,580
23,150
101,860
700,820
$10,711,115
Type
Competitive
Noncompetitive
Subtotal, Public
$30,051,920
1,286,320
$31,338,240
$6,688,295
1,286,320
$7,974,615
1,950,000
1,950,000
786,500
$34,074,740
786,500
$10,711,115
Federal Reserve
Foreign Official
Institutions
TOTALS
NB-1465
TREASU-R¥sN EWS
D.Dartmant Of the Tr•••urlEp' ............n, D.C. • TalaDhan. 5...·204'
)Ef'T. OF THE THEASURY
TEXT AS PREPARED FOR DELIVERY
EMBARGOED UNTIL 9:30 A.M.
September 24, 1991
NICHOLAS F. BRADY
SECRETARY OF THE TREASURY
lOSCO ANNUAL MEETING
SEPTEMBER 24, 1991
This has been a turbulent year for the worldwide financial
community. Political changes around the globe, wrongdoing, bad
judgment, and technological advances have tested the world's
financial markets and the rules that govern them. But the
international market~ have demonstrated resilience.
Nevertheless, it is time to face up to the need for modernization
and reform if we are-to keep up with the continuing pace of
change.
In the Soviet Union, we -may be witnessing the beginnings of
the free market. These events only reinforce the importance of-a
Western financial system that fosters creativity, rewards.
ingenuity and sparks competition. And, it further underscores
the need for rules and regulations that properly channel these
energies.
But, before we decide that today's bad news justifies a wave
of new-regulations in an already highly regulated market, let me
tell you what overly regulated societies, such as Eastern Europe
and the Soviet Union, aspire to. with all our problems, they
want what we've got -- a free market economy and our help to
develop one.
I have just returned from a trip to the Soviet Union. From
President Gorbachev on down to the· individual fledgling
entrepreneur, they want our professional assistance on how to run
a market ·economy. More than our money, the Soviets know they
n~ed training, organizational concepts, and management expertise.
The Soviets and Eastern Europeans look to America's markets, and
those of other western countries. They see that despite
imperfections and some excesses, free markets raise the standard
of living of people everywhere.
NB-1466
2
Let us continue to serve as a beacon for these emerging
democracies by responding to new technologies and consumer needs.
Only by doing so will we sustain the confidence of the world's
financial markets. This is our obligation as world leaders, and
it is essential to the success of our own markets.
This emphasis on the positive, pointing out the glass is
half full, rather than half empty, doesn't mean that lawmakers,
administration officials and industry leaders should be
complacent for one moment about revelations of greed and
wrongdoing. We should learn from these episodes and renew our
commitment to improve the quality of regulation and enforcement
in our markets. Our enemy is the imposition of piecemeal,
uncoordinated, and ill-advised regulation. We should not pattern
ourselves after the general who rides up to the battlefield and
shoots the dead and dying just to prove his valor.
Instead, our goal should be to exert the firm hand of
balanced regulation, and at the same time, signal by our actions
that securities markets should reward professionals, not fastbuck artists. Our job should be to make sure that greedy hot
shots don't get all four feet in the trough.
When Treasury and other agency investigations uncovered
serious violations of government regulations in the auction
market, we moved with dispatch to:
Ban offending firms from buying government securities
on behalf of customers;
Require written verification of customer bids;
Expand information sharing among government regulators;
And, strengthen and accelerate the ongoing initiatives
to automate the government auction process.
These initial changes were aimed at ensuring continued
integrity in the government auction process. They are important
steps in reconfirming to the rest of the world that the u.s.
Treasury market remains not only the most liquid in the world -but the fairest and most open. The events of the last several
months were serious violations, and those who were "responsible
will have to pay for their mistakes. But the Treasury auction
system has worked.
Last year, the Treasury issued $1.5 trillion of new
securities. That's over $4 billion per day. These figures alone
offer proof of the strength and integrity of the u.s. Treasury
market.
3
We will continue to review the auction process to determine
if other changes are appropriate, but decisions should not be
made in haste, only to be repented at leisure. We should strive
for securities markets that run like well-oiled
machines, while still understanding that in free markets, there
will always be frictions in the system.
The need for confidence in an integrated, international
financial system has also been underscored by the unfolding
scandal of BCCI.
The costs of this willful, malevolent operation have been
enormous -- not only in money lost by trusting, innocent
depositors abroad' -- but in terms of the potential loss of
confidence in the banking system.
I yield to nobody in his
resentment about this incredible deception. Nobody defends it.
It is clear the world is not only bruised, but abused by this web
of crime. We have been fortunate that, in this country, no
depositors' money has been lost.
And the U.S. customs Service was one of the first government
agencies in the world to expose the institutional nature of
BceI's criminal activities. Bank officers are going to jail, and
the bank is out of business. One of the reasons our BCCI
investigation was successful was because of
international and U.S. interagency cooperation. But, we can
always do things better and faster, and the BeCI affair is a cry
for improved international coordination.
We in the regulatory community will have the laboring oar in
creating new regulations.
If they are sensible, they will
improve our chances to avoid this kind of fraud in the future.
But let's remember the flow of money, like quicksilver
or water, will seek its own path. And if the system we create is
too onerous, the money and the markets will work around it, or
not work at all.
In the desire to seek out criminals and build our reputation
as tough enforcers, let us not forget there are many honorable
people in our financial institutions who are as appalled as we
are at recent events. However, they, as industry leaders, and
we, as industry regulators, must confront the facts.
There is
something wrong in the way business has been conducted. A rising
tide of greed has washed over the dam of professional integrity,
and the result has been a dangerous glorification of monetary
gain.
4
We cannot legislate against greed. Nor can we create a
sense of profession by regulation and law. This must come from
an inward sense of right maintained by those who compete in the
business. And this sense of right must be buttressed by the
knowledge that, when transgressions occur, there will be swift
and fair justice from balanced and consistent regulators.
The Treasury market and BCCI episodes have intruded on the
far-reaching debate over the regulatory structure of the u.s.
financial services industry.
Some have tried to use these
aberrations as a charter for enacting new and overly burdensome
regulation, and even for preserving the old anti-competitive
restrictions, like Glass-Steagall. As a 35-year veteran of Wall
Street, I understand the age-old competitive rivalries. But I
firmly believe that it is time to make bold changes to the very
securities laws under which I was trained on the Street.
President Bush has proposed the first comprehensive change
in the banking industry and securities markets in over 50 years,
and Congress is acting on this proposal as we speak.
If the
President's proposal is adopted, we will radically change not
only the laws, but the philosophy, which have governed the
banking and securities industries for half a century.
In a world
where plastic money cards are replacing checks and even cash, it
is time for our laws to catch up with reality.
First, the President's plan will make deposit insurance
safe for u.s. taxpayers and depositors by increasing
market discipline, promptly addressing weak banks, and
strengthening supervision. We will confront problems
at banks before they become problems for the Bank
Insurance Fund or, potentially, the taxpayer.
Second, our proposal will modernize archaic laws, which
artificially restrict co~petition among financial
services companies. Allowing banks to branch across
state lines will lead to greater efficiency and
geographic diversification. And permitting wellcapitalized banks to affiliate with securities and
insurance firms will make these institutions more
competitive and better able to serve consumers.
Third, risk-based capital standards will reward
stronger banks -- particularly smaller banks -- and
force weaker banks to raise additional capital, making
them safer and sounder.
Fourth, to make more private capital available to the
industry, we would end the restriction on commercial
ownership of banks. We should open the door to capital
for banks -- and certainly for failing institutions,
where the alternative could be taxpayers' money.
5
Finally, the effect of these changes will be to
rekindle the international competitiveness of u.s.
financial institutions and demonstrate again what every
American knows -- that owning bank stocks can be a
worthwhile investment. Private voluntary investment
capital will flow back into the industry, so that the
taxpayer will be spared paying for the losses of the
banking industry.
Soon the European Community will have not just branch
banking within individual member states, but intercountry branch
banking, and technology has made that both possible and
necessary. A technological revolution is taking place in the
financial markets. Some countries are moving to meet these
changes. The u.s. cannot lag behind a revolution that has
already taken place.
Those who oppose comprehensive change would have you believe
that reform is simply deregulation. It's not.
It is a strategic
change in approach that will work if we resist the urge to weigh
it down with special interest protection. Opponents will try to
use comprehensive reform as the vehicle for punitive reregulation, and special interest protection. The last thing we
need is more of what we already have -- rules that skew the
markets and provide artificial protection for those who cannot
compete on an open playing field. Our banking reform proposal is
tough, balanced regulation, with competitiveness as its
cornerstone.
There are strong advocates of responsible reform on both
sides of the aisle -- Democrats and Republicans -- and they will
not support provisions dealing with new bank activities which are
anti-competitive. Yet there are those who still insist on such
protectionist provisions. We will work hard to resist the easy
path. We need to have reform that moves forward, not backward.
I believe we can accomplish the full measure of comprehensive
reform, and the coalition of supporters for fair competition
tells me they intend to continue to work for that goal.
As technology brings our markets closer together,
international coordination and cooperation will become even more
important. We must be strong. We must be fair.
And we must be
current with the needs of the financial world today.
In the end,
I know we can provide what is needed to keep our markets safe and
sound.
I commend Richard Breeden and the SEC for bringing this
distinguished group together. And I appreciate the help we have
received from other countries -- represented here today -- in
keeping the international markets on the right track. with your
help, that spirit of cooperation will continue. Thank you.
##
'\~C;l- O~I~ THE TREASURY
.)",_1
•
For Immediate Release
September 24, 1991
Contact:
Anne Kelly Williams
(202) 566-2041
TREASURY ASSESSES PENALTY AGAINST BANK OF MINGO
The Department of the Treasury announced today that the Bank of
Mingo of Naugatuck, West Virginia, has agreed to a settlement
that requires it to pay a civil penalty of $54,600.
The
settlement is based on its failure to report ten (10) currency
transactions as required by the Bank Secrecy Act.
Peter K. Nunez, Assistant Secretary for Enforcement, who
announced the penalty, said the penalty represented a complete
settlement of the civil liability of the bank for these
violations. Mr. Nunez stated that the amount of the penalty
imposed was the result of Bank of Mingo not voluntarily reporting
the violations to the Department of the Treasury. The violations
occurred while the compliance program of the bank's prior
management was in effect. This case was developed through an
investigation conducted by the united States Attorney in the
Southern District of West Virginia.
The Department of the Treasury has no evidence that the Bank of
Mingo engaged in any criminal activities in connection with these
reporting violations.
Current bank management has cooperated
fully with the Treasury.
The Bank Secrecy Act requires banks and other designated
financial institutions to keep certain records, to file currency
transaction reports with the Treasury on all cash transactions by
or through the financial institution in excess of $10,000, and,
under some circumstances, to file reports on the international
transportation of currency or other monetary instruments in
bearer form or the equivalent. The purpose of the reports and
records required under the Bank Secrecy Act is to assist the
government's efforts in criminal, tax and regulatory
investigations and proceedings.
000
NB-1467
PUBLIC DEBT NEWS
Department of the Treasury •
FOR IMMEDIATE RELEASE
September 24, 1991
Buiri)i\Mf(h~ 9>9~hc5JjJb~
.. 'L C ~\
o
~~
,
u
\ \
j
• Washington, DC 20239
octS)}tTACT :
Office of Financing
202-219-3350
RESULTS OF TREASURY'-.S'E~tf&'J:~Olf{ OF 2-YEAR NOTES
)EPT~O\O
Ttl
Tenders for $13,185 million of 2-year notes, Series AF-1993,
to be issued September 30, 1991 and to mature September 30, 1993
were accepted today (CUSIP: 912827C42).
The interest rate on the notes will be 6 1/8%. The range
of accepted bids and corresponding prices are as follows:
Low
High
Average
yield
6.13%
6.15%
6.14%
Price
99.991
99.954
99.972
Tenders at the high yield were allotted 31%.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Received
47,475
34,465,930
29,440
45,285
1,127,230
581,540
1,935,280
73,170
29,815
87,120
21,285
437,175
281,780
$39,162,525
Accepted
47,475
10,384,900
29,440
45,285
863,940
548,330
706,740
59,650
29,815
83,670
20,540
83,895
281,770
$13,185,450
The $13,185 million of accepted tenders includes $1,067
million of noncompetitive tenders and $12,118 million of
competitive tenders from the public.
In addition, $1,028 million of tenders was awarded at the
average price to Federal Reserve Banks as agents for foreign and
international monetary authorities. An additional $1,110 million
of tenders was also accepted at the average price from Federal
Reserve Banks for their own account in exchange for maturing
securities.
NB-1468
I.llartment o. til. T••• sUrv • ".'fll"I.ltOll~D.C . • Te.ellhone
)EP Zb j 1
j U0 U
For Release upon Delivery
Expected at 9:30 a.m.
September 25, 1991
S•• ·2a.~
)EPT. OF THE TFiEASUhY
STATEMENT OF
KENNETH W. GIDEON
ASSISTANT SECRETARY (TAX POLICY)
DEPARTMENT OF THE TREASURY
BEFORE THE
SUBCOMMITTEE ON OVERSIGHT
COMMITTEE ON WAYS AND MEANS
UNITED STATES HOUSE OF REPRESENTATIVES
I appear today at the Chairman's invitation to testify on
the general subject of improving the tax system and protecting
taxpayer rights. While I have been generally aware of the
Subcommittee's interest in this subject through my Office's
efforts over the past few weeks to provide revenue-estimating and
technical support for the testimony the Commissioner will shortly
deliver, I was unaware that the Subcommittee would request
testimony from me until September 13, 1991. My testimony will,
accordingly, be quite brief.
First, the Administration believes that simplification,
within the fiscal constraints of last year's budget agreement, is
the major compliance and administration improvement we could make
in the tax system, apart from assuring that the Internal Revenue
Service is adequately Lunded and that its systems modernization
program is implemented in a timely manner. Simplification is a
priority which the Commissioner and I have stressed in the
regulatory guidance process, and we were both pleased when
Chairman Rostenkowski announced his intention last year to make
simplification a priority of the Ways and Means committee. Since
that time, we have engaged in productive cooperation with the
staffs of the Ways and Means Committee and others to produce a
broad range of simplification bills now before Congress,
including H.R. 2777, the Tax Simplification Act of 1991, which
enjoys bi-partisan support; H.R. 2730, the Pension Access and
Simplification Act of 1991; and H.R. 3035, relating to intangible
assets.
Earlier this month (in testimony before the Taxation
Subcommittee of the Senate Finance Committee), we suggested
additional simplification proposals relating to the payroll tax
deposit system and the earned income tax credit. We have already
provided the Ways and Means Committee with detailed testimony on
NB-1469
- 2 most of these proposals and will address the intangible proposal
on October 2.
with respect to the new items raised before the Finance
Committee earlier this month, the Administration believes that
the changes proposed in S. 1610 to the payroll tax deposit system
merit serious consideration if steps are taken to make that bill
revenue neutral. Like H.R. 2775 (about which we have previously
testified before the Ways and Means Committee), S. 1610 would
replace the eighth-monthly payroll tax deposit requirement in
current law with a Tuesday/Friday, semi-weekly system. However,
it would permit smaller employers to make monthly, rather than
semi-weekly, deposits, while also shifting certain other small
employers from a quarterly to the monthly system. We and the
Internal Revenue service believe that the monthly deposit
approach may well be simpler for employers. We urge you to
consider it seriously.
In addition, we have proposed repeal of the earned income
tax credit (EITC) interaction rules (which cause the computation
of the credit to be inter-dependent with the itemized deduction
for medical expenses, the deduction for health insurance expenses
of the self-employed, the child and dependent care tax credit,
and the exclusion for employer-provided dependent care
assistance). This change will significantly simplify the EITC
rules and will permit the Service to compute the amount of the
credit for all taxpayers who so desire. The EITC instructions
would become simpler, thereby benefitting all potential
claimants. To offset the modest revenue losses generated by the
proposal, we have proposed a minor reduction in the basic credit
rates which should not reduce the credit by more than $3.71 for
any taxpayer (while other credit recipients will benefit by
elimination of the interactions). Again, we urge favorable
consideration.
These simplificafion bills and proposals offer the prospect
of significant simplification for a broad range of taxpayers.
Many are directly responsive to concerns and ideas of the
Internal Revenue Service. Proposals such as payroll tax deposit
reform, credit card payment of taxes, and simplification of
reporting for household employers, to name but a few, have
received significant support from the Service. Our work on the
amortization of intangibles reflects an effort to address a
significant compliance problem identified by the Service.
with commissioner Goldberg, I believe American taxpayers are
entitled to a comprehensible, predictable tax system. The
cooperative efforts in which we have engaged over the past one
and one-half years to achieve that most basic taxpayer right
through simplification speak for themselves. These efforts will
benefit literally millions of taxpayers. We intend to continue
giving them priority effort.
-
3 -
Turning now to specific items in the Chairman's request for
testimony, the Commissioner will advance six legislative
proposals today in the area of taxpayer procedural rights and
simplification. These proposals have been developed with our
participation and cooperation; however, I will defer to the
Commissioner for presentation of the specific proposals.
As we have previously testified with respect to
simplification proposals, change in this area is not viable as a
revenue-losing proposition. The Administration will insist that
the pay-as-you-go provision of the budget agreement be satisfied
by any combinations of these proposals ultimately adopted.
Commissioner Goldberg's proposals satisfy this constraint because
they are fully funded by the offset he is proposing. Indeed, his
revenue offset will also provide some additional funds to meet
existing revenue shortfalls in H.R. 2777, the bi-partisan
simplification bill.
In addition, we have cooperated with the Commissioner's
office over the past two years to provide regulatory guidance
necessary to implement the Taxpayer Bill of Rights legislation
enacted in 1988. These regulations include final regulations
under section 6404 (erroneous written advice from IRS) and
section 6326 (appeal of erroneous tax lien filing); proposed and
temporary regulations under section 7811 (taxpayer assistance
orders) and section 7605 (time and place of examination); and
proposed regulations under section 6502 (collection after
assessment), section 7432 (civil damages for failure to release
lien), section 7433 (civil damages for unauthorized collection
actions), section 7429 (review of jeopardy levy), and section
6332(c) (21-day holding period for levied accounts). We also
expect to publish guidance in the near future under section 6332
(effect of honoring a levy); section 6335 (sale of seized·
property) and section 6343 (authority to release a levy and
return property).
other than the proposals which the Commissioner will shortly
present, I am not aware of any legislative proposals dealing with
procedural rights as to which the Commissioner has requested our
concurrence during my tenure. During my tenure as Assistant
Secretary, I have received no communication on the subject of
taxpayer procedural rights from the Ombudsman other than the
documents described in the next paragraph. In addition, I would
further note that I have had no communication whatever from the
staff of this Subcommittee on the subject of taxpayer procedural
rights.
Upon receiving your September 12 letter, I requested my
staff to review our files for communications from the IRS
Commissioner and Ombudsman to our Office relating to
recommendations on taxpayer rights. Prior to August of this
year, we have no record that the Office of Tax Policy had
-
4 -
received any such communications. Given my responsibilities in
the area of tax legislation, such requests for legislative change
arising in the Department of the Treasury should be directed to
me. We did recently receive some documents which contained
legislative suggestions which the Ombudsman apparently had made
over a period of time within the Internal Revenue Service with
the request that we approve transmission of those documents to
your Subcommittee. The Service's transmittal memorandum to me
did not request that we support the Ombudsman's proposals and
noted that the Service itself had not decided whether to support
them. Given the fact that the documents pertained to legislative
proposals, I advised that, like any other communication
concerning legislation, the documents would require clearance by
the Office of Management and Budget. Given the Subcommittee's
interest in these essentially historical documents, we advised
OMB that we recommended that their transmission to you be
approved with the statement that the proposals themselves had not
been reviewed by the Office of Tax Policy or the Office of
Management and Budget and that, accordingly, the Administration
had not taken any position on those proposals. Should this
Subcommittee or the Internal Revenue Service wish to pursue
particular proposals involving legislative action in addition to
those identified by the Commissioner today, the Office of Tax
Policy will, of course, review the proposals so identified and
provide the views of the Administration.
In summary, we intend to pursue simplification vigorously on
both the legislative and administrative fronts.
We believe
simplification improves the system for all taxpayers, not just
those engaged in a tax controversy. Simplification will
accordingly remain our Office's priority in the area of
administration and compliance. We are, however, willing to
consider well-articulated proposals for procedural change which
demonstrably improve the tax system. Accordingly, we support,
subject to the enactment of an acceptable revenue offset such as
the one proposed by the Commissioner, the proposals set forth in
the Commissioner's testimony today. We will be pleased to
consider additional items meeting these criteria which the
Committee may identify at a future date.
D811artment of t ... Tr.a.u'! • .!'....l~!ton. D.C. • Tele.hone 588·204'
lEP Lb ~\ \ \
FOR RELEASE AT 2:30 P.M.
CO~VCT:
September 24, 1991
"''-~I Of i'.-lc n~[t,SU
,)
)..~ i
Office of Financing
202 - 21-9_- 3350
••
TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice,
invites tenders for two series of Treasury bills totaling
approximately S21,600 million, to be issued October 3, 1991.
This offering will provide about S3,250 million of new cash for
the Treasury, as the maturing bills are outstanding in the amount
of S 18,347 million. Tenders will be received at Federal Reserve
Banks and Branches and at the Bureau of the Public Debt, Washington, D. C. 20239-1500,
Monday, September 30, 1991, prior to
12:00 noon for noncompetitive tenders and prior to 1:00 p.m.,
Eastern Daylight Saving time, for competitive tenders. The two
series offered are as follows:
bills (to maturity date) for approximately
S 10,800 million, representing an additional amount of bi"lls
dated
July 5, 1991
and to mature
January 2, 1992
(CUSIP No. 912794 XT 6), currently outstanding in the amount
of S10,727 million, the additional and original bills to be
freely interchangeable.
9~day
18~day bills for approximately S 10,800 million, to be
dated October 3, 1991
and to mature April 2, 1992
(CUSIP
No. 912794 YG 3).
The bills will be issued on a discount basis under competitive and noncompetitive bidding, and at maturity their par amount
will be payable without interest. Both series of bills will be
issued entirely in book-entry form in a minimum amount of SlO,OOO
and in any higher $5,000 multiple, on the records either of the
Federal Reserve Banks and Branches, or of the Department of the
Treasury.
The bills will be issued for cash and in exchange for
Treasury bills maturing
October 3, 1991.
Tenders from Federal
Reserve Banks for their own account and as agents for foreign
and international monetary authorities will be accepted at
the weighted average bank discount rates of accepted competitive tenders. Additional amounts of the bills may be issued to
Federal Reserve Banks, as agents for foreign and international
monetary authorities, to the extent that the aggregate amount
of tenders for such accounts exceeds the aggregate amount of
maturing bills held by them. Federal Reserve Banks currently
hold S 611
million as agents for foreign and international
monetary authorities, and S4,636 million for their own account.
Tenders for bills to be maintained on the book-entry records
of the Department of the Treasury should be submitted on Form
PO 5176-1 (for 13-week series) or Form PO 5176-2 (for 26-week
series) •
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, paqe 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
competitive tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment SUbmitted and the actual
issue price as determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.
1/91
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly .
reserves the right to accept or reject any or all tenders, ~n
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from anyone
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bids
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury -Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.
8/89
TR EASU RY_iBJij,WS
Department of the Treasury • washlrr~~~~r p~. ~8 Telephone 588-2041
FOR IMMEDIATE RELEASE
September 25, 1991
CONTACT: BOB LEVINE
IE?"!. OF TI-;E '~:~(:2\Q2~Y 566-2041
UNITED STATES AND SRI LANKA SIGN PROTOCOL TO INCOME TAX TREATY
The Treasury Department announced today the signing, on
September 20, in Colombo of a Protocol amending the pending
income tax treaty between the United states and Sri Lanka. The
Protocol was signed for the united States by Ambassador Marion v.
Creekmore, Jr. and for Sri Lanka, by Ramalingam Paskaralingam,
Secretary, Ministry of Finance~ The pendIng treaty was signed on
March 14, 1985, and was sent to the Senate for its advice and
consent to ratification. The treaty, however, was never
considered by the Senate because the passage of the Tax Reform
Act of 1986 required certain changes to be made in the treaty.
The Protocol incorporates those changes.
The principal sUbstantive tax benefits provided by the 1985
treaty to residents of one country deriving income from the other
(e.g., reduced withholding tax rates on dividends, interest and
royalties, thresholds for the taxation by one country of business
profits or personal services income earned by a resident of the
other) are essentially unchanged by the Protocol. The most
important changes affected by the Protocol include the exemption
at source of income from the rental or use of containers in
international traffic, the preservation by the united states of
the right to impose the branch taxes on residents of Sri Lanka
doing business in the united States, and the sUbstitution of the
anti-treaty-shopping rules in the 1985 treaty with the more
comprehensive and flexible rules that have been used in more
recent u.S. tax treaties.
The Protocol will be sent to the Senate for its consideration
along with the 1985 treaty. The treaty, as amended by the
Protocol, will enter into force upon the exchange of instruments
of ratification.
Its provisions will affect taxes withheld at
source, for amounts paid or credited on or after the first day of
the second month following entry into force.
In respect of other
taxes, it will have effect for taxable periods beginning on or
after the first day of January of the year in which the treaty
enters into force.
Copies of the Protocol may be obtained from the Office of
Public Affairs, Treasury Department, room 2315, Washington, D.C.
20220, telephone (202) 566-2041.
NB-1471
Department of the Treasury • Bureau of the Public D~
FOR IMMEDIATE RELEASE
September 25, 1991
L-6 Wa~h~nsjo+. @q 20239
CONTACT: Office of Financing
I::' ? T. C; F (H E Ti; r~ 1:. SIJ ;('( 2 02 - 219 - 335
°
RESULTS OF TREASURY'S AUCTION OF 5-YEAR NOTES
Tenders for $9,290 million of 5-year notes, Series T-1996,
to be issued September 30, 1991 and to mature September 30, 1996
were accepted today (CUSIP: 912827C59).
The interest rate on the notes will be 7 %. The range
of accepted bids and corresponding prices are as follows:
Low
High
Average
Yield
7.04%
7.05%
7.05%
Price
99.834
99.792
99.792
$50,000 was accepted at lower yields.
Tenders at the high yield were allotted 63%.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
-
Received
37,203
27,525,093
18,337
42,494
336,903
46,119
1,016,709
46,268
20,168
54,553
18,587
55-2,747
79,118
$29,794,299
Accepted
36,278
8,639,865
18,337
42,479
95,053
32,419
164,818
36,783
20,168
44,543
18,587
61,647
79,108
$9,290,085
The $9,290 million of accepted tenders includes $737
million of noncompetitive tenders and $8,553 million of
competitive tenders from the public.
In addition, $565 million of tenders was awarded at the
average price to Federal Reserve Banks as agents for foreign and
international monetary authorities. An additional $200 million
of tenders was also accepted at the average price from Federal
Reserve Banks for their own account in exchange for maturing
securities.
tJB.-·1472
G
DEPARTMENT OF THE TREASURY
BUREAU OF THE PUBLIC DEBT
WASHINGTON. D.C. 20239-0001
~
AUCTION YIELD TO PRICE CONVERSION TABLE
7% S-YEAR TREASURY NOTES OF SERIES T-1996
912827 C5 9
CUSIP NUMBER:
SEPTEMBER 25, 1991
AUCTION DATE:
SEPTEMBER 30, 1991
SETTLEMENT DATE:
SEPTEMBER 30, 1996
MATURITY DATE:
MARCH 31, 1992
FIRST INT. PAYMENT:
INTEREST (COUPON) RATE:
7.000%
YIELD%
PRICE
YIELD%"
PRICE
YIELD%
PRICE
YIELD%
PRICE
6.20
6.21
6.22
6.23
6.24
6.25
6.26
6.27
6.28
6.29
6.30
6.31
6.32
6.33
6.34
6.35
6.36
6.37
6.38
6.39
6.40
6.41
6.42
6.43
6.44
6.45
6.46
6.47
6.48
6.49
6.50
6.51
6.52
6.53
6.54
6.55
6. '56
6.57
6.58
6.59
103.395
103.351
103.308
103.265
103.222
103.179
103.135
103.092
103.049
103.006
102.963
102.920
102.877
102.834
102.791
102.748
102.705
102.662
102.619
102.576
102.533
102.490
102.447
102.405
102.362
102.319
102.276
102.234
102.191
102.148
102.106
102.063
102.020
101.978
101.935
101.893
101.850
101.808
101.765
101.723
6.60
6.61
6.62
6.63
6.64
6.65
6.66
6.67
6.68
6.69
6.70
6.71
6.72
6.73
6.74
6.75
6.76
6.77
6.78
6.79
6.80
6.81
6.82
6.83
6.84
6.85
6.86
6.87
6.88
6.89
6.90
6.91
6.92
6.93
6.94
6.95
6.96
6.97
6.98
6.99
101.680
101.638
101.595
101.553
101.511
101.468
101.426
101.384
101.341
101.299
101.257
101.215
101.173
101.130
101.088
101.046
101.004
100.962
100.920
100.878
100.836
100.794
100.752
100.710
100.668
100.626
100.584
100.542
100.501
100.459
100.417
100.375
100.333
100.292
100.250
100.208
100.166
100.125
100.083
100.042
7.00
7.01
7.02
7.03
7.04
7.05
7.06
7.07
7.08
7.09
7.10
7.11
7.12
7.13
7.14
7.15
7.16
7.17
7.18
7.19
7.20
7.21
7.22
7.23
7.24
7.25
7.26
7.27
7.28
7.29
7.30
7.31
7.32
7.33
7.34
7.35
7.36
7.37
7.38
7.39
100.000
99.958
99.917
99.875
99.834
99.792
99.751
99.709
99.668
99.627
99.585
99.544
99.503
99.461
99.420
99.379
99.337
99.296
99.255
99.214
99.173
99.131
99.090
99.049
99.008
98.967
98.926
98.885
98.844
98.803
98.762
98.721
98.680
98.639
98.598
98.557
98.517
98.476
98.435
98.394
7.40
7.41
7.42
7.43
7.44
7.45
7.46
7.47
7.48
7.49
7.50
7.51
7.52
7.53
7.54
7.55
7.56
7.57
7.58
7.59
7.60
7.61
7.62
7.63
7.64
7.65
7.66
7.67,
7.68
7.69
7.70
7.71
7.72
7.73
7.74
7.75
7.76
7.77
7.78
7.79
98.353
98.313
98.272
98.231
98.190
98.150
98.109
98.069
98.028
97.987
97.947
97.906
97.866
97.825
97.785
97.744
97.704
97.663
97.623
97.583
97.542
97.502
97.462
97.421
97.381
97.341
97.301
97.260
97.220
97.180
97.140
97.100
97.060
97.020
96.979
96.939
96.899
96.859
96.819
96.779
TREASU R'l~,']ij EwS
D811artment of the T ••asurv • Washington,
D.C•• Telephone 5&&·2041
r, -:. /. . .
c ... · -:'::'! -,',
~4
C" ,-
~t
For Release Upon Delivery
Expected at 1:00 PM
September 26, 1991
STATEMENT OF THE HONORABLE
JEROME H. POWELL
ASSISTANT SECRETARY OF THE TREASURY
FOR DOMESTIC FINANCE
BEFORE THE
SUBCOMMITTEE ON OVERSIGHT
COMMITTEE ON WAYS AND MEANS
UNITED STATES HOUSE OF REPRESENTATIVES
SEPTEMBER 26, 1991
I appreciate this opportunity to discuss the Treasury
security auction process, the oversight and regulation of the
Government securities~market, Salomon Brothers' recently admitted
violations of auction rUles, and that firm's possible violations
of securities laws, antitrust laws, general fraud statutes, SEC
regulations, and New York Stock Exchange rules. I also am
pleased to address issues relating to public debt management and
government securities market regulation.
While regulation of the government securities markets can be
improved, the responsibilities of the various regulators are
reasonably well-defined. With respect to the auctions, Treasury
determines the amounts and maturities of the securities to be
auctioned "and sets the auction rules. The Federal Reserve
conducts the auctions a~ Treasury'~ agent, and together the
Treasury an~ the Federal Re~erve review bids for compliance.
Both the Treasury and thC!" Federal Reserve have powerful, but
limited, sanctions available to them to punish violators of these
rules. The Treasury, for example, has forbidden Salomon Brothers
to bid in auctions on behalf of its customers. Securities fraud
in the form of deliberate violations of auction rules accompanied
by false statements to the Treasury and antitrust violations are
more generally the enforcement responsibility of the selfregulatory organizations, the SEC, and the Justice Department.
In addition, price manipUlation and other types of secondary
market fraud are also the enforcement responsibility of the SEC
and the Justice Department.
We believe that these agencies' legal authority to prosecute
fraud and antitrust violations in Treasury auctions is beyond
question. However, at a minimum, Treasury supports modifications
to current law to strengthen enforcement of Treasury auction
~B-1473
2
rules by providing that violations of these rules would also
constitute violations of the securities laws.
All government securities brokers and dealers, including
those that are financial institutions, are subject to regulation
pursuant to the Government securities Act of 1986. Under that
Act, the Treasury was given the role as the rulemaker for
government securities brokers and dealers.
In its rulemaking
capacity, Treasury issued rules for government securities brokers
and dealers that adopted many of the existing SEC regulations
that already applied to registered brokers and dealers. The
responsibility for enforcing these rules was given to the SEC and
the self-regulatory organizations for non-financial institution
brokers and dealers and to the appropriate Federal banking
agencies for financial institutions.
Salomon Brothers is, therefore, subject to comprehensive
regulation. As a registered broker/dealer and member firm of the
New York Stock Exchange, it is subject to all SEC and NYSE rules,
as well as Treasury rules under the Government Securities Act.
Based on the recent admissions by Salomon Brothers, it is
possible that the firm violated recordkeeping and customer
confirmation requirements, as well as other requirements that the
SEC and the NYSE have full authority to enforce. Moreover, any
allegations of market manipulation or securities fraud, if true,
would be a violation of securities laws that the SEC has the
authority to enforce.
Like all persons and entities, Salomon
Brothers and its employees are subject to the antitrust laws and
general fraud statutes. Violations of these provisions could
result in criminal prosecution by the Justice Department.
As a general matter, the current regulatory structure has
usually worked well. And yet the recent revelations of
intentional wrongdoing have raised legitimate concerns about the
integrity of the marketplace and about the adequacy of regulation
and supervision. The ongoing investigations of misconduct are
broad ranging. We believe that it is appropriate to conduct an
equally careful review of the adequacy of current regulation,
with the goal of maintaining the highest standards of integrity
while also preserving the liquidity, efficiency, and depth of the
government securities market.
We would expect to complete such a review and to report its
results to Congress in early December.
In the interim period, we
believe that all parties involved -- including the regulators,
market participants, and the Congress -- should exercise
restraint. The market for U.S. government securities is the
largest, most liquid, and most important financial market in the
world.
It is the means by which we finance the national debt.
Moreover, it is the bedrock of the world financial system.
It is
essential that the integrity of this market be beyond question
and that there be adequate regulation to ensure that integrity.
3
But it is also essential that hasty action not impair the
liquidity and competitiveness of U.s. financial markets. To put
the cost implications to the taxpayer in context, note that a one
basis point increase in the interest cost on outstanding
marketable Treasury securities amounts to approximately a $230
million increase in annual interest costs.
In my statement, I will first discuss Treasury auctions,
including the role of the primary dealers and significant auction
rules, then present a chronology from Treasury's perspective of
developments concerning the February and May auctions, and
conclude with a discussion of policy and regulatory issues.
I.
Backqround on Treasury Issuance of Marketable securities
Treasury Auctions
As the chart accompanying my statement shows, the Treasury
Department has auctioned large amounts of marketable Treasury
securities in the past ten years. In 1981, Treasury sold over
$600 billion of marketable Treasury securities; by 1990, this
figure had increased to over $1.5 trillion. As long as there is
a budget deficit, the amount of securities Treasury is required
to sell will tend to increase, not only to raise funds to cover
the shortfall between receipts and expenditures, but also to
refinance maturing debt.
The massive Treasury financing requirements have been
accomplished in an extraordinarily smooth and efficient manner.
In the face of the government's large demands on financial
markets, interest rates, nevertheless, have trended down over the
last ten years. Treasury believes that the best way to achieve
the goal of minimizing borrowing costs to the U.s. taxpayer is to
minimize surprises to the market while having in place procedures
to ensure the fairness and integrity of the market for Treasury
securities.
The Treasury Department has a regular and predictable
schedule for offering marketable securities, which is well known
to market participants. The Treasury makes an announcement
as far in advance as is practical any time there is a change in
the usual pattern, so that the market can digest the information
and prepare for the offerings.
The Treasury Department provides a large amount of
information to the public that helps investors estimate the
amount that the Treasury will borrow and the types of securities
that the Treasury will offer. At the end of the first month of
each calendar quarter, the Treasury holds a press conference to
announce the securities to be offered in the regular mid-quarter
financing operation. At the press conference, the Treasury also
4
announces estimates of the Treasury's borrowing needs for the
current calendar quarter and the succeeding three months.
Currently, the Treasury sells 13- and 26-week bills every
week and 52-week bills every four weeks. Two-year and five-year
notes are auctioned every month for settlement at the end of the
month. Seven-year notes are issued in the middle of the first
month of each calendar quarter. The quarterly financings, which
settle on the 15th of February, May, August, and November,
typically consist of three- and ten-year notes and a thirty-year
bond. These regularly scheduled issues, amount to about 157
separate securities auctions each year.
The details concerning an offering of marketable securities
are announced about one week prior to the auction, and the
auction occurs from a few days to about one week prior to the
settlement date, depending upon holidays and other vagaries of
the calendar.
In a Treasury auction, competitive bidders submit tenders
stating the yield (discount rate for bill auctions) at which the
bidder wants to purchase the securities. The bids are ranked
from the lowest yield to the highest yield required to sell the
amount offered to the public. Competitive bidders whose tenders
are accepted pay the price equivalent to the yield that they bid.
1 The Treasury also offers cash management bills from time
to time to raise funds to cover low points in the Treasury cash
balance. The maturity dates for cash management bills usually
coincide with the regular Thursday maturities of regular weekly
and 52-week bills. Short-term cash management bills maturing in
a few days or a few weeks may be issued when the Treasury's cash
balance is seasonally low. For example, cash management bills
may be issued in early April, before the April 15 tax payment
date, and mature later in April, when cash balances are at
seasonal highs. Short-term cash management bills may be
announced, auctioned, and settled in a period as short as one
day, if necessary, to ensure that the government does not run out
of cash. To shorten the time for the auction and reduce the cost
of issuing short-term cash management bills, they usually are
issued only in large minimum purchase amounts -- $1 million or
more -- and noncompetitive tenders are not accepted.
Longer-term cash management bills are also issued from time
to time. For example, the Treasury's borrowing requirement in
the final calendar quarter of the year is typically larger than
for the April-June quarter, when seasonally high tax payments are
due. Cash management bills maturing after the April 15, 1991 tax
date were issued in November 1990 to manage Treasury borrowing in
light of this seasonal pattern.
5
In an auction of Treasury notes or bonds, the coupon rate is
determined after the deadline for receipt of competitive tenders,
based on the average yield of accepted competitive bids.
Noncompetitive bids for up to $1 million from the public are
awarded in full at the weighted average yield of accepted
competitive bids. The ability to bid on a noncompetitive basis
ensures that smaller investors, who may not be able to obtain
current market information, can purchase securities at a current
market yield. Noncompetitive bidding eliminates the risk that a
prospective investor might bid a yield that is too high and not
obtain the securities desired or too low and pay too much for the
securities. Noncompetitive bidding also benefits the Treasury,
since the larger the amount awarded noncompetitively, the less
needs to be awarded to competitive bidders at successively higher
yields. It also serves the goal of achieving a broad
distribution of Treasury securities.
To participate in the auction, any potential investor may
submit tender forms to any Federal Reserve Bank or branch, which
act as Treasury's agent in the auction, or to the Treasury's
Bureau of the Public Debt. The tenders must be received before
12:00 noon, Eastern time, for noncompetitive bids and 1:00 p.m.,
Eastern time, for competitive bids. Currently, tenders are
received at 37 sites. Typically, between 75 and 85 bidders
submit competitive tenders in Treasury's auctiors for securities
to be held in the commercial book-entry system.
Additionally,
between 850 and 900 bidders submit noncompetitive tenders in
Treasury auctions for securities to be held in the commercial
book-entry system. Also, on average there are about 19,000
noncompetitive tenders per ruction for securities to be held in
the Treasury Direct system.
The commercial book-entry system for Treasury securities
is operated by the Federal Reserve Banks, acting as Treasury's
fiscal agents. The Federal Reserve maintains book-entry accounts
for depository institutions and other entities such as government
and international agencies and foreign central banks. In their
book-entry accounts at the Federal Reserve, the depository
institutions maintain their own security holdings and holdings
for customers, which include other depository institutions,
dealers, brokers, institutional investors, and individuals. In
turn, the depository institution's customers maintain accounts
for their customers. Broker-dealers are currently not permitted
to maintain securities accounts directly with the Federal
Reserve.
2
The Treasury Direct system is designed primarily for those
who wish to hold Treasury securities to maturity; no custodial or
transaction fees are charged. At the end of 1990, 979,522
investors held 2.2 million security accounts in Treasury Direct
3
6
Depository institutions and primary dealers may submit
either competitive or noncompetitive tenders for their own
account and for the account of customers. All other entities or
individuals may submit either competitive or noncompetitive
tenders only for their own accounts. Depository institutions and
primary dealers are required to submit customer lists when
submitting bids for the accounts of customers. Customer lists
for competitive bids must be submitted either with the tender or
by the close of the auction. customer lists for noncompetitive
tenders must be received prior to the issue date.
The Federal Reserve Banks review the tenders for accuracy,
completeness, and compliance with Treasury's rules and
guidelines. The Federal Reserve Banks consult with the Treasury
Department prior to taking any action on questionable tenders
which could materially affect the results of the auction. The
Treasury reserves the right to reject any tender.
Once it has been determined that the tenders have complied
with Treasury's rules, the Federal Reserve Banks compile the
auction summaries. The noncompetitive summary shows the total
amount of noncompetitive bids received by each Federal Reserve
district. The competitive bid summary shows the total amount bid
at each yield. The summaries include information on specific
bidders only when needed to apply the 35% limitation on the
amount awarded or bid at a given yield by a single bidder or when
specific bids appear irregular. This information is forwarded to
the Treasury's Bureau of the Public Debt.
The Bureau of the Public Debt accepts noncompetitive bids in
full and then determines the yields that are to be accepted on
competitive bids. The amount awarded at the high yield is
prorated based on the amount bid at that yield to obtain the
offering amount.
Auction results are released to the public around 2:00 p.m.,
Eastern time, on the auction day.
Role of the primary Dealers
In order to conduct monetary policy, the Federal Reserve
buys and sells government securities in the secondary market.
The Federal Reserve determines with which dealers it will trade,
and these designated dealers, currently 39 in number, are called
primary dealers. Despite the name, designation as a "primary
dealer" refers to a secondary market relationship with the Open
Market Desk of the Federal Reserve System, not a relationship
with the Treasury. The Treasury does not determine which dealers
with a par value of nearly $59 billion.
7
can be primary dealers, nor does it set any criteria for this
designation.
The relationship between the Federal Reserve Bank of New
York and the primary dealers is a business relationship, not a
formal regulatory one. In order to assure itself of the
creditworthiness of the primary dealers, the Federal Reserve Bank
of New York requires that primary dealers submit reports to it
and that they permit FRBNY staff to inspect their operations and
books and records.
In addition to requirements that the primary dealers make
markets in all maturity sectors of Treasury securities and that
their share of the market meet certain minimums, the Federal
Reserve expects that primary dealers demonstrate their continued
commitment to the market for government securities by
participating in Treasury auctions.
Because of their importance to the government securities
market, their consistent participation in Treasury auctions, and
the monitoring of their creditworthiness by the FRBNY, primary
dealers share with depository institutions two privileges in the
auctions. As mentioned, only primary dealers and depository
institutions can submit bids for customers as well as for
themselves. In addition, tenders from primary dealers are
accepted without deposit, as is also the case for depository
institutions, states, political subdivisions or instrumentalities
thereof, public pension and retirement and other public funds,
international organizations in which the united states holds
membership, and foreign central banks and foreign states. Others
must pay in full at the time the tender is submitted or, in the
case of notes and bonds, present a guarantee from a commercial
bank4 0r primary dealer of 5 percent of the par amount applied
for.
That there is a group of dealers with a commitment to the
government securities market is a benefit to the Treasury, which
offers securities every week of the year. However, it needs to
be emphasized that the auction process is open; and that others
besides primary dealers can and do participate, either directly,
or if they choose, through primary dealers or depository
institutions.
4 Treasury also permits tenders to be received without
deposit if there is a preexisting agreement with a depository
institution on file at the Federal Reserve Bank that authorizes
the Federal Reserve Bank to debit the reserve account of the
depository institution on the issue date for the securities
purchased by the bidder.
8
The 35% Rule
For the past 29 years, the Treasury has limited the maximum
amount of securities awarded to a single bidder in a Treasury
offering. The primary reasons for the limitation are to ensure
broad distribution of Treasury securities and to make it less
likely that ownership of Treasury securities becomes concentrated
in a few hands as a result of the auction.
The limitation has evolved over the years. It was first set
at 25 percent of the total offering amount and applied only to 3month and 6-month Treasury bills. Today, for bills, notes, and
bonds, the limitation is 35 percent of the public offering. The
application of the 35 percent limit to any bidder includes
consideration of positions in the futures, forward, and whenissued markets. The same limitation is also applied to the
maximum amount Treasury will recognize as having been tendered at
any particular yield.
The genesis of the maximum award limitation was the unusual
occurrence of a single bidder tendering what would have been a
successful bid for an exceptionally high proportion of the 13week bills auctioned on August 27, 1962 and issued on August 30,
1962. On that occasion, secretary of the Treasury Douglas Dillon
invoked his right to reject any or all tenders, in whole or in
part, because of concern about "a possible market disturbance that
could have resulted from the disproportionate allotment. On
August 28, 1962, the Treasury announced that "no single bidder
would be awarded more than one quarter of the total supply of
bills offered in either the 3- or 6-month bill maturities."
Subsequently, it became generally understood and accepted
throughout the market as applying to all Treasury offerings of
marketable securities.
The rule remained unmodified until May 14, 1979, when two
rule changes were announced. First, the maximum award to any
single bidder in Treasury security offerings was limited to 25
percent of the total combined amounts of the competitive and
noncompetitive awards to the public. This rule excluded from the
25 percent calculation those Treasury securities allotted to the
Federal Reserve in exchange for maturing securities for its own
account and for the accounts of foreign official institutions.
It also excluded Treasury securities allotted to foreign official
institutions through the Federal Reserve for new cash.
This change was necessary because, by 1979, the size of bids
from foreign Official accounts through the Federal Reserve, had
grown markedly. As a consequence, the amount of an offering
remaining for the "public" had shrunk significantly, despite the
general increase in the size of Treasury offerings.
9
The second modification announced on May 14, 1979, was the
requirement, in effect today, that, beginning on June 18, 1979,
all bidders in bill auctions report on the tender form the amount
of any net long position in excess of $200 million in the bills
being offered. This net long position is taken into account to
compute whether awards to any single bidder would exceed the
award limit. Such positions include when-issued, futures, and
forward positions in the bill and holdings of the outstanding
bill with the same maturity date as the new offering. Also, a
primary dealer bidding on behalf of a customer was required to
submit a separate tender for the customer whenever the customer's
net long position in the bill being offered exceeded $200
million. This new rule recognized the growing importance of
when-issued trading and trading in Treasury bill futures. A
similar rule for notes and bonds became effective on December 30,
1981.
The Treasury announced on September 8, 1981, an increase in
the limit on the maximum amount anyone bidder may purchase in a
bill, note, or bond auction to 35% from 25% of the combined
amounts of competitive and noncompetitive securities available to
the public. This was done to lessen the restrictive effect of
the modification made in 1979.
A further modification to the 35% rule was made on July 12,
1990. While continuing to permit bidders to tender for
securities at multiple yields, the Treasury announced that at any
one yield the Treasury will not recognize amounts tendered in
excess of 35 percent of the public offering. This rule change
was made necessary because several dealers began to place very
large bids, even greater than the total size of the offering, at
what turned out to be the high or stop-out yield. Because the
Treasury used the amount bid to prorate the securities awarded at
the highest yield among all bidders at that yield, a dealer who
guessed right about the stop-out yield and submitted a very large
bid could obtain a large proportion of the auction at the most
favorable yield. The rule change put a stop to this practice and
resulted in a more equitable distribution for bids awarded at the
highest accepted yield.
This abuse of the proration methodology occurred in the June
27, 1990, auction of four-year notes by a primary dealer who was
directly requested not to repeat the practice. This same dealer,
along with another bidder, however, placed bids for extremely
large amounts at a July 10 auction of Resolution Funding
Corporation bonds. This time the amounts were cut back for
purposes of proration at the stop-out yield. Two days later, in
order to put an end to this practice, Treasury announced the
rule change limiting the amount recognized as bid at anyone
yield to 35% of the public offering.
10
other Treasury Auction Rules
Sinqle Bidder Guidelines. On June 1, 1984, the Treasury
issued guidelines concerning the definition of a single bidder
for the purpose of the $1 million limitation on noncompetitive
bids. These guidelines are also used to determine what
constitutes a single bidder for purposes of the 35 percent
limitation.
When-Issued Tradinq Prior to Auction. Pre-auction trading
in Treasury notes and bonds was effectively prohibited from 1941
to 1975. Pre-auction activity in Treasury bills has never been
prohibited, except in the case of noncompetitive bidders. Until
1975, regular Treasury announcements of note and bond auctions
included a clause banning from the auction any participants who
engaged in purchasing, selling or making agreements on an issue
before the auction time and date.
Between February 1975 and July 1977, however, Treasury
announcements no longer carried this clause as it was thought to
be unnecessary. This allowed a temporary when-issued market in
Treasury notes and bonds prior to auction to develop. with the
2-year note auction of July 1977, however, Treasury once again
included the provision against pre-auction trading, citing
"undesirable speculative activity." This prohibition was
effective only for coupon securities.
Treasury decided to allow auction participants to engage in
pre-auction trading in order to "eliminate an unnecessary
regulation" beginning with the August 1981 issue of two-year
notes. Since then, when-issued trading has come to be considered
an important and efficient mechanism for reducing the
uncertainties surrounding Treasury auctions.
The only significant rule change subsequent to 1981 was an
October 1983 Treasury announcement prohibiting pre-auction
trading in securities awarded to noncompetitive bidders. This
prohibition applies to all Treasury securities and was intended
to prevent participants from garnering disproportionate shares of
an issue through noncompetitive auction bidding.
Bidder certifications. Bidders are required to certify on
the tender form that their net long position in the security
being auctioned is not in excess of $200 million, or, if it is in
excess, the amount of the net long position. Depository
institutions and primary dealers must certify that any bids
submitted on behalf of customers have been entered under the same
conditions, agreements, and certification set forth in the tender
form.
11
II. Chronoloqy of Recent Events Involvinq Salomon Brothers
The February 1991 Five-Year Note Auction
The Treasury's Bureau of the Public Debt received a call at
approximately 1:30 p.m. February 21, 1991, from the Federal
Reserve Bank of New York concerning the application of the 35%
limitation at a single yield in connection with the five-year
note auction that day. The FRBNY requested that a determination
be made regarding two separate bid submissions from what appeared
to be a single bidding entity -- S.G. Warburg & Co., Inc. (S.G.
Warburg).
Salomon Brothers had submitted a tender for a customer
identified on the tender as Warburg Asset Management. S.G.
Warburg separately submitted a tender at the same yield for its
dealer account. Combined, the two bids exceeded 35% of the
public offering amount at a single yield by one bidder.
Prior to calling the Treasury, the Federal Reserve Bank of
New York had called Salomon Brothers concerning the Warburg Asset
Management bid. Salomon Brothers stated that they had made a
mistake and that Warburg Asset Management was actually Mercury
Asset Management.
The Treasury decided to accept both tenders. However, in an
effort to prevent future auction delays and any potential for
confusion, uncertainty, and inequity in the handling of bidders,
the Treasury, in consultation with the Federal Reserve Bank of
New York, decided to investigate the relationship of Mercury
Asset Management and S.G. Warburg to determine whether these
bidders constituted separate and distinct entities for bidding
purposes.
The Treasury discussed the issue with Tom Murphy of Salomon
Brothers and with an officer of S.G. Warburg. It was determined
that Mercury Asset Management, a British company, is majority
owned by the same holding company that owns the British
subsidiary that owns the U.S. firm of S.G. Warburg.
After reviewing the facts of the case, the Treasury decided
that S.G. Warburg and Mercury Asset Management would be treated
as a single bidder for purposes of applying the 35% limitation
rule in future auctions. The decision was based primarily on the
fact that the Treasury's guidelines for determining a single
bidding entity are based on the principle that bidders that share
common investment advice and management control are viewed as a
single entity.
The Treasury's Bureau of the Public Debt sent a letter dated
April 17, 1991 to Mercury Asset Management which provided details
concerning the two bids submitted in the February five-year note
12
auction and Treasury's decision to treat the two entities as a
single bidder for purposes of the 35% limitation rule. copies of
this letter were sent to officers of S.G. Warburg, S.G. Warburg,
PLC (the British parent company), and the Federal Reserve Bank of
New York. In addition, a copy of the letter was sent to Mr. Paul
Mozer of Salomon Brothers.
As Salomon Brothers has now admitted, the bid from Mercury
Asset Management was unauthorized. The securities in question
were in fact purchased by Salomon Brothers. It appears from
Salomon Brothers' public statements that the letter from Treasury
played an important role in Mr. Mozer's decision to inform senior
management of the fraudulent bid. Salomon Brothers did not
inform the government of this violation until August 9.
Although both Mercury and S.G. Warburg replied to the
Treasury's April 17 letter on April 25 and May 22, respectively,
they did not inform the Treasury that the Mercury bid was
unauthorized. Treasury first learned of this fact from Salomon
Brothers on August 9. The Treasury and the Federal Reserve met
with Warburg officials on September 12 to discuss this matter.
The Hay TWo-Year Note Auction
The May two-year note auction also attracted attention at
the Treasury.
It soon became apparent after the auction of $12.25 billion
of two-year notes on May 22, 1991, that a squeeze had developed
in the issue. The yield on the two-year notes was out of line
with market rates and the notes were "on special" in the
repurchase agreement market. (In other words, market
participants desiring to borrow temporarily the two-year notes
had to accept a significantly lower interest rate on funds they
deposited with their counterparties in effect as collateral than
the prevailing repo rate.)
A number of market participants contacted the Treasury
Department to point out this situation. Treasury Department
officials also had details concerning the bids received and
awarded to primary dealers and their customers. It appeared from
this information that the squeeze had developed because Salomon
Brothers and some of its customers had bid more aggressively than
others and had been awarded the bulk of the securities. Treasury
Department officials thought the situation serious enough to
warrant investigation by the Securities and Exchange Commission.
In late May, the Treasury told the Division of Market Regulation
and the Division of Enforcement of the SEC about the problems
stemming from the May auction and provided the SEC information
concerning auction awards. The SEC promptly began investigating
the matter. In addition, the Antitrust Division of the Justice
13
Department requested information pertinent to its own
investigation of the squeeze.
On June 4, a Treasury Department official discussed
Treasury's concerns with Mr. Paul Mozer. On June 10, Mr. John
Gutfreund, chairman of Salomon Brothers, met with Treasury
officials to explain the firm's point of view with respect to the
May two-year notes. He did not mention the fraudulent bid in the
February auction.
The Treasury was concerned about the squeeze in the May twoyear note for several reasons. First, any such squeeze goes
against the goal of achieving a broad distribution of securities.
If dealers are not reasonably comfortable that they can obtain
and deliver securities that they have sold prior to the auction,
they will be less likely to participate in pre-auction
distribution of new issues. Second, while squeezes can occur for
reasons other than market manipulation, squeezes in Treasury
securities that appear to be deliberately engineered would likely
cause some market participants to question the fairness and
integrity of the government securities market. If doubt
concerning the fairness of Treasury auctions persists over the
longer term, the number of active participants in the government
securities market could be reduced. The resulting decline in
participation in Treasury auctions and in the liquidity of the
secondary market could raise Treasury borrowing costs. Finally,
Treasury was concerned that there may have been possible
violations of securities and other laws in the government
securities market.
Subsequent Developments
On August 9, Mr. Gutfreund, in a telephone call to Under
Secretary Robert R. Glauber, informed him of the unauthorized
Mercury bid and his knowledge of this since April.
Also, on August 9, Treasury officials were provided an
advance copy of Salomon Brothers' announcement released later
that day, in which the firm admitted committing violations of the
35% rule in the December 1990 auction of four-year Treasury
notes, the February 1991 auction of five-year notes, and the May
1991 auction of two-year notes and announced the suspension of
two managing directors responsible for Treasury securities
trading and two other employees.
On August 14, Treasury staff, along with staff from other
concerned government agencies, attended meetings at the Justice
Department and at the SEC with the law firm of Wachtell, Lipton,
Rosen & Katz, which was representing Salomon Brothers in this
matter. The Wachtell, Lipton lawyers detailed the results of
their investigation of the irregularities and rule violations in
Treasury auctions as well as related matters. Also, on
14
August 14, Salomon Brothers publicly
rule violations in Treasury auctions
management had been informed in late
in the February 1991 auction but had
government officials of this.
announced further details of
and the fact that the senior
April of an unauthorized bid
not informed the appropriate
After consulting with the Federal Reserve and the SEC, the
Treasury Department announced on the morning of Sunday,
August 18, that, in light of Salomon Brothers' auction rule
violations, it would for an indeterminate time not allow the firm
to participate in auctions of Treasury securities. This penalty
was modified later in the day after Salomon Brothers' board
meeting resulted in the immediate resignation of three senior
officials of Salomon Brothers, the firing of the two suspended
managing directors, and the placing of effective management
control of the firm in the hands of Mr. Warren E. Buffett. Mr.
Buffett assured Secretary Brady that appropriate controls were
being put in place to ensure that there would be no future rule
violations in Treasury auctions. Consequently, Secretary Brady
decided to allow Salomon Brothers to bid in auctions for its own
account but not to allow it to submit bids for its customers.
The Treasury was subsequently provided specific information
concerning the procedures and controls Salomon Brothers has put
in place to ensure that there would be no violation of auction
rules. The new procedures and controls appear to be a good faith
effort to prevent future rule violations.
The Treasury Department is assisting the SEC and the Justice
Department in their continuing investigations of Salomon
Brothers' activities in the government securities market. While
the Treasury Department has no enforcement authority in the area
of securities or antitrust law, the Treasury can help these two
agencies with its expertise concerning the market for Treasury
securities.
III. Policy and Regulatory Issues
The admissions that Salomon Brothers has made have caused us
to reexamine various policy issues concerning both the issuance
of Treasury securities and regulation of the government
securities markets. I am pleased to share with the Subcommittee
the Treasury Department's current thinking with respect to
changes in the auction process, including automation, large
customer certification, and "Dutch auctions," recent criticisms
of Treasury debt management, the Treasury Borrowing Advisory
Committee, and Government Securities Act issues.
Changes in the Auction Process
Automated bidding. We believe that automation of the
auction process will make it more efficient, result in fewer
15
errors, facilitate broader participation, and assist in
monitoring of compliance with auction rules. Consequently, the
Treasury and the Federal Reserve have made the development of a
system to permit automated bidding a high priority.
A project is underway at the Federal Reserve Bank of Kansas
City that will allow medium and smaller depository institutions
and other institutional bidders to submit their bids to the
Federal Reserve Banks electronically. We expect this project to
be completed by the second quarter of 1992.
There is also a project underway at the Federal Reserve Bank
of New York that will enable electronic bidding by large bidders.
This project is currently in the design phase.
Large customer certifications. The Treasury and the Federal
Reserve Bank of New York will develop a system to require
customers who make large winning bids through primary dealers or
depository institutions to verify in writing their bids prior to
the settlement date. This will prevent firms from putting in
unauthorized bids in order to circumvent the 35 percent rule.
Already, the Federal Reserve Bank of New York has begun
making spot checks with customers of primary dealers to verify
the legitimacy of bids submitted for customer accounts.
"Dutch" auctions. The Treasury currently uses a sealed-bid
"discriminatory price" auction to sell its securities. The
auction is "discriminatory" because different bidders pay
different prices for the same security, based on their bids. In
other words, competitive bidders whose tenders are accepted pay
the price equivalent to the yield that they bid.
In a sealed-bid uniform price auction, sometimes called a
"Dutch" auction, all bidders whose tenders are accepted pay the
same price for a given-security. -This price is the lowest of the
accepted prices bid (or highest of the accepted yields). As a
result, in a Dutch auction, some of the bidders whose tenders are
accepted pay a lower price than they actually bid. At first
glance, this appears to be a revenue loser, because money appears
to be left on the table. On the other hand, participants in a
Dutch auction can be expected to bid higher prices than they
would in a discriminatory price auction. The expected revenue
effects of a Dutch auction versus current practice thus turn on
the following empirical question: Is the revenue generated from
possible increased demand in Dutch auctions greater than the
revenue lost due to the difference between prices bid and prices
paid?
The perceived advantages of Dutch auctions are that they
eliminate the primary dealers' advantage over less informed
participants, since all buyers pay the same price. This could
16
broaden auction participation and induce more non-specialist
investors to bid directly for their own account rather than
through primary dealers. This should naturally lead to less
concentration of ownership at auction.
A potential disadvantage of Dutch auctions relative to the
current auction method is the concern that primary dealers may be
somewhat less willing to participate in Treasury auctions. This
could cost the Treasury, and taxpayers, in the long run. In
addition, Dutch auctions could increase the number of bids from
non-dealers and thereby complicate auction administration and
possibly slow down the auction process. However, automation of
the auction process would substantially reduce these costs.
Finally, it should be noted that the implementation of a Dutch
auction system would not remove the potential for collusion among
market participants for purposes of underbidding on securities or
cornering a particular issue. Collusion is a potential problem
in any auction process.
Treasury is reviewing all of its auction procedures. We
believe that changes should be made only after careful
consideration, given the large volume of securities we issue and
the potential costs to the taxpayers of ill-conceived or hastily
implemented changes.
Dutch auction study. In 1976, two Treasury economists
attempted to answer the empirical question referred to above
concerning the revenue effects of Dutch auctions relative to
discriminatory price auctions. They prepared a study using
Treasury tender data from the six uniform price auctions Treasury
conducted earlier in the 1970s and from discriminatory price
auctions of Treasury bonds during the same general time period.
The study indicated that there was some evidence that Dutch
auctions resulted in somewhat reduced costs to the Treasury.
From 1976 to 1980, two consecutive Deputy Assistant
Secretaries for Debt Management refused permission to the authors
to have the study published. Finally, in early 1980, their
successor decided that the study could be published with the
usual disclaimer that it represented the views of the authors and
not necessarily the views of the Treasury Department. The study
was to have been included in a book edited by Professor Vernon
smith of the University of Arizona: however, in 1981, the authors
discovered discrepancies in the data used in the study. In early
1981, both authors were no longer employed at the Treasury, and
neither had the interest, the time, or easy access to the raw
Treasury data to investigate this problem and put the article
into publishable form.
The study does not discuss the fact that tenders received
from the public in the August 1, 1973 uniform price auction of
7\% 20-year bonds were not sufficient to sell the entire issue.
17
Tenders from government accounts in an amount of $240 million
were accepted in order to sell the entire $500 million offering.
It does not appear that this was taken into consideration in the
statistical analysis of the tender data. While the failure of
this auction is probably unrelated to the auction technique,
including large tenders from government accounts could have
significantly biased the results.
Given the problems with the data and the failed auction, the
Treasury Department does not believe that the study's statistical
results make a convincing case about the efficacy of uniform
price auctions.
Debt Management policy
Periodically, Treasury debt management is criticized for
relying too heavily on long-term securities. When interest rates
seem relatively high, the criticism is that Treasury should not
be locking the taxpayer into these high rates. In environments
such as the current one, when interest rates have come down but
the yield curve is positively sloped, the argument is made that
it would be cheaper to finance the debt with shorter maturity
securities. Also, the argument is sometimes made that Treasury
should attempt to alter the term structure of interest rates by
altering the maturity structure of its debt. Over the years,
Treasury has usually resisted efforts to manage the public debt
either on the basis of interest rate forecasts or for the purpose
of manipulating the term structure of rates.
The Treasury has long followed a debt management philosophy
characterized by regularity and predictability. Taking advantage
of perceived momentary opportunities or choosing maturities based
on interest rate forecasts would in the end be self-defeating.
Opportunistic debt management strategies would increase
uncertainty to government securities dealers and customers, who
would need to attempt to guess Treasury's current debt management
tactics and interest rate forecasts. Over time, this increased
uncertainty would be reflected in an increase in the average
borrowing cost to the Treasury. To believe otherwise requires
the conviction that government officials can consistently beat
the market, a highly dubious proposition at best.
A strategy of borrowing solely in the short-term sector of
the market, as some suggest, would require constant churning of
the public debt. It would put enormous pressure on the shortterm sector of the market and on those entities, such as banks,
that rely heavily on this sector for their financing. It would
also result in great uncertainty concerning the size of the
interest component of the government's budget, since this would
be even more sensitive to changes in interest rates than is
currently the case.
18
As it is, the maturity structure of Treasury marketable
securities is very short. Treasury had to issue over $1.5
trillion in securities in calendar year 1990, most of which was
for the purpose of rolling over maturing securities, not raising
new funds for the government. Also, while the average maturity
of privately-held marketable Treasury securities is 6 years, 33
percent of these securities mature in 1 year or less, and 48
percent, in 2 years or less.
Simplistic calculations based on hindsight of how much lower
interest payments could have been if Treasury had borrowed only'
in the short-term sector of the market during the 1980s, a period
of generally declining interest rates, are not persuasive. In
the first place, these calculations assume that the term
structure of interest rates would have remained the same, even in
the face of Treasury's sale reliance on the bill market for its
funding needs, an assumption that is not credible. Also, while
some who make this argument would have the Treasury borrow short
most, if not all, of the time, their backward looking methodology
would, in fact, suggest that Treasury should have borrowed much
more in the long-term market during the 1960s and 1970s, a period
of generally increasing interest rates. For example, if the $84
billion principal amount of outstanding marketable Treasury bonds
in 1981 had been financed at the average one-year Treasury bill
rate for that year, the resulting interest cost would have been
an additional $5.5 billion or approximately twice the actu~l
coupon interest payments made on those securities in 1981.
In
other words, while these types of backward looking calculations
are easy to make, they are hardly useful guides for current
policy.
Given the Treasury's enormous financing needs, the best
strategy over time is to tap all maturity sectors. It is always
possible to second guess such a policy after the fact, but the
alternatives of market timing based on interest rate forecasts
or borrowing only short-term are unattractive for the reasons
given.
Finally, Treasury does not believe that it should borrow in
the short-term sector in order to manipulate the shape of the
yield curve. It would be difficult to fine-tune such a strategy
to accomplish the desired results and Treasury would in such an
effort be, in effect, using debt management policy to conduct
monetary policy. Under our institutional arrangements, monetary
policy is the responsibility of the Federal Reserve. Having two
agencies conducting monetary policy is unlikely to result in
better policy.
5 This calculation is based on marketable Treasury bonds
issued between 1961 and 1980 with original maturities of more
than 10 years.
19
Borrowinq Advisory committee
In light of the concerns that have recently been expressed
about the Treasury Borrowing Advisory Committee, I would like to
address this issue.
The Treasury Department receives advice on debt management
from government securities market participants formally through
the Treasury Borrowing Advisory Committee of the Public
securities Association, chartered under the Advisory Committee
Act of 1972. Prior to 1972, Treasury had been receiving advice
on debt management from informal committees since World War II.
The Treasury meets with the advisory committee, at the request of
the Secretary, the Tuesday before the regularly scheduled
Wednesday announcement of 3-, 10-, and 30-year Treasury
securities in the mid-quarter refunding. The committee is given
a specific list of items on which its advice is sought.
The membership of the committee currently consists of senior
level officials from ten primary dealer firms and eight
institutional investor firms. The committee makes a unique
contribution by providing informed advice in a forum that
requires the members to form consensus recommendations, or at
least majority recommendations, that the Treasury would be unable
to get in any other way. Free and open discussion among the
committee members during meetings prior to making recommendations
has served to minimize any problems of evaluating whether
recommendations reflect the specific business interests of the
various members' employers.
In addition to receiving recommendations of the advisory
committee, Treasury representatives meet with primary dealers at
the Federal Reserve Bank of New York before each quarterly
refunding operation. Moreover, we receive advice from market
participants who call or write to the Treasury on an ad hoc
basis.
At the beginning of each meeting, the committee receives
Treasury's latest estimate of Treasury market borrowing needs and
historical background information related to Treasury borrowing
and debt outstanding. Members are not permitted to contact their
firms from the time the meetings with the Treasury begin until
the Treasury financing announcement appears on the news wire
services the next afternoon.
The Treasury Department provides a large amount of
information to the public that helps investors estimate the
amount that the Treasury will borrow and the types of securities
that the Treasury will offer. Treasury regularly makes
"information that is provided to the advisory committee available
to the public during the press conference announcing each midquarter refunding. Beginning with estimates to be used in
20
connection with the November refunding, scheduled for
announcement on October 30, 1991, we will release the latest
estimates of Treasury borrowing requirements to the public prior
to convening the committee.
Government securities Act Issues
We believe that the basic regulatory structure of the
Government Securities Act of 1986 (GSA) is sound. It recognizes
that Treasury is in the best position to set rules for all
brokers and dealers, including financial institutions, that are
consistent, ensure fairness and integrity in the government
securities market, but do not result in inordinate cost to the
taxpayer.
However, some changes need to be made, particularly in the
sales practice area. We support the modifications to the
Government securities Act of S.1247, which would grant authority
to regulatory agencies and the NASD to issue government
securities sales practice rules, if the Treasury has not
determined that the rules would "adversely affect the liquidity
and efficiency of the market for Government securities" or
"impose any burden on competition not necessary or appropriate"
in furtherance of the purposes of the GSA.
In addition, Treasury supports expanded disclosure of and
access to government securities price and volume information.
The expanded availability of such information would serve the
public interest. When a broad spectrum of market participants
can obtain current, accurate information on market conditions,
the competitiveness, liquidity and efficiency of the government
securities market should improve, as should the auction process.
In order to encourage private sector initiatives in this area,
Treasury supports S. 1247, which provides for a joint
Treasury/SEC/Federal Reserve Board evaluation of private sector
initiatives regarding the dissemination of price and volume
information that will permit further development of these
efforts, while providing for continued scrutiny.
IV. Conclusions
Salomon Brothers' recent admissions are a major development
that are bringing the government securities market close
scrutiny.
Treasury auctions. Since the May auction and the squeeze in
two-year notes, Treasury has been considering changes in its
auction rules. We stated in a letter to congressman Markey dated
July 1: "Treasury is concerned that there have been several
recent auctions resulting in a concentration of ownership at
original issue •.. Treasury is considering changes in its auction
21
rules that would make this concentration of ownership less
likely."
with respect to the information advantage that it is
perceived gives primary dealers an edge in Treasury auctions, the
information that has recently been made available on interdealer
broker screen quotes through GOVPX has made for much broader
dissemination of market prices. We expect that in the future
even more price and volume information will be made generally
available. This will make for a more level playing field for all
participants in the government securities market and in Treasury
auctions.
Finally, with respect to the Salomon Brothers matter, we
currently have no evidence that other firms have engaged in the
specific types of auction practices admitted to by Salomon
Brothers. We do, however, believe it is salutary that major
market participants are reviewing their own procedures for
participating in the auctions.
Debt Management. Treasury is constantly reviewing debt
management policy in order to ascertain whether improvements can
be made and will continue to do so. We do not believe that
opportunistic strategies based on the shape of the yield curve or
on interest rate forecasts are appropriate for the Treasury,
which, as the world's largest issuer of securities, taps the
financial markets every week of the year. We believe that
regular, predictable issuance of securities across the maturity
spectrum is the most efficient, least disruptive way to provide
for the Government's huge financing and refunding needs.
Regulation. until recently, it had been our view that
existing legal authority was sufficient to deal with misconduct
in the government securities markets. However, Salomon Brothers'
recent admissions of wrongdoing are deeply troubling, as are the
allegations of more widespread misconduct in the markets. The
entire situation warrants, and is receiving, a sweeping, thorough
investigation by the appropriate regulatory authorities.
until that investigation is reasonably complete, we would
prefer to withhold judgment as to the adequacy of existing laws
and regulations, as well as existing enforcement capabilities and
practices. The market for u.S. government securities is the
largest and most important securities market in the world, and
any changes in its regulation should only be made after careful
collection and review of the facts.
We also recognize the urgency of this matter and the desire
of Congress to take prompt and appropriate corrective action.
The Treasury, in consultation with the Federal Reserve and the
SEC, therefore undertakes to report back to the Congress in early
December as to any recommended legislative or regulatory changes.
22
We anticipate that this review will address in some depth the
adequacy of existing legal authority and enforcement practices to
detect and punish wrongdoing in the government securities
markets, while also maintaining the extraordinary liquidity and
depth of our marketplace.
Questions have also arisen as to the status of the
Treasury's rulemaking authority under the Government securities
Act, which will lapse unless reauthorized by October 1. In the
view of the Treasury, the Federal Reserve, and the SEC, it is
important that there be no such lapse in rulemaking authority.
We therefore urge that the reauthorization take place on schedule
or that Treasury's rulemaking authority be temporarily extended
beyond the October 1 "sunset" date.
Treasury Gross Issues and Bond Yields
trillion
14%
$1.6
/
30-year bond yield
0%
$1.4
Gross issues ......
12%
v//////A
V/////«J
V///J'l/A
v//flV/l
VVVfl!l
V//////A
V//LVLA
VVV//II
V//////A
V«/////!
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
Bond yield is annual average Treasury constant maturity 30-year bond yield.
Gross issues are total marketable securities sold.
$0
FOR IMMEDIATE RELEASE
September 25, 1991
CONTACT:Claire Buchan
202/566-8773
Statement of Treasury Secretary Brady
on the reconfirmation of
Robert Clarke as
Comptroller of the Currency
The Administration strongly urges Congress to act favorably
and promptly on Bob Clarke's reconfirmation as comptroller of the
currency.
Mr. Clarke has headed up regulation of national banks during
a time of extraordinary pressure on banks and other financial
institutions.
He deserves a fair, balanced hearing and an
opportunity to present and discuss his record. To politicize this
hearing would be a great disservice to the process of bank
regulation, and it would be unfortunate if politics were put before
objectivity.
-30-
NB-1474
)EP
FOR IMMEDIATE RELEASE
September 25, 1991
LbJl I I
j
I 82
Con~~q~G:- r~~~,lijp'Fispen
(202) 566-2041
Statement by
Secretary of the Treasury
Nicholas F. Brady
The House Energy and Commerce Committee today took a step
backward in financial services reform. This bill undoes many of
the constructive steps taken by the House Banking committee.
The bill restricts competition in the financial services industry
and protects vested interests. If enacted, it will impede the
flow of private capital necessary to create a strong banking
system. A strong banking system is the only guarantee against a
taxpayer bailout.
We will continue to work vigorously for truly comprehensive
reform.
000
NB-1475
TREASURYr:NEWS
.
lIartment of the Tr••• ury • wa.'~~~,,~,.c~
~~,
Telephone 5 •• -2041
T.c .
FOR IMMEDIATE RELEASE
September 26, 1991
contact: Claire Buchan
202/566-8773
Statement of Treasury Secretary Brady
on the Reconfirmation of Comptroller Robert Clarke
We are disappointed that Bob Clarke's reconfirmation hearing
was shut down today after only 30 minutes of questioning, without
additional hearings being scheduled. After enduring nine months of
delay since his nomination was submitted to Congress, it is
distressing that the confirmation process was again delayed.
Mr. Clarke was and is ready and eager to discuss his record as
comptroller and respond to the committee's questions.
The Administration again urges Congress to act quickly to
confirm Mr. Clarke. It would be damaging if politics got in the
way of objectivity, created uncertainty in the process of
confirming a key regulator, and sent a muddled message to financial
institutions and examiners during a time of tight credit.
-30-
NB-1476
TREASURsYRONoEWS
De..artment of the Treasury • Washington, D.C. • Telellhone 5&&.204t
JeT Zj\ 0 u0 2 3 4
FOR IMMEDIATE RELEASE
September 27, 1991
CONTACT: BOB LEVINE
(202) 566-2041
==n. 0 F THE n~ E1\;;' URY
TREASURY ANNOUNCES NEW RESTRICTIONS ON CUBA TRAVEL FUNDS
The U.S. Treasury Department's Office of Foreign Assets
Control (OFAC) today announced new restrictions on funds that may
be sent to Cuba from the united States under the Cuban Assets
Control Regulations.
OFAC Director R. Richard Newcomb said, "the new regulations
are designed to limit exorbitant fees imposed by the Cuban
government by setting a reasonable cap on the amount of U. S .
dollars that may be sent to Cuba to facilitate travel. At the same
time, the provisions accomplish the objectives of the embargo by
further limiting financial and commercial transactions with Cuba."
Under the amended regulations, a U.S. person or company may
send no more than $500 for travel-related expenses, including
transportation, to a Cuban national coming to the united States.
The funds may not be sent until a visa has been issued to the Cuban
traveller by the united states Interests section in Havana. New
procedures have been set up to inform U.S. travel service providers
and banks that handle transfers of the funds when a visa has been
issued.
A limit of $500 has also been placed on fees a U.S. person or
company may pay the Cuban government for travel to Cuba. A third
change reduces the limit on family remittances sent from the United
states to close relatives in Cuba from $500 to $300 per three-month
period. A fourth change prohibits Cubans returning from the United
States from carrying non-Cuban currency in excess of the amount
brought to the united states. An exception is made for family
remittances which the traveller may legally receive.
Since March, 1990, Cuba has substantially eased travel
restrictions, including progressively lowering the minimum age from
65 to 20 for Cubans travelling to the United States. This has
resulted in a significant increase in the transfer of U.S. dollars
to Cuba as a result of the rise in applications for nonimmigrant
visas. The Cuban Government requires payment in U.S. dollars for
travel-related services such as passports, exit visas and personal
record procurement. The current fees are excessive. Since Cubans
may not legally hold dollars, their travel is funded by relatives
in the united states. The new regulations will permit the transfer
of funds only after a visa has been issued.
Currently many
transfers are made on behalf of unqualified applicants who never
receive their visas.
000
Nff-1477
Removal Notice
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Citation Information
Document Type: Transcript
Number of Pages Removed: 33
Author(s):
Title:
Secretary of the Treasury Nicholas F. Brady Remarks to the Atlantic Council
Date:
1991-09-26
Journal:
Volume:
Page(s):
URL:
Federal Reserve Bank of St. Louis
https://fraser.stlouisfed.org
TEXT PREPARED FOR DELIVERY
EMBARGOED UNTIL 1:00 P.M.
REMARKS BY
NICHOLAS F. BRADY
SECRETARY OF THE TREASURY
TO THE
ATLANTA ROTARY CLUB
SEPTEMBER 30, 1991
Thank you, Rankin.
It's great to be back in Atlanta -- home of the Atlanta
Braves, the Atlanta Falcons, the 1996 Summer Olympics, and John
Robson, who used to be Dean of the Emory Business School and is
now doing a great job as Deputy Secretary of the Treasury.
And, I'm privileged to have the opportunity to speak to this
distinguished group. Many people believe that those of us in
Washington do not know, or understand, what is going on in the
real world -- that we are out of touch and living in a bubble
inside the Washington Beltway. The President held two long
meetings this past week with Cabinet members on the economy, and
I can promise you, as long as you have a President like George
Bush, you can rest assured that the message from Main street will
get through.
And one of the messages we have been hearing is that the
credit crunch, and its effect on the economy, is a number one
priority -- and not only here in Atlanta.
As we enter the fourth quarter of 1991, economic signals
continue to read like mixed metaphors. The economic recovery,
which began in the third quarter, is on track, although there are
pockets of the economy where the recession clearly still lingers.
Historically, the early stages of a recovery tend to be uneven,
and this particular recovery seems to be following just such a
bumpy route.
Assessments of the health of the economy are based on a
variety of statistics, and the economy has, in fact, recorded a
string of favorable statistics. These numbers indicate the
economy turned the corner in the second quarter and is on the way
up.
NB-1478
2
The leading indicators, which typically point to the
pace of future economic activity, have risen for six
straight months.
Industrial production, led by manufacturing, has also
been on the rise for five months, and low inventories
suggest that expansion will continue.
Inflation is under control, currently averaging below
three percent.
The Fed funds rate has fallen 300 basis points since
July 1990 and is now just over 5 percent.
And the discount rate is down to five percent from last
year's seven percent -- an eighteen year low.
But statistics don't mean much to people who aren't
participating in the good news yet.
The unemployment rate is down to 6.8 percent, but for
the people who make up that 6.8 percent, that statistic
is meaningless.
There have been signs of recovery in the housing
market, but they are fitful and sluggish.
And most importantly, consumer confidence has not yet
bounced back.
There is a statement often quoted in Washington that says
"perception is reality". That saying can easily be applied to
economic recovery.
For the American people to perceive that
economic recovery is here, they must believe that Congress, the
Administration, and American businesses are doing all we can to
promote that recovery. And until the recovery actually touches
people's lives, all the economic statistics in the world will not
convince them the recovery has arrived.
We must make the connection between perception and reality,
and we can do that by addressing aspects of the economy that can
add or subtract to economic growth. Most economists state that
the recession has ended, and the economy is on track.
But now we
must continue to work to see that the recovery is not
sidetracked.
One of the aspects of the recovery that is not on schedule
is the availability of credit. If corporations are to expand and
increase production, they must have access to credit.
If small
businesses, the traditional source of new job creation, are to be
able to grow and perform that job-creating functio~, they must
3
have access to working capital. If homebuilders are to be able
to meet downstream demand for new homes, they must have access to
construction loans. If consumers are to release pent up demand
for big ticket items, they must be able to obtain credit.
with the decline in the federal funds rate, credit should be
more affordable than ever. And banks do have the liquidity to
make loans. But they aren't making them.
There are numerous causes of the credit crunch. Clearly,
the recession is a major cause. The downturn in the economy made
financial institutions more cautious about lending, and
businesses more cautious about borrowing. The recession scored a
direct hit on the balance sheets of banks whose portfolios were
not adequately diversified.
And, the recession resulted in an increase in non-performing
loans in bank portfolios. When non-performing loans rise,
bankers become more conservative, and regulators get nervous.
For example, bank non-performing assets in real estate alone
jumped 72 percent from March 1990 to March 1991. It is not
surprising, then, that the credit crunch has been most evident in
the real estate industry.
And in the real estate industry, the real problem is in
commercial real estate. Ten years of overbuilding contributed to
the problem. Fifty percent of current office space was built
during the 1980s, and demand did not keep up with supply. If you
have ever flown into Dulles Airport, about 20 miles outside
Washington DC, you know what I mean. The route to that airport,
which used to be lined with trees, is now a solid wall of highrise office buildings -- and many of them stand empty. Every
city has its horror stories, and that reflects the fact that
national vacancy rates for office space increased from eight
percent in 1980 to twenty percent in 1990.
In addition to the recession and overbuilding in commercial
real estate, you can add the presence of regulatory overkill. As
examiners became more nervous over the tilting of bank balance
sheets, some individual examiners have overreacted to bank
losses, and to Congressional criticism that regulators have been
too lax. The result has been to create a "fear factor" in the
banking system, and a hesitancy on the part of bankers to make
any new loans which might be questioned by an examiner.
The Administration is taking steps to address this problem,
and John Robson has taken the lead for Treasury. For over a
year, John, Alan Greenspan of the Federal Reserve, Bob Clarke of
the OCC, Bill Seidman of the FDIC, and Tim Ryan of the OTS, have
met with bank and thrift examiners to make sure they know they
should not be part of the problem -- they have to be part of the
solution.
4
This group, and others, have held over 150 meetings around
the country with regulators, bankers, and borrowers to identify
problems and work toward solutions.
Some of the most effective
of these meetings have been regional meetings that include
Members of Congress, regulatory supervisors, bankers and
borrowers.
Congressman Gingrich has been very instrumental in
coordinating this "town meeting" effort with his colleagues in
the House, and in fact, this morning I attended a credit crunch
meeting organized by Congressman Gingrich in Clayton County.
The message we hope to convey at these meetings is that
financial institutions should be making loans to worthy
borrowers, and we are working to get that message out. Over the
past several months, we have worked with the regulators to
achieve changes in regulatory policy and regulatory attitudes
based on the use of balance and common sense. The regulators
have issued a number of directives, beginning in March of this
year, which have:
Made clear that liquidation value appraisals should not
be used;
Allowed banks with real estate concentrations to work
with existing borrowers and make sound new loans;
Facilitated the restructuring of troubled credits;
Allowed commercial real estate loans to be prudently
refinanced by banks without regulatory criticism.
And, clarified lender liability under Superfund
legislation.
We believe these new guidelines will make a difference. As
we have seen, the credit crunch has many causes, and regulatory
zeal cannot be blamed for the entire problem. Each banker has
his or her own board of directors and shareholders to whom they
must answer. But it is a burden on the economy when banks do not
perform their traditional role of providing loans. The financial
world is changing, and the traditional role of banks as lenders
has already been eroded as the market has developed new ways of
raising capital.
Corporations raise capital through commercial paper.
Consumers now use credit cards and personal finance corporations
when they need additional credit. They get auto loans from GMAC
and Ford Motor Credit, they save at Merrill Lynch and Sears
Roebuck, and they even have checking accounts with Vanguard and
Fidelity mutual funds.
5
I am sure each of you could provide your own reasons for the
slowdown in credit availability. But the essential fact is that
banks are not performing their traditional function as "shock
absorbers", lending to businesses and individuals to help pull
them through the tough times. Our financial institutions were
weak heading into this recession.
Instead of making loans to
tide people over, they were forced to pull back and look out for
themselves. Today, the banking industry is under stress, and
that's not just a problem for the banks -- that's a problem for
business. Financial institutions and businesses must work
together if we are to see continued economic growth and more
jobs.
At the President's urging, we in the Administration will
continue to work with the regulators and the examiners to clarify
regulatory guidelines and give examiners the confidence to
perform honest, fair and balanced examinations of banks. We will
also continue to work with the banking and thrift industries, as
well as other business groups, to identify regulations and exam
practices which are believed to contribute to the problem. We
have heard many horror stories about draconian examinations, but
most are from unnamed sources. If bankers believe exams, or
examiners, are unfair, they need to step up and voice that
concern.
Fear of retribution by the same examiners is the reason most
given for the lack of official complaints. If that is the case,
then bankers should work with us to devise an appeals process for
examinations which alleviates that concern. All four regulators
have assured me they have a strong commitment to address this
problem, but we cannot solve nameless, faceless accusations. And
the scapegoats
we will not make examiners -- or regulators
for bankers who have de~ided not to lend.
Addressing the credit crunch is a battle which must be waged
in the short term to make the economic recovery a reality. We
must also continue to work with the Congress to pass the
President's economic growth package. When I say "work with the
Congress", I have to admit to a certain level of frustration.
The Administration is criticized for not having a domestic growth
plan, but in fact, the Congress has chosen to ignore the
President's plan.
6
In February of this year, the President proposed a package
of economic growth incentives as part of the FY 1992 budget -but the Congress has yet to act on a single one. The President's
growth plan includes proposals which made sense at the beginning
of this year, and make even more sense now. Our program would:
Reduce the capital gains tax rate;
Enhance personal savings through an expanded Individual
Retirement Account (IRA) and the Family Savings
Account;
Make the Research & Experimentation (R&E) tax credit
permanent;
Increase federal investment in science, technology and
infrastructure;
And keep the pay-as-you-go system in the budget process
to ensure that any new spending must be offset by
decreased spending elsewhere in the budget. This
restraint on federal spending is working, and we must
keep it in place to bring down the deficit.
Finally, we must reform the antiquated laws governing the
banking system to make banks safer, sounder and stronger. We
must pass the President's comprehensive banking reform
legislation now before Congress. It is just good common sense to
help banks renew the value of their franchise by strengthening
their capital positions, and encouraging more diversified
portfolios.
Congress has been considering the Administration's financial
services reform proposal since March, and the lines of the debate
have been clearly drawn. Those who oppose the Administration's
bill, who want to leave things as they are, would have you
believe that reform is simply deregulation. It's not. These
opponents support measures which would take the banking industry
backwards, restrict competition, and protect special interests.
The financial services industry needs progressive reform
which encourages competition and shuns the protection of special
interests. There are strong advocates of responsible change on
both sides of the aisle -- Democrats and Republicans. In fact,
Georgia Congressman Doug Barnard is one of the leaders for
comprehensive reform because he knows strong banks and financial
service firms are a key to the economic health of our country.
7
Although we are entering an election year, economic growth
should not be a partisan issue. When the economy is growing,
jobs are created, personal income rises, businesses expand and
increase production, and the standard of living is higher for
everyone. We must make the economic recovery a reality that is
perceived by everyone, and with your help, we can make that
happen.
III
PUBLIC DEBT NEWS
Department of the Treasury •
Bureau of the Public Debt • Washington, DC 20239
FOR iMMEDIATE RELEASE
September 30, 1991
CONTACT:
Peter Holleuuadl
(202) 376-4302
or
L. Richard Keyser
(202) 708-1591
TREASURY AUrnORIZES HUD CALL OF
FHA INSURANCE FUND DEBENTURES
The Departments of Treasury and Housing and Urban Development announced today the call of
all Federal Housing Administration (FHA) debentures, outstanding as of September 30, 1991, with
interest rates of 8 1/2 percent or higher. Debentures that have been registered on the books of
the Federal Reserve Bank of Philadelphia as of September 30, 1991, are considered, "outstanding."
The date of the call for the redemption of the more than $98 million in debentures is January 1,
1992, with the semi-annual interest due January 1, paid along with the debenture principal.
Debenture owners of record as of September 30, 1991, will be notified by mail of the call and given
instructions for submission. Those owners who cannot locate the debentures should contact the
Federal Reserve Bank of Philadelphia (215) 574-6684 for assistance.
No transfers or denominational exchanges in debentures covered by this call will be made on or
after October 1, 1991, nor will any special redemption purchases be processed. This does not affect
the right of the holder to sell or assign the debentures.
The Federal Reserve Bank of Philadelphia has been designated to process the redemptions and
to pay final interest on the called debentures. To ensure timely payment of principal and interest
on the debentures, they should be received by December 1, 1991, at:
The Fede!al Reserve Bank of Philadelphia
Securities Division
P.o. Box 90
Philadelphia, PA 19105-0090
000
PA-70
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
DCT LJI
FOR IMMEDIATE RELEASE
September 30, 1991
RESULTS OF
Qdh~i:8office
of Financing
202-219-3350
TREASURt'i~T.ili~ceFU1'3-WEEK BILLS
Tenders for $10,814 million of 13-week bills to be issued
October 3, 1991 and to mature January 2, 1992 were
accepted today (CUSIP: 912794XT6).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.09%
5.12%
5.11%
Investment
Rate
5.24%
5.27%
5.26%
Price
98.713
98.706
98.708
Tenders at the high discount rate were allotted 25%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas city
Dallas
San Francisco
Treasury
TOTALS
Received
39,245
33,963,515
19,880
36,970
112,700
45,130
1,071,610
53,555
10,320
45,425
28,030
545,780
833,235
$36,805,395
39,245
9,423,265
19,880
36,950
67,700
42,130
180,860
16,055
10,320
43,975
28,030
72,780
833,235
$10,814,425
Type
Competitive
Noncompetitive
Subtotal, Public
$32,855,255
1,595,585
$34,450,840
$6,864,285
1,595,585
$8,459,870
2,2_86,135
2,286,135
68,420
$36,805,395
68,420
$10,814,425
Federal Reserve
Foreign Official
Institutions
TOTALS
Acce~ted
An additional $42,380 thousand of bills will be
issued to foreign official institutions for new cash.
NB-1479
UBLIC t>1:BT NEWS
Department of the Treasury -
FOR IMMEDIATE RELEASE
September 30, 1991
I rieBt6- Washington, DC 20239
L ~,T 0:-- T"F T'),. .,
IL
CONTACT: Office of Financing
LI i\ '(
2 02 - 219 - 3 3 5 0
1\ C t.~:
RESULTS OF TREASURY'S AUCTION OF 26-WEEK BILLS
Tenders for $10,862 million of 26-week bills to be issued
October 3, 1991 and to mature April 2, 1992 were
accepted today (CUSIP: 912794YG3).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.12%
5.14%
5.14%
Investment
Rate
5.34%
5.37%
5.37%
Price
97.412
97.401
97.401
Tenders at the high discount rate were allotted 37%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Received
32,445
35,582,145
13,605
30,305
52,620
30,615
1,499,735
39,505
6,510
49,785
23,115
643,355
744,370
$38,748,110
Accepted
32,445
9,398,305
13,605
30,305
46,320
29,280
299,485
24,505
6,510
49,785
23,115
164,095
744,370
$10,862,125
Type
Competitive
Noncompetitive
subtotal, Public
$34,635,795
1,304,435
$35,940,230
$6,749,810
1, 304,435
$8,054,245
2,350,000
2,350,000
457,880
$38,748,110
457,880
$10,862,125
Federal Reserve
Foreign Official
Institutions
TOTALS
An additional $301,420 thousand of bills will be
issued to foreign official institutions for new cash.
NB-1480
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FOR IMMEDIATE RELEASE
J jj 0 UU2 8 5
September 30, 1991
FEDERAL FINANCING BANK ACTIVITY
Charles D. Haworth, Secretary, Federal Financing Bank (FFB) ,
announced the following activity for the month of August 1991.
FFB holdings of obligations issued, sold or guaranteed by
other Federal agencies totaled $188.9 billion on August 31, 1991,
posting an increase of $2.2 billion from the level on July 31,
1991. This net change was the result of increases in holdings of
agency debt of $2,176.8 million, while holdings of agency assets
decreased by $0.3 million and holdings of agency-guaranteed loans
decreased by $7.9 million. FFB made 27 disbursements during
August.
FFB holdings on August 31, 1991 were the highest in the
Bank's history.
Attached to this release are tables presenting FFB August
loan activity and FFB holdings as of August 31, 1991.
NB-1481
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Page 2 of 4
FEDEPAL
Au:;usT
~
BANK
1991 ACl'IVIT'i
AMJUNI'
OF ADVANCE
MA'IURI'IY
INI'ElIDIT INI'mESI'
RATE
RATE
(semi(other than
annual)
semi-annual)
10/1/91
10/1/91
5.791%
5.604%
10/7/91
11/8/91
11/8/91
11/8/91
10/22/91
11/8/91
11/8/91
11/8/91
10/22/91
9/27/91
5.670%
5.606%
5.595%
5.384%
5.596%
5.697%
5.671%
5.587%
5.555%
5.555%
FINAL
AGENCY DEB!'
FIDEPAL DEFQSIT mSURANCE CDRFORATIOO
Note Ho. FDIC 0002
Advance #4
Advance #5
8/6
8/12
$ 124,000,000.00
1,091,000,000.00
NATIOOAL CREDIT UNIOO AIMINIS'mATIOO
Central Liauidi~ Facility
Note
Note
tNote
tNote
tNote
tNote
tNote
Note
tNote
tNote
#564
#565
#566
#567
#568
#569
#570
#571
#572
#573
8/13
8/20
8/23
8/27
8/28
8/29
8/30
8/30
3,000,000.00
10,000,000.00
13,000,000.00
3,000,000.00
10,000,000.00
6,000,000.00
10,000,000.00
5,000,000.00
13,000,000.00
5,000,000.00
8/12
1,400,000,000.00
10/1/91
5.604%
8/5
8/5
8/12
8/14
8/16
8/17
8/19
180,000,000.00
50,000,000.00
158,000,000.00
140,000,000.00
134,000,000.00
25,000,000.00
198,000,000.00
8/12/91
8/19/91
8/26/91
8/28/91
8/30/91
8/30/91
9/9/91
5.847%
5.847%
5.659%
5.593%
5.576%
5.586%
5.586%
8/8
8/U
RESOllJITON '!RUST CDRFORATION
Note No. 0010
Advance #4
TENNESSEE VAll.Ei At.JIlDRIT'{
Short-term
Short-term
Short-term
Short-term
Short-term
Short-term
Short-term
+rollover
Bond
Bond
Bond
Bond
Bond
Bond
Bond
#112
#113
1114
#115
1116
#117
#118
Page 3 of 4
FED~
FrnANCING BANK
AU;OsT 1991 ACl'IVlTY
DATE
AKXJNl'
OF AlJIlANCE
FINAL
MMtJRIT'{
IN1'EREST INrEm:ST
RATE
RATE
(other than
(semiannual)
semi-annual)
00VERNMENl' - GUARANl'EED IDANS
GENERAL SERVICES AIMINIsmATICN
Foley Square Oou:rt.hoose
Foley Square Office Buildin:j
$ 1,193,114.39
1,775,981.00
12/11/95
12/11/95
7.478%
7.402%
2,077,484.68
876,854.19
11/15/91
11/15/91
5.887%
5.824%
8/16
8/20
4,889,000.00
10,010,000.00
1/2/18
12/31/25
7.983%
8.155%
8/30
1,287,481. 82
9/30/91
5.587%
8/14
8/28
U.S. Trust O:lllem of New Xork
Advance #16
Advance #17
8/2
8/6
RURAL ElWIRIF'ICATlCN ArMINISTRATIOO
Cornbelt Pc1Ner #292
S. Marylan:i Elee. #352
TENNESSEE VAU..Ei AUIHJRI'IY
Seven
states Energy OJ! poration
Note A-91-10
7.905% qtr.
8.074% qtr.
Page 4 of 4
FEDERAL FINANCING BANK
(in millions)
Net chan e
Program
August 31. 1991
Agency Debt:
Export-Import Bank
Feaeral Deposit Insurance Corporation
NCUA-Central Liguidity Fund
Resolution Trust Corporation
Tennessee ValleY,Authority
U.S. Postal SerV1ce
sub-total*
Agency Assets:
Farmers Home Administration
DHHS-Health Maintenance Org.
DHHS-Medical Faciltties
Rural Electrificat10n Admin.-CBO
Small Business Administration
sUb-total*
Government-Guaranteed Loans:
DOD-Foreign Military Sales
DEd.-Student Loan Marketing Assn.
DHUD-Commun1ty Dev. Block Grant
DHUD-Public Housing Notes +
General Services Admin1stration +
DOI-Gyam Power Authority
DOI-V1rgin Islands
NASA-Space Communicattons Co. +
DON-Sh1P Lease Financ1ng
Rural Electrification Administration
SBA-Small Bus1ness Investment Cos.
SBA-State/Local Development Cos.
TVA-Seven States Energy Corp.
DOT-Section 511
DOT-WMATA
sUb-total*
grand total*
*figures may not total due to round1ng
+does not include capitalized interest
$
11,238.0
7,646.0
113.5
58,782.4
12,373.0
6,400.6
July 31. 1991
$
1
811/91-8{31 91
$
11,238.0
6,431.0
96.7
57,382.4
12,828.0
6,400.6
-01,215.0
16.8
1,400.0
-455.0
-0-
FY '91 Net Change
10/1/90-8/31/91
$
-101. 9
7,646.0
56.9
17,300.7
-2,009.0
-297.2
96,553.4
94,376.6
2,176.8
22,595.5
51,334.0
61.2
76.1
4,463.9
6.4
51,334.0
61.3
76.1
4,463.9
6.6
-0-0.1
-0.2
-715.0
-8.3
-6.7
56.7
-2.0
55,941.6
55,941.9
-0.3
-675.3
4,680.0
4,850.0
208.1
1,903.4
655.8
29.1
24.5
32.7
1,624.4
18,846.4
265.5
693.0
2,413.8
21. 4
177.0
4,665.4
4,850.0
217.5
1,903.4
649.6
29.1
24.5
32.7
1,624.4
18,831.5
293.4
699.9
2,412.6
21.8
177.0
14.6
-0-9.4
-06.0
-0-0-0-014.9
-27.9
-6.9
1.3
-0.4
-0-
-5,075.6
-30.0
-35.9
36,433.1
-7.9
36,425.2
=========
$ 188,920.2
=========
$ 186,751.6
-0-0-
$
2,168.6
-47.4
288.5
-0.7
-0.7
-1,063.2
-47.9
-195.9
-117.0
-48.6
57.8
-1.9
-0-6,318.5
--------
$ 15,601. 7
TREASURYilONEWS
~.lIartm.nt
113\\:,1.
of the T••a.urv • wa.hln.ton, D.C . • Tele.hone 5•• -20411
" "i n U J 2 B4
Cl j J\ U
FOR IMMEDIATE RELEASE
OCTOBER 1, 1991
_ .,_ "-'-'~ !',\::POliTACT:
~?\.vl
,\\,-
Barbara Clay
202-566-5252
TREASURY PENALIZES CATERPILLAR INDUSTRIAL FOR SALES TO LIBYA
caterpillar Industrial, Inc., has paid $137,500 in fines for
violating u.s. economic sanctions against Libya.
"This case illustrates the need for u.s. companies to be aware of
all aspects of the economic sanctions before engaging in any
transaction that may involve Libya," said Richard Newcomb,
director of Treasury's Office of Foreign Assets Control (OFAC),
which imposed the penalty against Caterpillar.
The Mentor, Ohio, company acted as middleman in facilitating the
sale to Libya of 226 trucks shipped from South Korea, two shipped
from Norway and 70 from the United Kingdom. The company
maintained that it believed the sanctions did not apply to these
transactions, since the trucks were not of u.s. origin.
The sanctions, however, prohibit a u.s. individual or company
from exporting services to Libya, as well as from entering into
contracts to support projects in Libya or dealing in property in
which Libya has an interest.
Caterpillar, a division of Caterpillar Inc., of Peoria, Illinois,
conducted an internal ~nvestigation after OFAC requested
information on the company's involvement in a shipment. The
company reported 18 similar shipments from 1988 through 1990.
Its voluntary disclosure of the violations was a factor in
reducing the amount of the penalty.
The u.s. sanctions were imposed in 1986 to exert financial
pressure against Libya and to reduce Muammar Qadhafi's ability to
promote and finance terrorism. Almost all economic transactions
with Libya are prohibited, with civil penalties up to $10,000 for
each violation. criminal penalties of $500,000 per violation for
corporations and $250,000 for individuals may apply, with prison
terms of up to 12 years for individuals and senior corporate
officers.
000
NB-1482
4810-25 -t-1
DEPARTMENT OF THE TREASURY
Office of Foreign Assets Control
-'
31 CFR Part 515
C~ban
.,~~
.... ~
Assets Control Regulations
AGENCY:
"
'. "
Office of Foreign Assets Control, Departmpnt of the
Treasury
ACTION:
Final Rule
S~~~RY:
This rule amends the Cuban Assets Control Regulations,
31 C?R Part 515 (the "Regulations"), by reducing the dollar
amount that may be sent to the
~emitter's
close relatives In
Cuba; generally prohibiting Cuban nationals from carrying nonCuban currency to Cuba; and by limiting the dollar
amou~t
that
can be expended by U.S. persons for transactions related to their
travel to Cuba or for support for the travel of a Cuban
to the United States.
na~ional
These amendments to the Regulations are
intended to reduce the flow of funds entering the Cuban economy
from the United States.
and technical
amend~ents.
EFFECTIVE DATE:
FOR FURTHER
This rule also makes various clarifying
[Thirty days after the date of publication]
INFOR~~TION:
William B. Hoffman, Chief Counsel
(tel. :202/535-6020), or steven I. Pinter, Chief of Licensing
2
(tel.:
202/535-9449), Office of Foreign Assets Control,
Department of the Treasury, Washington, D.C.
SUPPLEHENTARY INFORHATION:
20220.
order to reduce the flow of funds
I~
into the Cuban economy from the united states, § 515.560 is
a~ended
to limit the funds that a person traveling to cuba
~ay
remit to Cuba for travel-related transactions such as passport or
visa fees and taxes.
Present
§
515.563 permits,
in pertinent
part, the remittance of up to $500 in any 3-month period to the
remitter's close relative(s)
located in Cuba.
This section is
amended to reduce this amount to $300 per 3-month period.
This
change makes the amount consistent with the amount permitted In
other programs administered by the Office of Foreign Assets
Control for Vietnam and Cambodia.
It also serves to reduc2
amount of currency sent to Cuba from the United states.
~he
In
addition, this section is amended to clarify that remittances for
the purpose of enabling a Cuban national to emigrate are only
authorized for the benefit of Cuban nationals emigrating from
Cuba to the United States.
Present § 515.564, which authorizes transactions related to
the travel to the United states by a Cuban national entering on a
visa issued by the State Department, places no limit on the
amount that may be remitted for such transactions.
This section
is amended to limit the amount of money that a u.s. person
~ay
remit to Cuba directly or indirectly for transactions related to
3
such travel to $500.
In addition, such remittances may be sent
only after the Cuban national has received a valid u.s. visa.
This
sec~ion
a~ended
is also
to clarify that travel transactions
authorized in this section include travel directly from Cuba to
the United states.
Finally, present
515.569 is amended to add
§
a new subsection prohibiting Cuban nationals from carrying nonCuban currency to Cuba from the United states in excess of
amounts brought into the United States.
An exception is made for
the carrying of family remittances which the travelers may
legally receive pursuant to § 515.563.
This rule also includes two clarifying amendments.
§
Present
515.311 is amended to make explicit the longstanding
interpretation of the Office of Foreign Assets Control that the
term, "property," includes services.
On February 2,
1989
(54 FR
5235), § 515.560 (c) (5) \-.'as inadvertently revised \-Jhen it had been
correctly removed on November 23, 1988 (53 FR 47527).
This
paragraph is removed in this rule.
Because the Regulations involve a foreign affairs function,
Executive Order 12291 and the provisions of the Administrative
Procedure Act, 5 U.S.C. 553, requiring notice of proposed
rulemaking, opportunity for public participation, and delay in
effective date, are inapplicable.
Because no notice of proposed
rule making is required for this rule, the Regulatory Flexibility
Act,
5 U.S.C.
601 et
~.,
does not apply.
4
List of subjects ln 31 CFR part 515
Adninistrative practice and procedure, Cuba, Currency,
Foreign investments in united states, Foreign trade,
~enalties,
Reporting and recordkeeping requirements, Securities, Travel
restrictions
For the reasons set forth in the preamble, 31 CFR part 515 is
amended as follows:
PART 515--CUBAN ASSETS CONTROL REGULATIONS
1.
The "Authority" citation for part 515 continues to read as
f ollOl"]s :
Authority:
50 U.S.C. App. 5, as amended; 22 U.S.C.
2370(a);
Proc. 3447, 27 FR 1085, 3 CFR 1959-1963 Compo p. 157; E.O.
7 FR 5205, 3 CFR 1938-1943 Cum. Supp. p. 1174; E.O. 9989,
9193,
13 FR
4891, 3 CFR 1943-1946 Compo p.748.
Subpart C--General Definitions
§515.311
2.
[Amended]
section 515.311 is amended by adding the v;ord,
after the phrase,
"services,"
"contracts of any nature Hhatsoever,".
Subpart E--Licenses, Authorizations, and Statements of Licensing
Policy
List of subjects in 31 CFR part 515
Administrative practice and procedure, Cuba, Currency,
Foreign investments in united states, Foreign trade, Penalties,
Reporting and recordkeeping requirements, Securities, Travel
restrictions
For the reasons set forth in the preamble, 31 CFR part 515 is
amended as follows:
PART 515--CUBAN ASSETS CONTROL REGULATIONS
1.
The "Authority" citation for part 515 continues to read as
follOl.Js:
Authority:
50 U.S.C. App. 5, as amended; 22 U.S.C.
2370(a);
Proc. 3447, 27 FR 1085, 3 CFR 1959-1963 Compo p. 157; E.O.
7 FR 5205, 3 CrR 1938-1943 CUD. Supp. p. 1174; E.O. 9989(
4891,
9193,
13 FR
3 CFR 1943-1946 Compo p.748.
Subpart C--General Definitions
§515.311
2.
[Amended]
section 515.311 is amended by adding the word,
after the phrase (
II
"services,"
contracts of any nature \.Jha tsoever, " .
Subpart E--Licenses, Authorizations, and Statements of Licensing
Policy
5
3.
Section 515.560 is amended by :!:""ev is ing paragraph (c) (1) _ to
read as follows:
certain transactions incident to travel to and within
515.560
§
Cuba.
* * * * *
(c)* *
(1)
*
All transportation-related transactions ordinarily
incident to travel to and
fro~
Cuba, provided no more than $500
may be remitted to Cuba directly or indirectly for fees imposed
by the Government of Cuba in conjunction with such travel.
* * * * *
4.
§515.S60(c)(5), as published at 54 FR 47527, November 23,
1983, is removed.
5.
section 515.563 is amended by revising paragraph (a) (1)
(2)
§
(2)
and
to read as follo\o,'s:
515.563
Family remittances to nationals of Cuba.
(a)* * *
(1)
For the support of
the payee's household)
~he
payee (including any members of
in amounts not exceeding $300 ln any
consecutive 3-month period to anyone household; and
(2)
For the purpose of enabling the payee to emigrate from
Cuba to the united States,
i~
an anount net exceeding $500 to be
6
made only once to anyone payee, provided that the payee is a
resident of and located within Cuba on the effective date of this
section.
* * * * *
6.
Section 515.564 is amended by revising paragraphs (a) and
(a) (1), and adding a new paragraph (c) to read as follows:
§
515.564
certain transactions incident to travel to, from and
within the United states by certain Cuban Nationals.
(a) Except as provided in paragraphs (b) and (c) of this
section, the following transactions by or on behalf of a Cuban
national who enters the United States from Cuba on a visa issued
by the state Department are authorized:
(1) All transactions ordinarily incident to travel between
the United states and Cuba, including the importation into the
United states of accompanied baggage for personal use:
* * * * *
(c) Remittances by persons sUbject to u.s. jurisdiction to
Cuba or a Cuban national, directly or indirectly, for
transactions on behalf of a Cuban national authorized in
paragraph (a) may not exceed $500 and may be remitted only after
the Cuban national has received a valid visa issued by the state
Department.
Authorized transactions include purchase of airline
tickets and payment of visa fees or other travel-related fees.
6
made only once to anyone payee, provided that the payee is a
resident of and located within Cuba on the effective date of this
section.
* * * * *
6.
section 515.564
lS
amended by revising paragraphs (a) and
(a) (1), and adding a new paragraph (c) to read as follows:
§
515.564
certain transactions incident to travel to, from and
within the United states by certain Cuban Nationals.
(a) Except as provided in paragraphs (b) and (c) of this
section, the following transactions by or on behalf of a Cuban
national who enters the United states from Cuba on a visa issued
by the state Department are authorized:
(1) All transactions ordinarily incident to travel between
the united states and Cuba, including the importation into the
United states of accompanied baggage for personal use:
* * * * *
(c) Remittances by persons subject to U.s. jurisdiction to
Cuba or a Cuban national, directly or indirectly, for
transactions on behalf of a Cuban national authorized in
paragraph (a) may not exceed $500 and may be remitted only after
the Cuban national has received a valid visa issued by the state
Department.
Authorized transactions include purchase of airline
tickets and payment of visa fees or other travel-related fees.
7
7.
Section 515.569 is amendGd by redesignating paragraphs (d)
and (e) as (e) and (f), and adding a new paragraph (d)
to read as
follows:
§
515.5G9 Currency carried by travelers to Cuba.
* * * * *
(d) Except for remittances authorized for the traveler's
household by § 515.563(a) (1) and the amount of U.S. currency or
currency from a third country brought into the United States by
the traveler and registered with the U.S. Customs Service upon
en~ry,
Cuban nationals returning directly to Cuba from the United
states may carry no non-Cuban currency.
,,,;.***
Director
Office of Foreign Assets Control
Assistant Secretary (Enforcement)
SEMIANNUAL REPORT
TO THE CONGRESS
Office of Inspector General
Department of the Treasury
October 1, 1990 - March 31. 1991
Foreword
During the 6-month period ended March 31, 1991, Treasury internal auditors issued 94 audit reports which
recommended monetary benefits totaling $36.9 million. Treasury internal investigations resulted in 159 successful
prosecutions and 302 administrative sanctions. In the final analysis, however, there would be little value to the
audit and investigative processes without prompt and responsive actions by Treasury managers. For this reason,
we make a special effort to explain in our semiannual reports not only what we found and recommended, but also
what was done about it. In addition to being informative, this provides balance to the reports.
Led by the Secretary and the Deputy Secretary, Treasury has made a strong commitment to improving its
management control program. Increased management attention is reflected in progress reports which show many
completed corrective actions in the four problem areas that the Department reported to the Office of Management
and Budget in July 1989. The reported management control problems concern: (1) data integrity; (2) management
oversight of systems development activities; (3) management of accounts receivable at the IRS; and (4) funds
controls at the U.S. Customs Service.
The OIG is participating in two Treasury task forces whose objectives are to minimize waste and improve
management. Based on a report from one of the task forces, Treasury is implementing an Early Warning System
to alert managers to emerging financial management issues before they become problems requiring substantial
corrective actions. The OIG is also participating in a task force to assess internal controls in the organizations
which report to the Treasurer of the U.S.: the U.S. Mint, the Bureau of Engraving and Printing, and the U.S.
Savings Bonds Division.
For the remainder of this year and in Fiscal Year 1992, we plan to focus our efforts in four major areas. First, we
will continue to be responsive to the Administration's objective of enhancing management controls, particularly at
the U.S. Customs Service, Treasury's second largest bureau. The second focus will be to increase our capability
to investigate sensitive matters at the IRS, the Customs Service, the Secret Service, and the Bureau of Alcohol,
Tobacco and Firearms and to oversee their Offices of Internal Affairs and Inspection. Our third focus will be to advance the audit and investigative coverage provided to the Office of Thrift Supervision and to the Office of the
Comptroller of the Currency. Our fourth focus will be to comply with the Chief Financial Officers Act of 1990 which
requires the OIG to audit or arrange for audits of certain Treasury financial statements starting in 1992.
Donald E. Kirkendall
Inspector General
Department of the Treasury
April 30, 1991
Table of Contents
~
EXECUTIVE SUMMARY. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
INTRODUCTION. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
MAJOR CONTROL ISSUES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
INTERNALAUDITINGACTIVITIES ......................................
Multibureau Audit Activities ............................................
Contract Audit Activities ..............................................
Bureau of Alcohol, Tobacco and Firearms ................................
U.S. Customs Service................................................
Federal Law Enforcement Training Center ................................
Financial Management Service ........................................
Internal Revenue Service .............................................
Bureau of the Public Debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
Office of Thrift Supervision . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
INTERNALINVESTIGATIVEACTIVITIES..................................
Office of Inspector General ............................................
Bureau of ATF Office of Internal Affairs ............................•.....
Customs Service Office of Internal Affairs ................................
Internal Revenue Service Inspection Service ..............................
Secret Service Office of Inspection ......................................
PREVENTION ACTIVITIES ............................................
OTHER ACTIVITIES ..................................................
STATISTICALSUMMARIES ............................................
APPENDIX A, AUDIT REPORTS WITH RECOMMENDED MONETARY
BENEFITS, SIX MONTHS ENDED MARCH 31,1991 .......................
APPENDIX B, AUDIT REPORT LISTING, OCTOBER 1. 1990.
THROUGH MARCH 31.1991 .........................................
APPENDIX C, CROSS REFERENCES TO INSPECTOR GENERAL ACT ........
TREASURY BUREAU
ABBREVIATION
Bureau of Alcohol, Tobacco
and Firearms
Office of the Comptroller of
the Currency
U.S. Customs Service
Departmental Offices
Bureau of Engraving and Printing
Federal Law Enforcement
Training Center
Financial Management Service
Internal Revenue Service
U.S. Mint
Bureau of the Public Debt
U.S. Savings Bonds Division
U.S. Secret Service
Office of Thrift Supervision
Bureau of A TF
1
5
9
13
13
15
16
16
17
17
18
19
20
21
21
21
22
22
24
25
29
35
47
51
55
Comptroller of the Currency
Customs
Departmental Offices
Engraving and Printing
FLETC
Financial Management Service
IRS
Mint
Public Debt
Savings Bonds
Secret Service
OTS
Table of Contents
~
EXECUTIVE SUMMARY. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
INTRODUCTION. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
MAJOR CONTROL ISSUES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
INTERNAL AUDITING ACTIVITIES .................................•....
Multibureau Audit Activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Contract Audit Activities ..............................................
Bureau of Alcohol, Tobacco and Firearms .............................. . .
U.S. Customs Service................................................
Federal Law Enforcement Training Center. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
Financial Management Service ........................................
Internal Revenue Service .............................................
Bureau of the Public Debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
Office of Thrift Supervision ..................................... . . . . . . .
INTERNALINVESTIGATIVEACTIVITIES..................................
Office of Inspector General .....•......................................
Bureau of ATF Office of Internal Affairs ..................................
Customs Service Office of Internal Affairs ................................
Internal Revenue Service Inspection Service .................... , .........
Secret Service Office of Inspection .................... , .................
PREVENTION ACTIVITIES ................................•....•......
OTHER ACTIVITIES ..................................................
STATISTICALSUMMARIES ............................................
APPENDIX A, AUDIT REPORTS WITH RECOMMENDED MONETARY
BENEFITS, SIX MONTHS ENDED MARCH 31,1991 .......................
APPENDIX B, AUDIT REPORT LISTING, OCTOBER 1,1990,
THROUGH MARCH 31,1991 .........................................
APPENDIX C, CROSS REFERENCES TO INSPECTOR GENERAL ACT ........
TREASURY BUREAU
ABBREVIATION
Bureau of Alcohol, Tobacco
and Firearms
Office of the Comptroller of
the Currency
U.S. Customs Service
Departmental Offices
Bureau of Engraving and Printing
Federal Law Enforcement
Training Center
Financial Management Service
Internal Revenue Service
U.S. Mint
Bureau of the Public Debt
U.S. Savings Bonds Division
U.S. Secret Service
Office of Thrift Supervision
Bureau of ATF
1
5
9
13
13
15
16
16
17
17
18
19
20
21
21
21
22
22
24
25
29
35
47
51
55
Comptroller of the Currency
Customs
Departmental Offices
Engraving and Printing
FLETC
Financial Management Service
IRS
Mint
Public Debt
Savings Bonds
Secret Service
OTS
Executive SwnmarY
P
ublic Law 100-504, the Inspector General Act Amendments
of 1988, established a statutory .office of Inspector General (OIG) In
the Department of the Treasury on
April 16, 1989. This report is
Treasury's fourth semiannual
report to the Congress under the
Inspector General Act of 1978, as
amended. In addition to OIG activities, the report includes the activities of Treasury Offices of Internal Affairs and Inspection in the
Bureau of ATF; Customs; IRS;
and Secret Service. The OIG is
responsible for overse~ing the
operations of these offices. The
report also summarizes OIG activities with respect to the Inspector General's role as Inspector
General of the Oversight Board of
Resolution Trust Corporation.
The Department of the Treasury
employs about 160,000 individ~~ls
who perform a wide range of critical responsibilities. Among these
are: (1) formulating domestic a~d
international financial, economic,
and tax policy; (2) serving as the
financial agent of the Government;
(3) manufacturing coins and currency; (4) managing the public
debt; (5) collecting Federal
revenues; (6) enforcing laws related to such matters as firearms
and explosives, imports and. exports, counterfeiting, prot~lon,
and tax evasion; (7) exercIsing
general supervision over the operations of the national banks and
thrift institutions; and (8) training
Federal law enforcement officers.
The Inspector General Act requires Inspectors General to report
significant problems, abuses,
deficiencies, and recommendations for corrective actions. Accordingly, the audit and investigative results should not be
viewed as representative of the
conditions within the Department and its bureaus.
MAJOR CONTROL
ISSUES
Considerable Congressional, Administration, and media attention
has been focused on weaknesses
in the thrift industry regulatory
process, which was transferred
from the Federal Home Loan Bank
Board to Treasury's Office of Thrift
Supervision (OTS) in October
1989. Treasury's OIG is performing several major audits of O~S
operations and is also assessing
the Comptroller of the Currency's
supervision of the national banks.
In July 1989, Treasury reported
four areas as its most serious
management control problems:
data integrity, management oversight of systems development,
management of IRS accounts
receivable, and funds control at
Customs. Completed, ongoing,
and planned internal audits are addressing the four problem areas.
INTERNAL AUDITING
ACTIVITIES
Contract Administration and
Closeout
Over the 12 months ended
March 31, 1991, Treasury auditors
completed coordinated audits of
contract administration and
closeout at seven bureaus: Customs, Departmental Offices,
Engraving and Printing, Financial
Management Service, IRS, Mint,
and Secret Service. The audits
identified weaknesses in several
major areas.
1
Formal contract closeout procedures were deficient at all of the
bureaus with nearly 1,500 contracts n~eding closure. A review of
completed Customs' contract~, .for
example, identified over $1 million
in excess funds which should have
been deobligated and made available for other purposes. Moreover,
day-to-day administration of contracts needed to be improved or
better documented at five of the
seven bureaus, and four of the
seven bureaus needed to improve
their contract administration
management information systems.
The OIG is preparing an overall
audit report which will recommend
actions the Department should
take to address common
problems. In the meantime, each
of the bureaus audited has taken
or initiated actions to address
problems within their respective
procurement activities.
$10.7 Million in Questioned
Contract Costs Sustained
OIG auditors completed six
preaward contract audits and three
postaward contract audits during
the first half of Fiscal Year 1991. A
total of $10.7 million in questioned
costs was sustained, including
amounts which were sustained
from audits performed prior to September 30, 1990. In addition, OIG
auditors questioned $3.7 million
on contracts for which negotiations
have not yet been completed.
For example, in a preaward audit
of a proposal for currency paper
with security threads, over $7.1
million in questioned costs were
sustained. The savings resulted
after auditors questioned the
proposed materials cost, machine
processing costs, and general and
administrative costs.
Tax Exemption on Exported
Alcoholic Beverages
An OIG audit found that the
Bureau of ATF's Western Region
did not take action to assess at
least $3.2 million in potential taxes
and interest because Of weaknesses in the administration of the
alcohol producer compliance program. The audit determined that
the Western Region lacked procedures requiring validation of
exporters' claims for excise tax exemption, did not include adequate
validation of documented proof of
export in inspections, and did not
follow up promptly when exporters
failed to submit required proof of
export. The Bureau of ATF agreed
with the recommendations and
has taken or planned actions
which should correct the deficiencies.
In addition, a similar audit of the
Bureau of ATF's North Atlantic
Region identified potential additional taxes and interest totaling
$187,000. Management agreed
with the recommendations and will
take actions to assess taxes due.
Processing Employee Benefit
Plan Returns
An IRS internal audit concluded
that the Service had effectively
consolidated the processing of
employee benefit plan returns in
four service centers. However,
IRS needed to improve processing
of the returns by taking actions to
identify erroneous deductions,
eliminate unnecessary processing
steps, and reduce and improve correspondence. Corrective actions
could result in additional revenues
and cost avoidances totaling over
$14 million.
IRS agreed with the audit recommendations and is implementing
corrective actions. For example,
an error resolution check has been
installed to limit the Individual
Retirement Account deduction
when certain criteria are met, and
a test recovery project will be initiated on 1989 returns with erroneous penSion-related deductions.
Information Systems
An OIG audit found that the Office of Thrift Supervision (OTS) did
not consistently use its national information systems and that some
field offices maintained local systems that duplicated some of the
national systems' information. Consequently, OTS did not have a
fully effective nationwide
mechanism to prevent or identify
inadequate supervisory activity or
to prevent inappropriate individuals from entering or advancing in the thrift industry. The audit
also found that internal controls
over access and changes to four
of the national systems were inadequate, thus leaving the systems vulnerable to misuse of information.
The audit report recommended
that OTS develop policies and procedures to ensure that the nationwide information systems be used
throughout OTS and contain the
necessary information. In addition,
the OIG recommended changes to
improve the internal controls over
access and changes to the national systems to prevent misuse of information. The actions taken or
proposed by OTS management
generally comply with the intent of
the recommendations.
INTERNAL
INVESTIGATIVE
ACTIVITIES
Employee Misconduct Case
An OIG investigation of a senior
Departmental Offices official determined that the official had retained
a continuing finanCial relationship
2
with a former employer following
appointment, even though the official had previously represented
that all ties were severed with the
company. The official has since
severed all financial arrangements
with the former employer and has
received a reprimand for not adhering fully to applicable regulations.
Bribery Cases
Bribery continues to be a major
concern for the Office of Internal
Affairs in its efforts to ferret out corruption. For example, a Nigerian
national offered a $100,000 bribe
to a Customs inspector in an attempt to be released from a secondary examination. A Customs
"rover team" at Los Angeles International Airport had selected the
national for intensive secondary
exam ination at a local hospital. At
the hospital, the individual offered
the bribe and was arrested by Customs Internal Affairs agents. Fortyfour packets of heroin were found
on the subject. The subject pled
guilty to bribery and two narcotics
violations and is awaiting sentencing.
Businessman Sentenced on
Bribery Charges
A Michigan businessman was
sentenced to a 21-month prison
term and 3 years probation after
pleading guilty to charges of bribing an IRS agent and illegal posession of an unregistered machine
gun. During Inspections's 11month investigation, payments of
$31,000 in bribes were made to an
informant and an undercover
agent posing as a corrupt
employee. The bribes were offered
in exchange for fraudulently crediting nearly $145,000 in payroll tax
deposits to the tax account of the
businessman's firm.
Lottery Winner Arrested for
Bribery
The winner of an $11-million
state lottery was arrested for attempting to bribe an IRS revenue
officer into removing a $100,000
tax lien which was unrelated to the
lottery winnings. The subject had
originally requested that the lien
be released for a payment of
$4,000 to $5,000. In cooperation
with the Inspection Service, the
revenue officer informed the subject that the proposed payment
was not sufficient. The subject
agreed to pay the revenue officer
$25,000 for her personal use in
return for abating the $100,000 in
taxes and releasing the lien. The
subject explained that he held a
winning lottery ticket and did not
want IRS collecting the unpaid
taxes out of his lottery winnings.
Assaults and Threats to ms
Employees
The Inspection Service has the
primary responsibility for investigating assaults, threats, and forcible
interference toward IRS
employees. Investigations can
result in severe penalties after conviction - from 1 to 10 years imprisonment and $3,000 to $10,000
in fines. According to the Federal
Bureau of Investigation's Uniform
Crime Report, in 1988 "IRS enforcement officers suffered more assaults than any law enforcement
group in the Federal Government,
over five times higher than Drug
Enforcement Agency officers who
have the second greatest number
of assaults."
PREVENTION
ACTIVITIES
OTHER ACTIVITIES
Early Warning Task Force
Auditor Training Institute
Treasury is implementing an
Early Warning System to alert
managers to emerging financial
management issues before they
become problems requiring substantial corrective actions. An
Early Warning Task Force of representatives of the Assistant
Secretary (Management), the Office of Inspector General, and
Treasury bureaus defined 16
criteria and related indicators for
identifying possible problem issues relating to receivables, cash
management, and other activities.
The system, which has been
tested at the Bureau of the Public
Debt, is being implemented
Treasury-wide. By early April
1991, each bureau will prepare a
summary report on the results of a
mid-year review using the criteria
and approach developed by the
TaskForce.
Treasury's DIG has accepted the
role of lead agency on behalf of
the President's Council on Integrity and Efficiency (PCIE) to
develop an Auditor Training Institute. The Institute will permit the
efforts of PCIE members to be
combined in order to provide more
effective and economical training
which will serve the basiC training
needs of the Federal audit community.
Integrity Awareness: A High
Priority
Integrity awareness remained a
high priority for the DIG and the Offices of Internal Affairs and Inspection during the 6 months ended
March 31, 1991. The 01 G and the
Offices of Internal Affairs and Inspection at the Bureau of ATF,
Customs, and Secret Service gave
187 integrity awarensss presentations to Treasury employees. In addition, IRS presented over 430 integrity awareness briefings to
more than 13,000 employees
during the 6 months ended September 30, 1990.
3
The pilot seSsion of a Basic
Auditor Training Course will be
held in July 1991, with at least five
more sessions to be conducted
during the rest of 1991. Fifty-nine
of the 61 DIGs have indicated that
they will send students to the Institute.
Chief Financial Officers Act
The DIG is preparing to fulfill its
obligations under the Chief Financial Officers Act of 1990. The Act
requires Treasury to prepare financial statements for certain accounts not later than March 31 ,
1992, and annually thereafter. It
also requires that audits of these
statements be performed by the Inspector General or by an independent external auditor, as determined by the Inspector General.
The DIG will perform some of
the required audits and will have
independent external auditors perform other audits. The DIG has expanded training efforts in order to
have qualified staff available to
perform the work.
Tax Exemption on Exported
Alcoholic Beverages
An DIG audit found that the
Bureau of ATF's Western Region
did not take action to assess at
least $3.2 million in potential taxes
and interest because of weaknesses in the administration of the
alcohol producer compliance program. The audit determined that
the Western Region lacked procedures requiring validation of
exporters' claims for excise tax exemption, did not include adequate
validation of documented proof of
export in inspections, and did not
follow up promptly when exporters
failed to submit required proof of
export. The Bureau of ATF agreed
with the recommendations and
has taken or planned actions
which should correct the deficiencies.
In addition, a similar audit of the
Bureau of ATF's North Atlantic
Region identified potential additional taxes and interest totaling
$187,000. Management agreed
with the recommendations and will
take actions to assess taxes due.
Processing Employee Benefit
Plan Returns
An IRS internal audit concluded
that the Service had effectively
consolidated the processing of
employee benefit plan returns in
four service centers. However,
IRS needed to improve processing
of the returns by taking actions to
identify erroneous deductions,
eliminate unnecessary processing
steps, and reduce and improve correspondence. Corrective actions
could result in additional revenues
and cost avoidances totaling over
$14 million.
IRS agreed with the audit recommendations and is implementing
corrective actions. For example,
an error resolution check has been
installed to limit the Individual
Retirement Account deduction
when certain criteria are met, and
a test recovery project will be initiated on 1989 returns with erroneous penSion-related deductions.
Information Systems
An OIG audit found that the Office of Thrift Supervision (OTS) did
not consistently use its national information systems and that some
field offices maintained local systems that duplicated some of the
national systems' information. Consequently, OTS did not have a
fully effective nationwide
mechanism to prevent or identify
inadequate supervisory activity or
to prevent inappropriate individuals from entering or advancing in the thrift industry. The audit
also found that internal controls
over access and changes to four
of the national systems were inadequate, thus leaving the systems vulnerable to misuse of information.
The audit report recommended
that OTS develop policies and procedures to ensure that the nationwide information systems be used
throughout ors and contain the
necessary information. In addition,
the OIG recommended changes to
improve the internal controls over
access and changes to the national systems to prevent misuse of information. The actions taken or
proposed by OTS management
generally comply with the intent of
the recommendations.
INTERNAL
INVESTIGATIVE
ACTIVITIES
Employee Misconduct Case
An OIG investigation of a senior
Departmental Offices official determined that the official had retained
a continuing financial relationship
2
with a former employer following
appointment, even though the official had previously represented
that all ties were severed with the
company. The official has since
severed all financial arrangements
with the former employer and has
received a reprimand for not adhering fully to applicable regulations.
Bribery Cases
Bribery continues to be a major
concern for the Office of Internal
Affairs in its efforts to ferret out corruption. For example, a Nigerian
national offered a $100,000 bribe
to a Customs inspector in an attempt to be released from a secondary examination. A Customs
"rover team" at Los Angeles International Airport had selected the
national for intensive secondary
examination at a local hospital. At
the hospital, the individual offered
the bribe and was arrested by Customs Internal Affairs agents. Fortyfour packets of heroin were found
on the subject. The subject pled
guilty to bribery and two narcotics
violations and is awaiting sentencing.
Businessman Sentenced on
Bribery Charges
A Michigan businessman was
sentenced to a 21-month prison
term and 3 years probation after
pleading guilty to charges of bribing an IRS agent and illegal posession of an unregistered machine
gun. During Inspections's 11month investigation, payments of
$31,000 in bribes were made to an
informant and an undercover
agent posing as a corrupt
employee. The bribes were offered
in exchange for fraudulently crediting nearly $145,000 in payroll tax
deposits to the tax account of the
businessman's firm.
Lottery Winner Arrested for
Bribery
The winner of an $ll-million
state lottery was arrested for attempting to bribe an IRS revenue
officer into removing a $100,000
tax lien which was unrelated to the
lottery winnings. The subject had
originally requested that the lien
be released for a payment of
$4,000 to $5,000. In cooperation
with the Inspection Service, the
revenue officer informed the subject that the proposed payment
was not sufficient. The subject
agreed to pay the revenue officer
$25,000 for her personal use in
return for abating the $100,000 in
taxes and releasing the lien. The
subject explained that he held a
winning lottery ticket and did not
want IRS collecting the unpaid
taxes out of his lottery winnings.
Assaults and Threats to IRS
Employees
The Inspection Service has the
primary responsibility for investigating assaults, threats, and forcible
interference toward IRS
employees. Investigations can
result in severe penalties after conviction - from 1 to 1 years imprisonment and $3,000 to $10,000
in fines. According to the Federal
Bureau of Investigation's Uniform
Crime Report, in 1988 "IRS enforcement officers suffered more assaults than any law enforcement
group in the Federal Government,
over five times higher than Drug
Enforcement Agency officers who
have the second greatest number
of assaults."
°
PREVENTION
ACTIVITIES
OTHER ACTIVITIES
Early Warning Task Force
Auditor Training Institute
Treasury is implementing an
Early Warning System to alert
managers to emerging financial
management issues before they
become problems requiring substantial corrective actions. An
Early Warning Task Force of representatives of the Assistant
Secretary (Management), the Office of Inspector General, and
Treasury bureaus defined 16
criteria and related indicators for
identifying possible problem issues relating to receivables, cash
management, and other activities.
The system, which has been
tested at the Bureau of the Public
Debt, is being implemented
Treasury-wide. By early April
1991, each bureau will prepare a
summary report on the results of a
mid-year review using the criteria
and approach developed by the
TaskForce.
Treasury's OIG has accepted the
role of lead agency on behalf of
the President's Council on Integrity and Efficiency (PCIE) to
develop an Auditor Training Institute. The Institute will permit the
efforts of PCI E members to be
combined in order to provide more
effective and economical training
which will serve the basic training
needs of the Federal audit community.
Integrity Awareness: A High
Priority
Integrity awareness remained a
high priority for the OIG and the Offices of Internal Affairs and Inspection during the 6 months ended
March 31, 1991. The OIG and the
Offices of Internal Affairs and Inspection at the Bureau of ATF,
Customs, and Secret Service gave
187 integrity awarensss presentations to Treasury employees. In addition, IRS presented over 430 integrity awareness briefings to
more than 13,000 employees
during the 6 months ended September 30, 1990.
3
The pilot seSSion of a Basic
Auditor Training Course will be
held in July 1991, with at least five
more sessions to be conducted
during the rest of 1991. Fifty-nine
of the 61 OIGs have indicated that
they will send students to the Institute.
Chief Financial Officers Act
The OIG is preparing to fulfill its
obligations under the Chief Financial Officers Act of 1990. The Act
requires Treasury to prepare financial statements for certain accounts not later than March 31,
1992, and annually thereafter. It
also requires that audits of these
statements be performed by the Inspector General or by an independent external auditor, as determined by the Inspector General.
The OIG will perform some of
the required audits and will have
independent external auditors perform other audits. The OIG has expanded training efforts in order to
have qualified staff available to
perform the work.
Tax Exemption on Exported
Alcoholic Beverages
An OIG audit found that the
Bureau of ATF's Western Region
did not take action to assess at
least $3.2 million in potential taxes
and interest because of weaknesses in the administration of the
alcohol producer compliance program. The audit determined that
the Western Region lacked procedures requiring validation of
exporters' claims for excise tax exemption, did not include adequate
validation of documented proof of
export in inspections, and did not
follow up promptly when exporters
failed to submit required proof of
export. The Bureau of ATF agreed
with the recommendations and
has taken or planned actions
which should correct the deficiencies.
In addition, a Similar audit of the
Bureau of ATF's North Atlantic
Region identified potential additional taxes and interest totaling
$187,000. Management agreed
with the recommendations and will
take actions to assess taxes due.
Processing Employee Benefit
Plan Returns
An IRS internal audit concluded
that the Service had effectively
consolidated the processing of
employee benefit plan returns in
four service centers. However,
IRS needed to improve processing
of the returns by taking actions to
identify erroneous deductions,
eliminate unnecessary processing
steps, and reduce and improve correspondence. Corrective actions
could result in additional revenues
and cost avoidances totaling over
$14 million.
IRS agreed with the audit recommendations and is implementing
corrective actions. For example,
an error resolution check has been
installed to limit the Individual
Retirement Account deduction
when certain criteria are met, and
a test recovery project will be initiated on 1989 returns with erroneous pension-related deductions.
Information Systems
An OIG audit found that the Office of Thrift SuperviSion (OTS) did
not consistently use its national information systems and that some
field offices maintained local systems that duplicated some of the
national systems' information. Consequently, OTS did not have a
fully effective nationwide
mechanism to prevent or identify
inadequate supervisory activity or
to prevent inappropriate individuals from entering or advancing in the thrift industry. The audit
also found that internal controls
over access and changes to four
ofthe national systems were inadequate, thus leaving the systems vulnerable to misuse of information.
The audit report recommended
that OTS develop poliCies and procedures to ensure that the nationwide information systems be used
throughout OTS and contain the
necessary information. In addition,
the OIG recommended changes to
improve the internal controls over
access and changes to the national systems to prevent misuse of information. The actions taken or
proposed by OTS management
generally comply with the intent of
the recommendations.
INTERNAL
INVESTIGATIVE
ACTIVITIES
Employee Misconduct Case
An OIG investigation of a senior
Departmental Offices official determined that the official had retained
a continuing finanCial relationship
2
with a former employer following
appointment, even though the official had previously represented
that all ties were severed with the
company. The official has since
severed all financial arrangements
with the former employer and has
received a reprimand for not adhering fully to applicable regulations.
Bribery Cases
Bribery continues to be a major
concern for the Office of Internal
Affairs in its efforts to ferret out corruption. For example, a Nigerian
national offered a $100,000 bribe
to a Customs inspector in an attempt to be released from a secondary examination. A Customs
"rover team" at Los Angeles International Airport had selected the
national for intensive secondary
examination at a local hospital. At
the hospital, the individual offered
the bribe and was arrested by Customs Internal Affairs agents. Fortyfour packets of heroin were found
on the subject. The subject pled
guilty to bribery and two narcotics
violations and is awaiting sentencing.
Businessman Sentenced on
Bribery Charges
A Michigan businessman was
sentenced to a 21-month prison
term and 3 years probation after
pleading guilty to charges of bribing an IRS agent and illegal posession of an unregistered machine
gun. During Inspections's 11month investigation, payments of
$31,000 in bribes were made to an
informant and an undercover
agent posing as a corrupt
employee. The bribes were offered
in exchange for fraudulently crediting nearly $145,000 in payroll tax
deposits to the tax account of the
businessman's firm.
Lottery Winner Arrested for
Bribery
The winner of an $11-million
state lottery was arrested for attempting to bribe an IRS revenue
officer into removing a $100,000
tax lien which was unrelated to the
lottery winnings. The subject had
originally requested that the lien
be released for a payment of
$4,000 to $5,000. In cooperation
with the Inspection Service, the
revenue officer informed the subject that the proposed payment
was not sufficient. The subject
agreed to pay the revenue officer
$25,000 for her personal use in
return for abating the $100,000 in
taxes and releasing the lien. The
subject explained that he held a
winning lottery ticket and did not
want IRS collecting the unpaid
taxes out of his lottery winnings.
Assaults and Threats to ms
Employees
The Inspection Service has the
primary responsibility for investigating assaults, threats, and forcible
interference toward IRS
employees. Investigations can
result in severe penalties after conviction - from 1 to 10 years imprisonment and $3,000 to $10,000
in fines. According to the Federal
Bureau of Investigation's Uniform
Crime Report, in 1988 "IRS enforcement officers suffered more assaults than any law enforcement
group in the Federal Government,
over five times higher than Drug
Enforcement Agency officers who
have the second greatest number
of assaults."
PREVENTION
ACTIVITIES
OTHER ACTIVITIES
Early Warning Task Force
Auditor Training Institute
Treasury is implementing an
Early Warning System to alert
managers to emerging financial
management issues before they
become problems requiring substantial corrective actions. An
Early Warning Task Force of representatives of the Assistant
Secretary (Management), the Office of Inspector General, and
Treasury bureaus defined 16
criteria and related indicators for
identifying possible problem issues relating to receivables, cash
management, and other activities.
The system, which has been
tested at the Bureau of the Public
Debt, is being implemented
Treasury-wide. By early April
1991, each bureau will prepare a
summary report on the results of a
mid-year review using the criteria
and approach developed by the
TaskForce.
Treasury's OIG has accepted the
role of lead agency on behalf of
the President's Council on Integrity and Efficiency (PCIE) to
develop an Auditor Training Institute. The Institute will permit the
efforts of PCIE members to be
combined in order to provide more
effective and economical training
which will serve the basic training
needs of the Federal audit community.
Integrity Awareness: A High
Priority
Integrity awareness remained a
high priority for the OIG and the Offices of Internal Affairs and Inspection during the 6 months ended
March 31, 1991. The 01 G and the
Offices of Internal Affairs and Inspection at the Bureau of ATF,
Customs, and Secret Service gave
187 integrity awarensss presentations to Treasury employees. In addition, IRS presented over 430 integrity awareness briefings to
more than 13,000 employees
during the 6 months ended September 30, 1990.
3
The pilot seSSion of a Basic
Auditor Training Course will be
held in July 1991, with at least five
more sessions to be conducted
during the rest of 1991. Fifty-nine
of the 61 OIGs have indicated that
they will send students to the Institute.
Chief Financial Officers Act
The OIG is preparing to fulfill its
obligations under the Chief Financial Officers Act of 1990. The Act
requires Treasury to prepare financial statements for certain accounts not later than March 31,
1992, and annually thereafter. It
also requires that audits of these
statements be performed by the Inspector General or by an independent external auditor, as determined by the Inspector General.
The OIG will perform some of
the required audits and will have
independent external auditors perform other audits. The OIG has expanded training efforts in order to
have qualified staff available to
perform the work.
of Internal Affairs and Inspection in
the Bureau of ATF, Customs, and
Secret Service and internal audits
and internal investigations of the
Inspection Service of IRS.
The OIG audits the programs
and operations of 12 of the 13
bureaus (Departmental Offices,
Bureau of ATF, Comptroller of the
Currency, Customs, Engraving
and Printing, FLETC, Financial
Management Service, Mint, Public
Debt, Savings Bonds, Secret Service, and OTS). In addition, the
OIG investigates allegations of
criminal and other misconduct by
employees in nine bureaus
(Departmental Offices, Comptroller of the Currency, Engraving
and Printing, FLETC, Mint, Financial Management Service, Public
Debt, Savings Bonds, and OTS);
investigates or oversees cases on
matters of significance throughout
the Department; and helps to
promote integrity awareness
among employees.
The OIG also exercises oversight responsibility for the activities
of the Offices of Internal Affairs
and Inspection at Treasury's four
law enforcement bureaus
(Bureau of ATF, Customs, IRS,
and Secret Service) and represents the Department on the
President's Council on Integrity
and Efficiency. On April 27, 1990,
the Secretary delegated to the Inspector General the authority to
act as Inspector General of the
Oversight Board of the Resolution
T rust Corporation.
Organization
Treasury's Inspector General
reports directly to the Secretary
and Deputy Secretary. A Deputy
Inspector General assists the Inspector General in fulfilling responsibilities to ensure that Treasury
has comprehensive internal audit,
internal investigative, and oversight programs.
Four Assistant Inspectors
General are responsible for the
OIG's audit, investigative, oversight, and management functions.
The Assistant Inspector General
for Audit has overall responsibility
for Treasury OIG audit activities,
including multibureau audits of the
same program, activity, or function. The Assistant Inspector
General for Investigations has
overall responsibility for the investigative activities of the OIG, for
helping to promote integrity awareness among Treasury employees,
and for liaison with law enforcement bureau Internal Affairs and Inspection Offices on investigative
matters.
The Assistant Inspector General
for OverSight and Quality Assurance is responsible for carrying
out requirements in the Inspector
General Act to oversee Treasury
6
Offices of Internal Affairs and Inspection. The Assistant Inspector
General also directs a quality assurance program to ensure that
OIG audit and investigative
programs are carried out efficiently
and effectively and directs studies
or projects of special interest or
which cut across organizational or
functional lines. The Assistant Inspector General for Policy, Planning and Resources has overall
responsibility for policy, planning,
personnel, budget, ADP, and other
supporting activities.
Realignment of the Office of
Audit
A realignment of the OIG's
Office of Audit was initiated in
order to (1) improve managerial
flexibility by eliminating the overlap
of responsibilities between bureauspecifiC audit staffs and regional
audit staffs and (2) provide greater
focus on long-range audit planning
and technical support. The new
alignment divides the Assistant Inspector General for Audit's responsibilities and staff into two basic
components: one for audit execution and the other for planning, program technical support, and
liaison. A Deputy Assistant Inspector General for Audit will direct
each component. In place of
bureau-specific audit staffs, a
regional audit office will perform all
audit work in the metropolitan
Washington, D.C., area.
DEPARTMENT OF THE TREASURY - OFFICE OF INSPECTOR GENERAL
INSPECTOR GENERAL
SPECIAL
ASSISTANT
OFFICES OF
INSPECTION AND
INTERNAL
AFFAIRS
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Major Control Issues
T
his chapter outlines major control issues, recognizes efforts
to address them, and explains
what the OIG and the Inspection
Service of IRS are doing to help
the Department address them.
The chapter covers thrift and banking industry problems and four
areas which Treasury reported to
the Office of Management and
Budget (OMB) in July 1989 as its
most serious management control
problems: data integrity, management oversight of systems
development activities, management of accounts receivable at the
IRS, and funds control at the U.S.
Customs Service.
Treasury managers are strongly
committed to correcting internal
control weaknesses. In a July
1990 response to OMB's request
for a review of progress in high
risk areas, Treasury reported that
significant progress had been
made in addressing its four high
risk areas but that additional work
needed to be done. A detailed
progress report was also included
in the Department's December
1990 self-evaluation report under
the Federal Managers' Financial Integrity Act (FMFIA). It showed that
many corrective actions had been
completed and included target
dates for the remaining actions
which ranged from 1991 to early
1995.
Planned OIG audits will review
the effectiveness of actions to correct deficiencies identified by
FMFIA reviews, OIG audits, and
General Accounting Office (GAO)
audits and will assess the
progress reported on addressing
the major control issues.
Thrift and Banking Industries
Regulatory, examination, and supervisory responsibilities for
savings and loan institutions were
transferred to Treasury's Office of
Thrift Supervision (OTS) with the
passage of the Financial Institution
Reform, Recovery, and EnforcementActof 1989 (FIRREA). Considerable Congressional, Administration, and media attention
on thrift industry problems has
been focused on weaknesses in
the thrift industry regulatory
process.
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The Department's December
1990 FMFIA report said that OTS
recognized that it had some
management control issues that
needed to be addressed. Concerns that OTS is committed to addressing include: improvements to
management information systems
by eliminating ineffective systems
and streamlining the number of
systems; the accuracy and
propriety of thrift ratings; examination report content and workpaper
standards; consumer compliance
activities; adequate and uniform
implementation of poliCies and procedures; a national (regional and
district) quality assurance process;
adherence to timeliness standards
for examinations and related
regulatory processes; and oversight of capital plan compliance.
While these issues are important,
the report expressed a belief that
9
as currently defined, they did not
meet the materiality requirements
for reporting under the FMFIA.
Treasury's OIG is performing
several major audits which are
covering many of these areas.
These audits will provide a documented basis for OTS and the
Department to consider in future
FMFIA reporting.
A recent OIG audit found that
OTS did not consistently use its
national information systems and
that some field offices maintained
local systems that duplicated
some of the national systems' information. An audit of the application review process is nearly completed, and an audit of the examination process, conducted in
four OTS regional offices, is
evaluating the adequacy of supporting documentation for examination results. A fourth audit is
evaluating the consistency, timing
and appropriateness of enforcement actions in three OTS field offices and headquarters. A fifth
audit is evaluating security over
sensitive information.
GAO raised concerns about the
supervision of the commercial
banks in a 1990 report which questioned the adequacy of the Federal
Deposit Insurance Fund. In its
report, GAO identified the need for
deposit insurance fund reform and
expressed concern about the effectiveness of bank regulations in
light of the financial problems that
have occurred in a number of the
nation's larger banking organizations.
The OIG is also assessing the
Comptroller of the Currency's supervision of the national banks.
Ongoing and planned audits will
examine the national bank licensing process, the bank examination
process, enforcement actions and
implementation of the Financi~1 Institution Reform, Recovery and Enforcement Act of 1989.
Data Integrity
The Department identified data
integrity as a management control
problem because of major
problems in Treasury accounting
systems, including a lack of
genera.1 ledger controls, inability to
reconcile accounts in a timely manner, and other systems inefficiencies. Questionable or inaccurate
data can undermine the reliability
of financial statements and
Treasury's ability to manage its
programs.
. The Department's July 1990 high
risk progress report noted that
data integrity weaknesses had
been most pronounced within two
Treasury bureaus-Public Debt
and Customs. The progress report
said that Public Debt actions over
the previous 18 months had corrected all significant operational
deficiencies with the existing
public debt accounting system and
t~~t Customs had reported signif~ca~ pr~ress in correcting all
of its Identified FMFIA deficiencies.
OIG audits are addressing a
number of data integrity issues at
Public Debt, Customs, and other
Treasury b.ureaus. For example, a
recent audit report confirmed that
Public Debt had taken aggressive
action to resolve 18 general ledger
accounts for public debt transactions which were out of balance
with records of the Financial
Management Service by a total of
$53 billion. This problem impaired
the integrity of the general ledger
system and had been reported in
the Bureau's FMFIA report and
prior OIG and GAO audits. Public
Debt reduced the unreconciled account balances to $832 million
developed a recommendation for
resolving the remaining difference,
and created a quality assurance
staff to ensure that differences in
the accounts are immediately
resolved.
The OIG is continuing to audit
the design and development of the
Public Debt Accounting and
Reporting System (PARS). PARS
is scheduled to be completed in
1992 and will control all public
debt financial and security transactions through a fully integrated,
automated accounting system.
Since assuming the responsibility for auditing Customs in
April 1989, the OIG has made a
strong commitment to reviewing
Customs' programs, including
seized and abandoned property,
for which it has a contract with a
private firm. The OIG is reviewing
the controls and accounting for
seized property retained by Customs and not turned over to the
contractor, including currency,
monetary instruments, narcotiCS,
and firearms. The OIG also plans
to audit the effectiveness of the
seized property program itself and
Customs' oversight of the new contractor. Another audit will follow up
on corrective actions in response
to prior audits and management
reviews, including recommendations relating to seized property.
As noted in the OIG's last report
to the Congress, the control over
unliquidated obligations is another
concern, and Departmental
managers are taking corrective actions. An OIG audit in three
bureaus concluded that procedures at the bureaus reviewed
were generally inadequate to
monitor unliquidated balances in
the "M" accounts for prior years'
appropriations.
An ~ngoi~g ~udit addressing
data Integrity Issues is examining
accounting, investment, and
redemption services that the Financial Management Service provides
to Government trust funds and
other accounting entities, and a
planned audit will examine cost
10
accounting system development
activities at the Mint. In addition,
the OIG is preparing to fulfill its
financial statement auditing obligations under the Chief Financial Officers Act of 1990.
Systems Development
Oversight
Systems at some bureaus were
developed without adequate
management overSight, user involvement in the development
process, and proper integration
with other systems. Inadequate
oversight of systems development
efforts was reported by Treasury
as a major factor contributing to
the data integrity problems and in
addition, had adversely affected
revenue collection and budgetary
controls.
The Department's basic strategy
to address systems development
deficiencies is by thoroughly
reviewing and analyzing bureau 5year information systems plans
and reemphasizing the need for
Departmental approval of major
systems replacement or enhancement projects. In addition, crossservicing opportunities will continue to be explored.
An ongoing audit is evaluating
the procedures, practices, and controls for designing and developing
Treasury systems. Audit work is
underway at the Financial Management Service and Public Debt and
may be extended to other
bureaus. In addition, OIG auditors
are now reviewing the design and
development of several systems.
Similarly, I RS internal auditors
have conducted numerous
reviews for the various phases of
the design, development, and
procurement of information systems at IRS. In addition, IRS
management has taken actions to
assure that the Service develops
quality information systems within
reasonable time and cost con-
straints in response to an internal
audit report entitled "Trend
Analysis of Systems Development
Activities for Fiscal Years 19871989." The report analyzes IRS
systems development activities
based on audit findings over the 3year period. During this period,
IRS improved its systems development process. The trend analysis
concluded, however, that further
improvements were needed to
strengthen the systems development methodology, contract administration process, and quality
review procedures to assure that
the Service develops timely, high
quality products at the lowest overall cost to the Government.
Accounts Receivable
Accounts receivable at IRS have
grown from $18 billion in 1981 to
over $73 billion, before adjustment
for accruals and currently not collectible accounts. The system currently being used to maintain accounts receivable does not
produce accurate and reliable information on amounts owed by taxpayers.
An action plan addressing the
recommendations of contractor
and in-house studies has been
developed, and an Executive Oversight Committee was formed to
finalize action dates and provide
top-level support for plan implementation.
IRS internal auditors are monitoring accomplishment of the action
plan. Three audits relating to accounts receivable have been completed and draft reports issued.
These audits covered the reporting
of accounts receivable and the allowances for doubtful accounts on
the quarterly statements, the collection of large dollar accounts
receivable, and the management
of accounts held in the queue (no
active collection action). Also, an
audit of collection statute processing and control procedures was
recently initiated, and the system
for developing the allowance for
doubtful accounts is being
evaluated.
Funds Control
Treasury reported that management of funds at Customs was a
serious problem, including untimely deposits, untimely reconciliation
of amounts due, and inadequate
control over collection documents.
In addition, known delinquent debt
totaled over $96 million.
Customs' main strategy is to
replace its primary accounting system ("CAMIS"), which is outdated
and the source of numerous
FMFIA defiCiencies, with a new
modern system (the Asset Information Management System) and to
make necessary enhancements to
the Automated Commercial System, which accounts for revenue
collection. In addition, poliCies and
procedures for revenue collections
are to be revised to correct known
deficiencies.
The OIG is monitoring Customs'
actions to improve its accounting
system and bring it into conformance with the Comptroller
General's standards. Ongoing and
planned OIG audits are addressing the following accounts receivable and revenue collection matters at Customs and at the Bureau
of ATF, which also has substantial
revenue collection responsibilities:
11
o
o
o
o
Customs' fines, penalties, and
forfeitures program.
Collection of passenger user
fees by Customs.
Collection of excise taxes paid
by tobacco manufacturers.
Collection of delinquent special occupational taxes on certain businesses in the alcohol,
tobacco and firearms industries.
Prior audits as well as the
Department's FMFIA process
have also reported problems in
controlling appropriated funds at
Customs. In an interim report
issued in 1989, the OIG concluded
that Customs had inappropriately
supplemented its Fiscal Year 1987
appropriation for salaries and expenses with anticipated reimbursements from its seized property program and that the anticipated reimbursements were substantially
overstated. In its final report, however, the OIG concluded that Customs had not violated the Antideficiency Act because adjusting
accounting entries that had been
developed by Customs and
verified by the OIG are sufficient to
cover an apparent $3.8 million
deficiency in the appropriation.
Customs discontinued the practice
of including anticipated reimbursements as a budgetary resource in
Fiscal Year 1988 and has identified a number of actions to improve the reliability of its accounting records. The OIG will conduct
several audits in Fiscal Year 1991
that will evaluate fund control and
the budgetary processes at Customs.
IntemaiAuditing Activities
•
•
•
During the 6 months
ended March 31,1991,
Treasury internal
auditors issued 94 audit
reports: 39 on the operations of Treasury bureaus
served by the OIG and 55
on the operations of ms.
Potential monetary
benefits from management actions on audit
recommendations totaled
$36.9 million.
Many audits have
strengthened or will
strengthen internal controls, thereby helping to
prevent and detect fraud,
waste, and abuse.
E
xcept for audits of contractors,
Treasury internal audits focus
on reviewing the internal operations of Treasury bureaus. This
chapter describes some of the
more significant audits, pursuant
to Inspector General Act requirements to report significant
problems, abuses, deficiencies,
and recommendations for corrective actions. Because this chapter describes only selected significantfindings, they should
not be considered as representative of the conditions in
the Department and its bureaus.
fraud, waste, and abuse. Significant multibureau audit, contract
audit, and individual bureau audit
activities follow.
the bureaus. These procedures assure that contract requirements were fulfilled, that
payments were proper, and
that any unliquidated obligations are valid. The audits identified nearly 1,500 contracts
which needed closure. A
review of completed Customs'
contracts, for example, identified over $1 million in excess
funds which should have been
deobligated and made available for other purposes.
MULTIBUREAU AUDIT
ACTIVITIES
Contract Administration and
Closeout
Over the 12 months ended
March 31, 1991, Treasury auditors
completed coordinated audits of
contract administration and
closeout at seven bureaus: Customs (Report#OIG 91-24),
Departmental Offices (Report
#OIG 91-015), Engraving and
Printing (Report #OIG 91-009),
Financial Management Service
(Report #OIG 91-010), IRS
(Report #002212), Mint (Report
#DIG 90-038), and Secret Service
(Report #OIG 90-068). The audits
identified weaknesses in several
major areas. For example:
o
Formal contract closeout procedures were deficient at all of
Audits covered a variety of
Treasury programs, activities, and
functions. Some of the examples illustrate audits with savings and
other kinds of monetary findings,
while others illustrate audits which
have strengthened or will
strengthen internal controls, thereby helping to prevent and detect
13
o
Day-to-day administration of
contracts needed to be improved or better documented
at five of the seven bureaus.
Administration weaknesses
can lead to improper procurement practices and unnecessary costs when contractors
are paid for services not performed or for goods of inferior
quality. Engraving and Printing, for example, paid $29,000
for a product that did not meet
contract specifications, did not
take full advantage of purchase discounts, and did not
properly implement proce-
dures for testing the quantities
of inks and postage stamp
papers received.
o
Four of the seven bureaus
needed to improve their contract administration management information systems.
Analysis ofthe Contract Information System (COINS) at
IRS, for example, identified
conflicting, incomplete, and
missing data, impairing the
system's usefulness in planning and monitoring acquisitions.
The OIG is preparing an overall
audit report which will recommend
actions the Department should
take to address common
problems. In the meantime, each
of the bureaus audited have taken
or initiated actions to address
problems within their respective
procurement activities. For example:
o
All seven bureaus developed
contract closure procedures
and/or planned, initiated, or
completed reviews of contracts needing closure.
D
Customs established a contract administration division,
and Secret Service requested
funds for a new contract administration branch.
D
IRS, Departmental Offices,
and Customs are enhancing
their contract administration
MIS's, and Engraving and
Printing is developing a new
system.
Bank Secrecy Act
Implementation
An audit of Treasury's implementation of the Bank Secrecy Act concluded that the Department had
not sufficiently monitored the Bank
Secrecy Act (BSA) data collection
activities performed by IRS and
OIG auditors discuss Treasury's implementation of the Bank Secrecy Act (BSA). Law
enforcement agencies use Treasury's BSA database on the movement of funds to
investigate criminal and regulatory violations.
Customs. The audit covered BSA
activities at Departmental Offices'
Office of Financial Enforcement
(OFE), IRS, Customs, and Comptroller of the Currency.
Background
The Financial Recordkeeping
and Currency and Foreign Transactions Reporting Act, referred to
as the Bank Secrecy Act, was
enacted in 1970. Under the BSA,
financial institutions and individuals must file reports and
maintain records of certain transactions involving currency and
monetary instruments exceeding
$10,000. All of this BSA information is input into databases maintained by Customs and made available to law enforcement agencies
through the Treasury Enforcement
Communications Systems II
(TECS II).
The primary purpose of the
reporting and record keeping requirements is to aid law enforcement agencies in detecting and investigating criminal, tax, and
regulatory violations by identifying
the source, volume, and movement of funds coming into and out
of the country or being deposited,
14
withdrawn, or exchanged for currency, or transferred by or through
financial institutions. BSA administration and enforcement
responsibilities have been
delegated to OFE and eight agencies, including IRS, Customs, and
the Comptroller of the Currency.
Treasury Audits
An overall audit report issued in
December 1990 deals with the
need for the Department to increase its BSA monitoring and
oversight activities. Because OFE
had not always been able to address BSA data processing
problems, BSA data provided to
the law enforcement community
was not always complete, timely,
or accurate. For example, during
the first 6 months of 1988, 47 percent of the three million Currency
Transaction Reports filed by financial institutions were not entered
into I RS' on-line computer system.
Moreover, neither the IRS nor the
Customs databases contained
Reports of Foreign Bank and
Financial Accounts or Currency
Transaction Reports by Casinos.
As of October 1988, this encompassed over 134,000 documents.
The auditors recommended that
Treasury allocate additional resources to establish a more active
monitoring and oversight program.
Also, the Department needed to
work closely with IRS and other
Treasury bureaus having BSA
responsibilities to resolve
problems and conflicts that adversely impact effective administration of the BSA. OFE has initiated
corrective actions on both recommendations. OFE budgeted for
seven additional permanent positions and is presently recruiting for
four of these positions. In addition,
OFE is preparing guidelines outlining IRS's BSA responsibilities.
(Report #OIG 91-013)
The OIG's semiannual report for
the 6 months ended March 31,
1990, summarized the separate
audit reports that were issued to
OFE and each of the Treasury
bureaus on their BSA-related activities. In response to these
audits, actions were taken or iniated to improve the BSA
databases and to act on other
problems identified by the audits.
For example, procedures were instituted to require that all BSA
documents be entered into the
IRS BSA database by the end of
the month following receipt.
Collection and Deposit
Control
A Treasury-led interagency audit
of collection and deposit controls
identified procedural and compliance issues relating to each
agency's operations. However, the
audit did not identify any Government-wide issues or weaknesses
in cash management regulations
of Treasury's Financial Management Service.
The audit was undertaken on behalf of the President's Council on
Integrity and Efficiency (PCIE).
The overall objective of the audit
was to determine the effectiveness
of cash deposit mechanisms. In-
ed documentation certifying
that adviSOry and assistance
services did not duplicate previously performed work, and
Customs did not perform cost
comparisons to determine the
economic feasibility of using inhouse resources instead of
contractors.
spectors General from the Departments of Agriculture, Transportation, Housing and Urban Development, and Health and Human Services participated in the audit.
Treasury summarized the results
of the audit in a memorandum
which was circulated to PCIE
members. However, a comprehensive consolidated report will not be
issued because no Governmentwide issues were identified.
Contracts for Advisory and
Assistance Services
The Department obligated about
$22 million for advisory and assistance services in Fiscal Year
1990. A consolidated report on
Contracts for AdviSOry and Assistance Services (CMS) summarized audits at five bureaus:
Departmental Offices, Engraving
and Printing, Financial Management Service, IRS, and Customs.
The report concluded that the
Department had issued and implemented contract approval, on-site
review, and other pOlicies and procedures which adequately addressed the management control
requirements in OMB Circular A120, Guidelines for the Use of Advisory and Assistance Services.
However, improvements were
needed in the controls at the
bureau level. The audits at the
bureau level showed that:
o
o
IRS management controls did
not ensure that requests for
CMS were properly approved
by appropriate management
levels, thus increasing the
potential for unauthorized
CMS procurements.
Three bureaus needed to implement controls to ensure
that CMS did not duplicate
previously performed work or
work that could be accomplished by using in-house
sources. Engraving and Printing and IRS contract files lack-
15
o
Departmental Offices, Engraving and Printing, IRS, and Customs did not prepare written
evaluations at the conclusion
of CMS procurements. This
increases the risk of paying for
products or services of questionable value.
Bureau managers have taken or
plan to take actions to address
each ofthe recommendations.
IRS, for example, issued a
memorandum which provides
detailed requirements for CMS
approvals and the documentation
needed to justify a CMS request.
Engraving and Printing, Customs,
Departmental Offices, and IRS
planned or took actions to prepare
written evaluations of CMS
procurements. (Report#OIG 91021)
CONTRACT AUDIT
ACTIVITIES
$10.7 Million in Questioned
Contract Costs Sustained
OIG auditors completed six
preaward contract audits and three
postaward contract audits during
the first half of Fiscal Year 1991. A
total of $10.7 million in questioned
costs was sustained, including
amounts which were sustained
from audits performed prior to September 30, 1990. In addition, OIG
auditors questioned $3.7 million
on contracts for which negotiations
have not been completed.
Preaward audits provide information on whether pricing proposals
are fair and reasonable, and contracting officers use them in
negotiating contracts. For example, in a preaward audit of a
proposal for currency paper with
security threads for the Bureau of
Engraving and Printing, over $7.1
million in questioned costs were
sustained. The savings resulted
after auditors questioned the
proposed materials cost, machine
processing costs, and general and
administrative costs. (Report #GIG
91-014)
Postaward audits verify that the
costs claimed on cost-reimbursement type contracts are documented and properly charged to
the Government. For example, in a
postaward audit performed for the
Customs Service, over $759,000
was sustained. The audit questioned overbillings on cost reimbursable contracts for information services provided to the Saudi
Arabian Department of Customs.
The overbillings resulted from the
application of incorrect indirect
rates to contract costs and an inappropriate billing method for housing costs. In addition, the contractor improperly charged automobile,
transportation, and food allowances to overhead. (Report #89-HO10)
BUREAU OF ALCOHOL,
TOBACCO AND
FIREARMS
Unsupported Tax Exemption
on Exported Alcoholic
Beverages
An OIG audit found that the
Bureau of ATF's Western Region
did not take action to assess at
least $3.2 million in potential taxes
and interest because of weaknesses in the administration of the
alcohol producer compliance program. The law requires the payment of Federal excise taxes on alcoholic beverages withdrawn from
inventories for sale in domestic
markets. The law allows tax exemption on production amounts exported to foreign markets,
provided that documented proof of
export is submitted.
sessing taxes on undocumented
exports of tax-free alcohol.
Management agreed with the
recommendations and will take actions to assess taxes due. (Report
#OIG 91-034)
The Western Region lacked procedures requiring validation of
exporters' claims for excise tax exemption, did not validate documented proof of export in inspections, and did not follow up promptly when exporters failed to submit
required proof of export. Because
validation procedures were inadequate, the Region did not identify
one exporter who had not provided
proof of export on 222,000 gallons
of distilled spirits. The exporter
had claimed an excise tax exemption of $2,775,000. In addition,
$440,000 in taxes and interest
was not collected because examiners did not take prompt followup actions when exporters
failed to provide documented proof
of export.
u.s. CUSTOMS
Regional management agreed
with the audit recommendations
and has taken or planned corrective actions which should correct
the deficiencies. For example, the
Regional Director (Compliance) issued a proposed Jetter of assessment to the exporter for the
claimed 1989 tax exemption of
$2,775,000. The Region's review
of this exporter's transactions for
1988 and 1990 resulted in additional assessments. The Region is
awaiting a response from the exporter, who has been requested to
provide export documentation.
(Report #OIG 91-037)
A companion audit of the Bureau
of ATF's North Atlantic Region
identified potential additional taxes
and interest totaling $187,000. The
New York Technical Services unit
did not adequately monitor
producers records to assure that
tax-free alcohol was exported as
claimed by the producers. Also,
the Philadelphia Technical Services unit was not promptly as-
16
SERVICES
Establishment ofthe Virginia
Inland Port
An OIG review performed atthe
request of Senator Paul Sarbanes
disclosed that the Customs Service did not follow Treasury and
Customs procedures when it established the Virginia Inland Port
at Front Royal, Virginia. The
auditors found that approval was
based on incomplete and unconfirmed data; the workload at the
port did not justify the expense of
maintaining permanent Customs
service; policies and procedures
had not been promulgated for establishing POE's on a test basis;
and general provisions of the annual appropriations acts could
prevent Customs from using appropriated funds to reduce or conSOlidate POE's once they were established.
The report recommended that
Customs (1) implement procedures for establishing POEs in accordance with Treasury regulations, (2) promulgate procedures
for establishing POEs on a test
basis, (3) pursue legislative action
to remove restrictions that prevent
port closings or consolidations,
and (4) remove POE status from
the Virginia Inland Port once
restrictions preventing port closings are rescinded.
Corrective actions planned or
taken by Customs management
should correct the deficiencies.
For example, Customs is drafting
a proposal for the Federal Register
under which the importing com-
FINANCIAL
MANAGEMENT
SERVICE
Computer Security Act
FLETC leases facilities near Marana, Arizona, for training Bureau of Indian Affairs tribal
police and other participating organizations. An OIG audit examined lease arrangements and
other activities.
munity would bear Customs' costs
until a locality is eligible for POE
status. In addition, Customs is pursuing modifications to the Fiscal
Year 1992 appropriations language which precludes changes to
the status of port designations;
and, pending legislative action,
Customs has agreed to withdraw
POE status from the Virginia Inland Port. (Report #OIG 91-017)
FEDERAL LAW
ENFORCEMENT
TRAINING CENTER
FLETC's Marana Facility
An audit of the operation of
FLETC's satellite facility near
Marana, Arizona, identified several
contract and internal control
problems. FLETC leases facilities
and acquires lodging and food services from a lessor.
minimum and is not expected to increase. In Fiscal Year 1990, the
shortfall in students cost FLETC
about $250,000.
Ineffective contract administration resulted in $136,000 in duplicate payments. In addition, FLETC
purchased bottled water at a cost
of $8,000 a year instead of enforcing the requirement in the lease for
the lessor to provide suitable drinking water. Also, motor pool
vehicles were being serviced at a
local garage and cleaned at a
local car wash even though the
training support contract for
Marana required the contractor to
provide these services.
Corrective actions are being
taken in response to the audit. For
example, negotiations are underway to reduce the number of
guaranteed students for Fiscal
Year 1991 through the end of the
lease, and the overpayments were
recovered. (Report #OIG 91-019)
The average resident student
population guaranteed to the contractor was excessive and needed
to be reduced. The lease requires
a minimum average resident student population of 100 for the first
year and increasing numbers for
succeeding years. The current student population is less than the
17
An OIG audit found that although
the Financial Management Service
was generally in conformance with
the requirements of the Computer
Security Act of 1987, further action
was needed. Through the Computer Security Act of 1987, Congress declared that it is in the
public interest to improve the
security and privacy of sensitive information in Federal computer systems. Essentially the Act requires
Federal agencies to provide periodic training in computer security
awareness, identify systems which
contain sensitive information, and
establish a plan for the security
and privacy of each system identified by the agency.
The auditors found, for example,
that the Financial Management
Service needed to include systems under development that contain sensitive data in the inventory
of sensitive systems and to
prepare the related security plans.
The auditors also identified areas
which, although not required by
the Act, would improve controls
over computer systems containing
sensitive data. The duties, responsibilities, and training provided for
Security Administrators were not
uniform. In addition, the individuals
selected to serve as Security Administrators were not formally
deSignated in writing, as required.
The Financial Management Service agreed with the recommendations and has taken corrective actions. For example, the inventory
of sensitive systems includes systems under development and
security plans have been prepared
for all sensitive systems, with the
plans distinguishing between
those systems which are operational and those under develop-
ment. Also, appropriate ADP
security training was established
for Security Administrators.
(Report #OIG 91-002)
erroneously deducting thrift
plan contributions.
o
INTERNAL REVENUE
SERVICE
Processing Employee Benefit
Plan Returns
An IRS internal audit concluded
that the Service had effectively
consolidated the processing of
employee benefit plan returns in
four service centers. However,
IRS needed to improve processing
of the returns by taking actions to
identify erroneous deductions,
eliminate unnecessary processing
steps and reduce and improve correspondence. Corrective actions
could result in additional revenues
and cost avoidances totaling over
$14 million.
Administrators or sponsors of
employee benefit plans subject to
the Employee Retirement Income
Security Act of 1974 (ERISA) must
file a Form 5500 Series report annually with the IRS. These returns
provide basic information which
enables IRS and the Pension and
the Welfare Benefits Administration of the Department of Labor to
fulfill their administrative and enforcement responsibilities.
The audit report said, for example, that the Service needed to:
D
Enhance its computer
programs to identify erroneous
pension-related deductions on
Forms 1040. Taxpayers
avoided an estimated $12.8
million in taxes by claiming
these erroneous IRA deductions in 1989. Taxpayers also
avoided an estimated $.8 million in taxes in one center by
o
Eliminate the posting of
320,000 "Applications for Extension of Time to File Certain
Employee Plans Returns."
This will not affect the delinquency process. The Service
spends an estimated
$290,000 to post the applications on the masterfile.
Reduce correspondence with
return filers by providing better
explanations in the first letters.
Also, the Service needs to
develop better return preparation instructions so that filers
provide more accurate and
complete information. By
taking the recommended actions, the Service can improve
its image with filers and save
an estimated $248,000 annuaIy in processing costs.
IRS agreed with the recommendations and is implementing corrective actions. For example, an
error resolution check has been installed to limit the IRA deduction
when certain criteria are met, and
a test recovery project will be initiated on 1989 returns with erroneous penSion-related deductions. (Report #01147)
II
2
3
Return is prepared
on com'puter
Return is transmitted
electronically to IRS
by qualified preparers
Tapes are created in
the receiving station
and are loaded into the
EFS computer system
for validity checks and
automated front·end
processing
Electronic Filing System
An IRS internal audit found that
controls over the electronic system
for filing tax returns needed improvement. The audit was
prompted by a 1989 refund
scheme involving use of the
electronic filing system and
management concerns that there
were insufficient safeguards to
protect IRS from unscrupulous
preparers who had been accepted
into the program.
Electronic filing has been identified as a method to both save
processing resources and provide
a better service to taxpayers, and
18
4
After EFS processing
tapes are procesed
through Distributed
Input System to the
Sperry UNIVAC Com·
puter System. From this
point, the processing
steps are identical to
those of other returns.
IRS actively markets electronic
filing to professional tax preparers.
These expansion efforts must be
balanced against computer crime
risks.
The audit identified several disreputable preparers who had been
accepted into the program. The
auditors recommended that officials independent from those
promoting electronic filing b~ ..
responsible for applicant suitability
checks and that criteria for accepting applicants be improved.
In response to one recommendation, IRS revised the contractual
statement for electronic filing to
state that the rights and privileges
to file a tax return electronically
are non-transferable. Corrective
actions on the five remaining
recommendations are on
schedule. (Report #01115)
Information Systems Development Organization
An audit determined that IRS's
Information Systems Development
(ISO) organization did not have a
comprehensive security program,
and that existing security procedures needed to be better implemented. IRS is re-designing its
computer-based tax administration
system, and ISO was establi~hed
to oversee and coordinate thiS
massive modernization program.
Recognizing that ISO was taking
steps to strengthen security a.nd
project management, the audit
report said that:
o
o
ISO had no standard physical
and document security policy
that would ensure a consistent coordinated, and effective 'approach to security .
throughout the ISO organization.
34 ISO managers at three
separate office locations did
not conduct required documented security checks.
D
Managers were unable to identify memorandums with
guidelines concerning physical
and document security procedures and could not identify
the security coordinator for
ISO.
D
Methods and poliCies for physically safeguarding sensitive information differed among the
managers surveyed.
In addition, existing security procedures needed to be better implemented. For example:
D
o
o
Documentation authorizing access to the system was on file
for only 11 of 86 computer system users.
Inventory records for software
were not maintained, verified,
or recorded and hardware inventory records were dependent on information provided by
individual ISO offices with no
follow-up verification.
An internal systems risk
analysiS had not been completed.
Not having a comprehensive
security program increases the
basic risks of theft and loss of
Government property, including information, and the disruption of
necessary program operations.
The lack of updated files for access authorizations and software
and hardware inventories, coupled
with frequent employee turnover,
increased the risk of intrusion to
the systems and created the ~oten
tial for integrity breaches, aCCidental errors, data loss, and improper
manipulation of information. Further, management's ability to
monitor the performance of
security responsibilities is reduced
without a comprehensive security
and risk evaluation.
19
Of the 16 recommendations, 14
had been implemented as of
March 1, 1991. For example, ISD
improved procedures to docum.ent
users accessing ISO systems, ISsued a procedural directive to
clarify physical and document
security requirements, and ~s- .
signed responsibility for maintaining inventories. (Report #01096)
BUREAU OF THE
PUBLIC DEBT
Undeliverable Payments
An OIG audit identified weaknesses in the processing of undeliverable payments at Public
Debt's Washington, D.C., and
Parkersburg, West Virginia, offices. Public Debt is responsible
for contacting payees, authorizing
payments, and accounting for undeliverable principal, interest, and
discount payments on public de~t
securities. At the time of the audit,
the outstanding balance for undeliverable payments was over
$26 million.
Weaknesses identified by the
audit compromised the reliability
of accounting records and could
result in erroneous or fraudulent
undeliverable transactions going
undetected. For example, Public
Debt overstated the undeliverable
account by over $3 million because stale-dated check payments
were improperly classified and
deposited as undeliverables and
released over $250,000 in payments without reviewing supporting documentation during 1989
and 1990.
Other problems includ~d a ba?klog of unresolved adjusting entries
in the undeliverable accounts and
not complying with IRS back-up.
withholding rules when processing
interest payable to deceased bond
owners in cases where the taxpayer account number or reporting
number was not updated to show
the legal recipient of the payments. Projected tax losses in
these cases from unreported interest income amounted to $96,000
annually. The Internal Revenue
Code requires payors of interest to
withhold 20 percent if a payee fails
to furnish a taxpayer identification
number.
Public Debt has taken or initiated
corrective actions. For example,
procedures regarding the review of
supporting documentation were implemented at the time of the audit,
and procedures were established
in January 1991 to ensure compliance with IRS back-up withholding rules for interest payable to
deceased bond holders. (Report
#OIG 91-011)
OFFICE OF THRIFT
SUPERVISION
Information Systems
An OIG audit found that OTS did
not consistently use its national information systems and that some
field offices maintained local systems that duplicated some of the
national systems' information. Two
of the nationwide systems that
were not fully utilized contained information on enforcement and supervisory actions taken against
thrift institutions and on individuals
with previous criminal referrals or
questionable thrift activities. Consequently, OTS did not have a
fully effective nationwide
mechanism to prevent or identify
inadequate supervisory activity or
to prevent inappropriate individuals from entering or advancing in the thrift industry.
20
The audit also found that internal
controls over access and changes
to four of the national systems
were inadequate. thus leaving the
systems vulnerable to misuse of information. Weaknesses included
the use of generiC passwords and
user identifications and not voiding
the passwords of former
employees.
The audit report contained a
recommendation that OTS
develop policies and procedures
to ensure that the nationwide information systems be used
throughout OTS and contain the
necessary information. In addition,
the OIG recommended changes to
improve the internal controls over
access and changes to the national systems to prevent misuse of information. The actions taken or
proposed by OTS management
generally comply with intent of the
recommendations. (Report #OlG
91-035)
Intemal Investigative Activiti~
•
•
•
I
During the 6 months
ended March 31, 1991, the
OIG and Treasury Offices
of Internal Affairs and Inspection closed 1,940 investigations, including
1,452 IRS cases.
Treasury internal investigations resulted in 159
successful prosecutions,
302 administrative sanctions, and investigative
recoveries and other
monetary benefits of $4.9
million.
Convictions and sanctions
help to deter fraud and
abuse.
nvestigations by the OIG and
Treasury Offices of Internal Affairs and Inspection focus on
criminal wrongdoing by Treasury
employees, third parties working in
collusion with employees, and
violations of employee standards
of conduct. This chapter describes
some of the more significant investigative activities, pursuant to Inspector General Act requirements
to report significant problems,
abuses, and deficiencies. The examples illustrate cases which have
resulted in indictments, prosecutions, adverse personnel actions,
and monetary penalties and
recoveries. Readers should not
assume that the conditions
described are representative of
the conditions in the Department and its bureaus. The
material in this chapter is
organized by Treasury internal
investigative organizations.
OFFICE OF INSPECTOR
GENERAL
Employee Misconduct Case
An OIG investigation of a senior
Departmental Offices official determined that the official had retained
a continuing financial relationship
with a former employer following
appointment, even though the official had previously represented
that all ties were severed with the
company. The individual charged
personal expenses to a corporate
credit card. These expenses were
being repaid as a reduction of an
unpaid severence bonus. The official also received a personal loan.
in addition, the investigation
showed that an automobile leased
by the former employer continued
to be furnished to the senior official following entrance to duty. The
official has since severed all financial arrangements with the former
employer and has received a
21
reprimand for not adhering fully to
applicable regulations.
BUREAU OF ATF
OFFICE OF INTERNAL
AFFAIRS
Former Agent Sentenced
In October 1990, a former
Bureau of ATF special agent was
sentenced to 2 years probation
and fined $2,500 for aiding and
abetting in fraudulently acquiring
an identification document with the
intent to use the document to
defraud the United States.
Office of Internal Affairs investigators found that the agent had
conspired to conceal and harbor a
fugitive who had violated narcotics
laws. In exchange for payment
from the fugitive, the agent
procured a deputy sheriffs badge
for him to evade Customs
authorities while transporting illegal drugs. The agent obtained
the badge from a county sheriff
after introducing the fugitive as a
Bureau of ATF agent. In October
1988, the Bureau of ATF had terminated the agent from employment.
$70,000 on his person and
$50,000 in his luggage. The individual was indicted for
bribery, false statements, and
a currency violation.
o
CUSTOMS OFFICE OF
INTERNAL AFFAIRS
Bribery Cases
Bribery continues to be a major
concern for the Office of Internal
Affairs in its efforts to ferret out corruption. The following cases illustrate bribery offers made to Customs employees whose prompt
reporting to and cooperation with
the Office of Internal Affairs
resulted in the apprehension of the
suspects.
o
o
A Nigerian national offered a
$100,000 bribe to a Customs
inspector in an attempt to be
released from a secondary examination. A Customs "rover
team" at Los Angeles International Airport had selected the
national for intensive secondary examination at a local
hospital. At the hospital, the individual offered the bribe and
was arrested by Internal Affairs agents. Forty-four packets of heroin were found on
the subject. The subject pled
guilty to bribery and two narcotics violations and is awaiting sentencing.
Another individual offered a
$10,000 bribe to a Customs inspector at Los Angeles International Airport when an outbound search disclosed significantly more than the
$10,000 in currency reported
by the individual. Agents from
Customs' Offices of Internal Affairs and Enforcement arrested the individual. The
search revealed approximately
o
A third individual paid a
$14,500 bribe to a Customs inspector to facilitate narcotics
smuggling. The inspector
reported the bribe to Internal
Affairs. A surveillance team
later followed the loaded
vehicle and seized approximately 715 pounds of
cocaine and 35 pounds of
marijuana smuggled through
the San Luis, Arizona, Port of
Entry. Customs' Offices of Internal Affairs and Enforcement
worked jOintly on the investigation. The individual was indicted for bribery and narcotics violations. Three others
were indicted for narcotics
violations.
Three individuals were arrested on bribery charges after
one of them offered a bribe of
$2,000 to a Customs inspector
for each illegal alien from the
Dominican Republic that he allowed to enter Newark International Airport without proper inspection. The inspector
reported the bribe attempt to
Internal Affairs. One individual
pled guilty to conspiracy to
bribe a public official. No illegal aliens entered the
country as a result of the bribe
attempt.
Imprest Fund Embezzlements
Two imprest fund embezzlements involving over $50,000
resulted in sentences for two Customs employees.
o
A secretary was sentenced to
6 months home confinement,
5 years probation, and full restitution for the embezzlement
of approximately $22,500 from
Customs' New York Area
22
Director's imprest fund. Internal Affairs agents arrested her
after a Customs National
Finance Center employee discovered what appeared to be
double billings from vendors.
The investigation disclosed
that the secretary had submitted bogus vouchers.
o
A former secretary in
Customs' Office of Enforcement was sentenced to 5
years probation and must
make restitution of over
$31,000 in connection with her
embezzlement from the office
imprest fund. The embezzlement was discovered when
local management reported a
shortage to Internal Affairs,
which in turn verified the
shortage. The secretary confessed to the embezzlement.
IRS INSPECTION
SERVICE
Revenue Officer Convicted of
Bribery
A revenue officer was sentenced
in February 1991 to 2 years in
prison, 3 years supervised probation, a $5,000 fine, $600 restitution, and a lifetime prohibition from
Federal employment because of
his acceptance of bribes.
In February 1990, a taxpayer alleged that he was being "shaken
down" by the revenue officer and
had paid the officer $250 in bribery
money. The allegations were corroborated through a subsequent
recorded meeting in which the officer demanded and received $500
from the taxpayer in exchange for
placing the taxpayer on a monthly
payment plan.
In July 1990, an undercover inspector posing as a delinquent taxpayer met with the officer to
resolve his 1984 delinquent tax ac-
count. The officer advised that in
exchange for $600 he would write
off the $1 O,OOO-case as "unlocatable."
bank officers, and the Commissioner of IRS are common targets.
There has been considerable success in prosecuting perpetrators.
have pled guilty to various counts
of bribery, conspiracy, and/or
money laundering. Three have
pled not guilty.
In August 1990, an owner of a
taxicab business reported a
$3,000 bribery payment made in
April 1990 to the officer. The officer had allegedly pressured her
to pay the bribe in exchange for
his promise that IRS would not
seize her cab.
To illustrate, inspectors executed
an arrest warrant in October 1990
on a New Yorker, charging him
with attempting to interfere with
the administration of Internal
Revenue laws. The man allegedly
mailed a fraudulent IRS Form
1096, Annual Summary and Transmittal of U.S. Information Returns,
and 90 Form 1099s which
reported to IRS that the targeted
subjects had been paid total compensation of over $2.3 billion.
Among those receiving Forms
1099 from the subject were five
Federal judges. A joint Inspection
Service and Criminal Investigation
Division investigation is continuing.
The pleas are the aftermath of a
previously reported 20-month undercover investigation in which the
above parties allegedly attempted
to bribe the agent, who in turn
cooperated with investigators. The
investigation was dubbed "Operation Tax Doctor" after several of
those charged had referred to the
agent as the ''tax doctor."
When interviewed, the officer
denied any wrongdoing until he
was introduced to the undercover
inspector. The court took the previously mentioned actions against
the revenue officer because of his
lack of truthfulness and cooperation with the court.
Businessman Sentenced on
Bribery Charges
A Michigan businessman was
sentenced to a 21-month prison
term and 3 years probation after
pleading guilty to charges of bribing an IRS agent and illegal possession of an unregistered
machine gun. During Inspection's
11-month investigation, payments
of $31 ,000 in bribes were made to
an informant and an undercover
Criminal Investigation Division
agent posing as a corrupt
employee. The bribes were offered
in exchange for fraudulently crediting nearly $145,000 in payroll tax
deposits to the tax account for the
businessman's firm.
False Filing of IRS Forms
As reported in the last semiannual report to the Congress, a
number of investigations have
been conducted involving
schemes in which IRS Forms
1099 for reporting miscellaneous
income to IRS are fraudulently
filed with I RS by tax protestors to
harass targeted individuals. Police
officers, revenue officers, judges,
Lottery Winner Arrested for
Bribery
The winner of an $11-million
state lottery was arrested for attempting to bribe an IRS revenue
officer into removing a $100,000
tax lien which was unrelated to the
lottery winnings. The subject had
originally requested that the lien
be released for a payment of
$4,000 to $5,000. In cooperation
with the Inspection Service, the
revenue officer informed the subject that the proposed payment
was not sufficient. The subject
then agreed to pay the revenue officer $25,000 for her personal use
in return for abating the $100,000
in taxes and releasing the lien.
The subject explained that he held
a winning lottery ticket and did not
want IRS collecting the unpaid
taxes out of his lottery winnings.
He subsequently paid the revenue
officer with a $25,000 cashier's
check.
Operation Tax Doctor
Thus far, six defendants in a
scheme to bribe an IRS agent
23
Those charged paid $277,000 in
cash to the agent and laundered
checks worth nearly $244,000
during the course of the scheme.
The United States Attorney said
this was the largest bribery
scheme ever investigated by the
IRS Inspection Office in that judicial district and one of the largest
nationally.
Assaults and Threats to IRS
Employees
The Inspection Service has the
primary responsibility for investigating assaults, threats, and forcible
interference toward IRS
employees. Investigations can
result in severe penalties after conviction - from 1 to 10 years imprisonment and $3,000 to $10,000
in fines. The Inspection Service
also maintains the Potentially
Dangerous Taxpayers Program
and can provide employees with
armed escorts.
According to the Federal Bureau
of Investigation's Uniform Crime
Report, in 1988 "IRS enforcement
officers suffered more assaults
than any law enforcement group in
the Federal Government, over five
times higher than Drug Enforcement Agency officers who have
the second greatest number of assaults."
For example, a revenue officer in
the Southeast Region was as-
saulted when he attempted a courtordered automobile seizure. The
taxpayer tried to strike the officer
and then threw his body against
the car. In another case, a taxpayer visiting a California IRS office became irate when told that research was needed to trace his
refund. He threw a sign at the IRS
employee, grabbed her, and tried
to pull her onto the counter. The
taxpayer was subsequently arrested.
Examination Group Manager
Convicted
An IRS Examination Group
Manager was convicted in December 1990 of conspiracy, disclosure
of information, and money laundering. As explained in the previous
semiannual report, the violations
were discovered during a drug trafficking investigation by the
Criminal Investigation Division
(CID).
investigation, his attorney identified the Examination Group
Manager as a "leak within the
IRS." Subsequent investigation by
the Inspection Service and CID
revealed that the employee had
used his position to access the
IRS records system to disclose information to a drug trafficker - a
long-time friend - about IRS' investigation of him. The employee
had knowledge of the trafficker's
activities and had used drugs supplied by him. The employee had
also provided the trafficker with information that he obtained during
conversations with I RS agents
about CID's investigation ofthe
drug trafficker. In addition, during
1987 the employee had assisted
the trafficker and a friend in establishing documentation to conceal
the trafficker's assets from possible seizure as a result of his illegal activities.
During a CID interview with a
cooperating defendant in the drug
24
SECRET SERVICE
OFFICE OF INSPECTION
Thefts from the White House
Secret Service inspectors and
agents identified three Uniformed
Division officers as responsible for
thefts of china and other items of
lesser value from the White House
in 1989. Through plea bargain arrangements with the U.S.
Attorney's office in March 1990,
one officer resigned and a second
retired from the Service. Both
were ordered to complete 100
hours of community service and
provide testimony regarding the
thefts before a grand jury, as
necessary. The third officer,
through a November 1990 plea
bargain agreement, pled guilty to
one felony count of theft of Government property. He resigned, was
ordered to perform 100 hours of
community service, and was
placed on 3 years probation.
Prevention Activities
•
The OIG is participating
in two Treasury task forces whose objectives are to
minimize waste and improve management.
•
Customs has a comprehensive integrity program
under the oversight of the
Office of Internal Affairs.
•
OIG and IRS internal
auditors continue to take
an active role in reviewing
the design and development of major new information systems and significant modifications to
existing systems.
T
his chapter describes various
prevention activities of the
OIG and Offices of Internal Affairs
and Inspection. Prevention activities differ from those designed
to detect fraud, waste, and abuse.
Detection activities are often
remedial, with the "damage"
having already occurred. In contrast, prevention activities are
designed to deter misconduct and
avert waste or to provide an early
warning of fraud and waste. Thus,
prevention activities are a cost-effective means of improving
Treasury operations.
Early Warning Task Force
Treasury is implementing an
Early Warning System to alert
managers to emerging financial
management issues before they
become problems requiring substantial corrective actions. An
Early Warning Task Force of representatives of the Assistant
Secretary (Management), the Of-
fice of Inspector General, and
Treasury bureaus defined 16
criteria and related indicators for
identifying possible problem issues relating to receivables, cash
management, and other activities.
The early warning indicators include such things as:
and will be consolidated with the
reports on the other organizations.
The task force is currently studying controls within the Mint and is
gathering and analyzing data concerning all recent audits, investigations, and other reviews performed
of that organization.
o
Customs Integrity Program
o
o
o
D
Growth trends in outstanding
receivables, delinquencies,
and write-offs.
Growth trends in undeposited
collections.
Growth in payments of Prompt
Payment Act interest penalties.
Growth in outstanding audit
recommendations.
High end-of-year obligation
rates.
The system, which has been
tested at the Bureau of the Public
Debt, is being implemented
Treasury-wide. By early April
1991, each bureau will prepare a
summary report on the results of a
mid-year review using the criteria
and approach developed by the
TaskForce.
Treasurer of U.S. Task Force
The OIG is participating in a task
force to assess internal controls in
the organizations which report to
the Treasurer of the U.S.: Mint,
Engraving and Printing, and
Savings Bonds. The task force
has focused its initial efforts on
Engraving and Printing.
A report to the Deputy Secretary
has been prepared which addresses opportunities to improve
management controls within the
Bureau. The report is being
reviewed internally within Treasury
25
In January 1990, the Commissioner of Customs initiated the
Customs Integrity Program-a
bureau-wide anti-corruption effort.
An Integrity Committee consisting
of four Assistant Commissioners
oversees the program.
The program affects all Customs
employees and represents a continuing commitment by Customs to
maintain the highest standards of
personal conduct and profeSSional
behavior. Training, employee participation and enforcement are the
program's core elements.
In February 1991, the Commissioner reinforced the emphasis on
integrity awareness in a Servicewide memorandum which
described and institutionalized the
Integrity Program. To further institutionalize the program, Internal
Affairs special agents will be training over 400 integrity instructors,
representing various Customs disciplines. The new trainers will, in
turn, make formal 4-hour integrity
presentations to all Customs
employees.
Employee participation has been
achieved in part through integrity
videotapes produced by Customs
employees. In addition, former
employees convicted of criminal integrity violations while employed
by Customs have consented to be
videotaped describing how and
why they began engaging in
criminal activity. These tapes have
also been well-received by
employees.
System Design and Development EtTorts Are Being
Reviewed
An ongoing audit is evaluating
the procedures, practices, and controls for designing and developing
Treasury systems. Audit work is
underway at the Financial Management Service and Public Debt and
may be extended to other
bureaus. ADP system development projects frequently are not
completed on time or within
budget, and the resulting systems
do not fully meet user requirements. These and other shortcomings can often be linked to inadequacies in the design and development process.
In addition, DIG and IRS internal
auditors continue to take an active
role in reviewing the design and
development of individual information systems and significant
modifications to existing systems.
System design and development
reviews help ensure that systems
are cost-justified; are designed to
meet user needs; operate efficiently; and contain control features to
guard against fraud, misuse, unauthorized disclosure, and error. A
basic premise of such reviews is
that it is far more cost-effective to
correct a problem during the
design or development stages
than to do so after an information
system has been implemented.
Several Treasury bureaus
served by the OIG are developing
or redeSigning major ADP systems, and OIG auditors are now
reviewing the design for such systems as:
o
The Public Debt Accounting
and Reporting System, which
will control all public debt financial and security transactions.
o
o
The PAMISJPRA software conversion which will enhance
Engraving and Printing'S tracking capability for currency
production.
ministration process, and quality
review procedures to assure that
the Service develops timely, high
quality products at the lowest overall cost to the Government.
The Electronic Certification
System which will provide a
more secure and efficient certification process for payments
made by the Financial
Management Service on behalf of Federal agencies.
Integrity Awareness: A High
Priority
Similarly, IRS internal auditors
have made numerous reviews of
the various phases of the design,
development and procurement of
information systems at IRS.
Recent reports covered the
prototype for the Integrated
Management System, which will
replace the cumbersome management and cost system used by
IRS service centers, and the
prototype of the Automated Examination System, which will
automate the examination of income tax returns.
In addition,lRS management
has taken actions to assure that
the Service develops quality information systems within reasonable
time and cost constraints in
response to an internal audit
report entitled "Trend Analysis of
Systems Development Activities
for Fiscal Years 19871989."(Report #01033)
The report analyzes I RS systems development activities based
on audit findings over the 3-year
period. During this period, IRS improved its systems development
process by reorganizing the information systems development function to better control the Service's
development efforts and establishing new Information Systems
Policy Board oversight procedures. The trend analysis concluded, however, that further improvements were needed to
strengthen the systems development methodology, contract ad-
26
Integrity awareness remained a
high priority for the DIG and the Offices of Internal Affairs and Inspection during the 6 months ended
March 31, 1991. The OIG and the
Offices of Internal Affairs and Inspection at the Bureau of ATF,
Customs, and Secret Service gave
187 integrity awareness presentations to Treasury employees. In addition, IRS presented over 430 integrity awareness briefings to
more than 13,000 employees
during the 6 months ended September 30, 1990. Highlights of
these programs follow:
o
o
o
The DIG gave 11 integrity
awareness presentations to
Departmental Offices, Customs, IRS, OTS, Bureau of
ATF, and Secret Service
employees.
The Bureau of ATF's Office of
Internal Affairs conducted 21
integrity awareness briefings
for approximately 345 special
agents, inspectors and supervisors. Integrity Awareness
briefings are conducted monthly at the Federal Law Enforcement Training Center for all
new inspector and special
agents' training classes. Internal Affairs management officials, as well as other staff
members, present briefings at
Bureau of ATF conferences,
meetings, and at supervisory
training classes.
Customs' Office of Internal Affairs conducted 151 bribery
awareness classes for
employees. These classes are
designed for Customs
employees who have contact
with the public or importing
community. The idea behind
the presentations derived from
investigative findings which
revealed that many employees
were unaware of the proper
response to bribery situations.
o
AA OIG special agent gives an integrity awareness presentation to Treasury employees.
o
27
In addition to its integrity
awareness briefings, I RS published its semiannual publication, the Internal Security
Division Digest, which includes informative articles for
management identifying
trends in employee misconduct and areas of integrity
weaknesses. In addition, IRS
is producing a film on integrity
for its employees.
Secret Service's Office of Inspection conducted integrity
awareness briefings for 58
newly appointed Secret Service agents, new supervisors,
and special agents attending
training classes.
22
1
than the final tractor, itself.
2
plate that goes into the -- before they put the wheels on,
3
before they put the engine in, before they put the
4
steering wheel on and that sort of thing, they just sold
5
the steel, it would be worth more than the price they get
6
for the tractor when they're finished.
7
In other words, the steel
You know, that kind of example is repeated time
8
after time.
9
we could attach the help we're trying to give in terms of
10
If you try to search for some place to which
changing the society around.
11
The one -- you know, the one place where
12
primitive capitalism I saw, exists, is in the commodity
13
exchange, which is in the Post Office Building, very near
14
Red Square.
15
disorganized -- it's even more disorganized than our
16
commodities exchanges, if you've seen them.
17
milling around, but doing trades.
18
sold the U.S. cargo plane for $12 million.
19
selling wheat and food supplies.
20
apartment in Los Angeles, of which they were very proud, 2
21
weeks ago.
22
They are on the floor, you know, completely
But people
They sell a cargo. They
They were
They even sold an
But these guys are at least forming the basis,
23
the very primitive, of the beginnings of a free enterprise
24
system.
25
squashed.
They are very worried that it is going to get
And they are more worried, interestingly, about
ALDERSON REPORTING COMPANY, INC.
1111 FOURTEENTH STREET, N.W.
SUITE 400
WASHINGTON, D.C. 20005
(202)289-2260
(800) FOR DEPO
General or by an independent external auditor, as determined by
the Inspector General.
The OIG will be performing some
of the required audits and will
have some of the audits performed
by independent external auditors.
OIG training efforts have been expanded in several areas in order to
have qualified staff available for
performing or overseeing the work.
The OIG has also undertaken a
significant new initiative at Customs. The OIG is conducting a twophase review of the overall
process for managing and controlling activities within Customs'
Southwest Region. The first
phase, which is currently ongoing,
will identify any weaknesses in
Customs' overall management
control and direction over regional
office activities in the Southwest;
evaluate how problems are
brought to the attention of regional
and headquarters officials;
evaluate how regional and headquarters officials deal with
reported problems; and report on
the status of allegations brought to
the attention of Customs' management and Customs' Office of Internal Affairs. The second phase of
the review will evaluate the effectiveness of the enforcement program in the Southwest Region.
The OIG's Office of Investigations
is conducting concurrent investigative work into allegations relating
to the Southwest Region.
IRS Information System Initiatives
IRS's Inspection Service has undertaken several significant information systems initiatives. An Inspection Systems Development
and Integration project is building
a state-of-the-art system to conduct audits and investigations in
the paperless environment being
created by the IRS Tax Systems
Modernization Program. In addition, new technology developed in
Deputy Secretary of the Treasury John E. Robson and Inspector General Donald E.
Kirkendall at the AGA Leadership Conference (Photograph by Peg Koetsch)
the Southwest Region for audit
planning purposes to analyze
open collection accounts for unusual trends or fluctuations has
been adopted nationwide. Internal
Audit and Internal Security have
also initiated a project which will
allow direct access between
Inspections' microcomputer-based
networks and the minicomputers
located at various IRS regional offices. This project will also interconnect Inspection's network systems at remote sites.
AGA Conferences
On January 10 and 11, 1991, the
13,000-member Association of
Government Accountants (AGA)
held its Second Annual Conference on Emerging Leadership
Issues at the Four Seasons Hotel
in Washington, D.C. Health and
Human Services Inspector
General Richard P. Kusserow,
AGA's President, and Treasury Inspector General Donald E. Kirkendall, the conference's chairman,
welcomed a capacity audience of
300 people.
30
Deputy Secretary of the
Treasury John E. Robson addressed the conference on the
safety, soundness, and profitability
of financial institutions. Plenary
sessions covered legislative and
executive branch perspectives on
the implementation of Chief Financial Officer legislation, using the
Defense Department's concept of
corporate information management, and preparing for the future
shock of changes in the
workplace. Other topics included a
progress report on the 33 new Inspectors General and external
quality control reviews of Inspector
General auditing activities.
At an awards ceremony, IRS Internal Audit Division Director Gary
Bell received the Internal Auditor
of the Year Award for leadership in
audits expected to produce over
$100 million in revenue, participation in a unique project that
detected an embezzlement
scheme, and dedication to using
sound and innovative auditing
techniques to improve tax system
efficiency. Commissioner William
E. Douglas of Treasury's Financial
Management Service received the
tion to judge performance. The
third level will include tests of completed and ongoing audits and investigations in IRS's seven
regions and in the National Office
to determine that its pOlicies and
procedures are being adequat.ely
implemented in accordance with
professional standards.
o
IRS Internal Audit Division Director Gary
Bell, AGA's Internal Auditor of the Year
Elmer Staats Award for promoting
financial integrity through sound
money management.
Inspector General Kirkendall
also addressed the Indianapolis
chapter of AGA. The theme for the
presentation was "Inspectors
General: We improve Government
operations, save money, and
.
where it exists, find fraud." In addItion, Deputy Inspector General
Robert P. Cesca addressed the
New Orleans chapter of AGA
o
IRS Oversight Reviews
During the 6 months ended
March 31, 1991, the OIG's Office
of Oversight completed three
reviews of internal audit and internal investigative activities of IRS's
Inspection Service. The Office has
taken a three-level approach to its
reviews at I RS for both the audit
and investigative functions.
The first level included a review
of the IRS policies and procedures
for both functions to determine
whether they conformed with the
Comptroller General's auditing
standards and the President's
Council on Integrity and
Efficiency'S investigative standards. The second level will review
the quality assurance pr~grams for
both functions to determine
whether Inspection Service
managers have adequate inform a-
o
A review of investigative procedures concluded that investigative methods used by the Inspection Service's Internal
Security Division illustrated a
logical and effective approach
to conducting internal investigations. (Report#OIG-OQA001-1)
A review ofthe Internal Audit
Division's policies and procedures concluded that, if properly implemented, they would
provide reasonable assur~nce
that audits are conducted In
accordance with the Comptroller General's Government
Auditing Standards. To
promote consistency the
report recommended that the
Internal Audit Division formalize poliCies and procedures
for: (1) disclosing audit scope
impairments; (2) determi~ing
the reliability of data obtained
form automated systems; and
(3) cross-referencing audit
work plans to the corresponding working papers.
(Report#OIG-OQA-90-001-3)
A report on the IRS Centralized Background Investigations System concluded that
considerable improvements
had been made in case
proceSSing times, that the
quality of work on background
cases was adequate, and that
appropriate action had been
taken on internal recommendations for improvement. (Report
#OIG-OQA-90-003-5)
31
Resolution Trust Corporation
Oversight Board
The Secretary of the Treasury
chairs the Oversight Board of the
Resolution Trust Corporation. Acting on an Oversight Board resolution, the Secretary signed a
Treasury Order on April 27, 1990,
delegating to Treasury's Inspector
General the authority to act as Inspector General of the Oversight
Board.
The Oversight Board includes
the Secretary of the Treasury, the
Chairman of the Federal Reserve
Board, the Secretary of Housing
and Urban Development, and two
public members. A small staff assists the Board in carrying out its
responsibilities to review the operations of the Resolution Trust Corporation (RTC). RTC, which has
its own Office of Inspector
General, is responsible for managing and resolving failed sa~ings.
and loan institutions and dlsposmg
of any related assets in the most
economical way possible.
During the 6 months ended
March 31, 1991, Treasury's Inspector General reviewed the RTC
Oversight Board's draft Strategic
Plan, briefed the President of ~he
Board on critical issues affectmg
both RTC and OTS, and participated in Board meetings. Because the RTC Oversight Board
has a relatively small staff of 34
employees, Treasury's OIG has
not scheduled any audits of Board
activity during its first year of
operation, but will consider future
audits where warranted.
Treasury's OIG plans to audit the
process by which OTS place~ an
institution into conservatorship or
receiverShip, including OTS's coor- .
dination with the RTC. Further, the
Inspector General ~i1~ ?ontinu~ the
meetings which he initiated to Identify common concerns with the Inspector General of RTC and other
bank regulatory agency Inspectors
General.
Security Management at Customs
Customs' Office of Internal Affairs is responsible for overseeing
all aspects of security within the
U.S. Customs Service. In addition
to investigating integrity matters
and offenses against Customs
employees and property, Internal
Affairs manages information, physical, EDP, and communications
security programs and conducts
security training. Internal Affairs
also has responsibilities pertaining
to background investigations, the
issuance of security clearances,
and responses to Freedom of Information/Privacy Act (FOINPA) requests.
During the first 6 months of Fiscal Year 1991, the Office completed 147 classified document
briefings, 24 physical security
evaluations, and 15 international
airport inspections. In addition, the
Office completed a comprehensive
directive updating Customs' policy
on the safeguarding of classified
information, and issued a Security
Programs Manual for use in conducting investigations and program inspections. Finally,lnternal
Affairs initiated more than 1,758
personnel security investigations,
issued 377 security clearances,
and responded to more than 53
FOIAIPA requests.
their audit operations at least once
every 3 years. The reviews must
evaluate whether (1) the audit
organization's internal quality control system is in place and operating effectively and (2) established
policies and procedures and applicable auditing standards are
being followed.
Peer Review Agreement
Secret Service Inspections
On February 8, 1991,Inspectors
General for Treasury, the General
Services Administration (GSA),
the Nuclear Regulatory Commission (NRC), and the Office of Personnel Management (OPM)
signed a Memorandum of Understanding to conduct peer reviews
of their respective audit operations. GSA will review OPM and
NRC, Treasury will review GSA,
and OPM and NRC will review
Treasury.
To determine compliance with
standards established by the
Comptroller General of the United
States, Offices of Inspector
General are required to have an
external quality control review of
The Office of Inspection carries
out an inspection program
designed to promote the effectiveness and efficiency of every
Secret Service element. Each unit
or function is inspected on a cycle
varying from 18 to 36 months.
Every inspection includes an activity analysis of the unit's assigned mission and covers such
areas as personnel, office
security, communications, training,
and management and supervision.
During the 6 months ended March
31, 1991, the Office of Inspection
conducted 19 inspections of offices, divisions, and resident agencies.
Monograph on AuditorClient Relations
The Association of Government
Accountants published Inspector
General Kirkendall's monograph,
"Auditor-Client Relations in
Government." The monograph
presents the results of Mr.
Kirkendall's 1989 study which explored the perceptions about the
Federal Government's audit
process by both the auditors and
the managers to whom the audit
service is rendered.
Four Inspectors General signed a Memorandum of Understanding to conduct peer reviews:
(seated, left to right) Donald E. Kirkendall, Department of the Treasury; Patrick E. McFarland,
OPM; William R. Barton, GSA; and David C. Williams, NRC. Assistant Inspectors General for
Audit who attended the ceremony included: (standing, lett to right) Jay M. Weinstein,
Department of the Treasury; Harvey P. Thorp, OPM; William E. Whyte, Jr., GSA; and Thomas
J. Barchi, NRC.
32
In general, the study concluded
that the state of the relationship between the Government auditor and
the client "painted a rather dismal
picture." In the study, the
managers queried thought that almost 70 percent of their colleagues would label the auditors
with an image of policeman or
prosecutor. In addition, these
managers believed that 42 percent
o! their associates would opt to
either cancel the audit function or
restrict the auditor's efforts to accounting and finance activities.
The study suggested that audit
executives may be able to reduce
the level of conflict by reexamining
policy areas that appear to show
client relationship problems:
o
o
o
Create a spirit of cooperationFor most routine audit assignments, which do not involve
suspected wrongdoing,
auditors should be encouraged to be open.
Use of exception reporting-A
change in audit policy may
allow audit reports to contain
more balance and perhaps improve relations with and service to managers.
Expand education of auditorsGovernment auditor training
and development courses and
organizational staff conferences should stress the importance of the human relations
aspects of auditing.
The study said that these suggestions to improve auditor-client
relationships would not eliminate
all existing conflicts. However,
audit executives have a responsibility to do what they can to
manage the adversarial relation-
ship and to keep the tension at
constructive levels.
Legislative Review
The Inspector General Act requires the Inspector General to
review existing and proposed legislation and regulations relating to
the programs and operations of
the Department and to make
recommendations concerning their
impact. In compliance with this requirement, the OIG commented on
drafts of the Bank Reform legislation raising several issues with
regard to the status of the
proposed new banking agency;
the applicability of other laws and
regulations to the new agency;
compensation of employees; reorganization of the agency; extension of Comptroller of the Currency and OTS authority over banks
and savings and loans; and assessment of interstate branching.
The OIG also reviewed draft
OMB Guidance on Computer
Matching and Privacy and commented to the President's Council
on Integrity and Efficiency raising
several concerns.
Investigative Training
On February 4 and 5, 1991, the
Northeastern Region of the OIG's
Office of Investigation held a training conference which focused on
the important role that proactive activities play in the development of
33
Regional Inspector General for Audit Robert
J. Wesolowski addresses investigative
training conference.
investigations and investigations
at bank regulatory agencies. A representative of the Resolution Trust
Corporation's Office of Investigations explained his agency's mission and investigative activities,
and a representative from the
United States Attorney's Office for
the District of Columbia discussed
the most recent court cases involving financial institutions and a
review of criminal statutes applicable to banking violations. Additionally, guest speakers from the
OIG's Office of Audit discussed
the operations of OTS and the
Comptroller of the Currency,
audits completed and underway in
these bureaus, and areas of vulnerability.
Statistical Summaries
T
his chapter contains statistical analyses on OIG and Office of Inspection and Internal Affairs activities.
It includes analyses showing audit reports by bureau, management decisions on audits with potential
monetary benefits, and audit resolution matters. It also contains analyses of hotline and other allegations,
caseloads, prosecutive actions, successful prosecutions, administrative sanctions, and investigative
monetary benefits. Lastly, it reports on current access to information issues. Several of the analyses fulfill
reporting requirements in the Inspector General Act, as amended.
Audit Reports Issued
Appendix B of this report lists individual audit reports issued during the 6 months ended
March 31, 1991. The following table summarizes the number of reports by bureau.
Audit
Reports
Bureau
Multibureau Audits
Bureau of ATF
Comptroller of the Currency
Customs
Departmental Offices
Engraving and Printing
FLETC
Financial Management Service
IRS
Mint
Public Debt
Savings Bonds Division
Secret Service
OTS
Total
3
5
o
6
4
8
2
4
55
3
3
o
o
...1
~
Audit Reports With Questioned Costs
The following schedule presents statistical information on management decisions concerning OIG
audit reports with questioned costs. IRS did not issue any audit reports with questioned costs during this
semiannual reporting period. The term "questioned cost" means a cost that is questioned because of:
•
an alleged violation of a provision of a law, regulation, contract, or other requirement governing
the expenditure of funds;
a finding that, at the time of the audit, such cost is not supported by adequate documentation
("unsupported cost"); or
a finding that the expenditure of funds for the intended purpose is unnecessar/ or unreasonable.
The term "disallowed cost" means a questioned cost that management, in a management decision, has
sustained or agreed should not be charged to the Government.
35
OIG AUDIT REPORTS
WITH RECOMMENDATIONS QUESTIONING COSTS
6 MONTHS ENDED MARCH 31, 1991
Amount
(In Thousands)
Questioned
Costs aJ
Unsupported
Costs aJ
$
1. For which no management
decision has been made
by the commencement of
the reporting period
9
$1,889
2. Which were issued during
the reporting period
....6...
1.101
3. Subtotals (1 plus 2)
15...
$2,990
8
1,443
0
- dollar value of
disallowed costs
7bJ
1,328
0
-dollar value of costs
not disallowed
.2.bL
4. For which a management
decision was made during
the reporting period
5. For which no management
decision has been made by
the end of the reporting
period (3 minus 4)
0
--.-0..
$
0
.L
$1.547
$
0
6. Reports for which no management
decision was made within
six months of issuance
~
$ 873
:Ii
0
w"Questioned costs" includes "unsupported costs."
III Recommended questioned costs in one report were partially agreed to
and partially not agreed to.
Audit Reports With Recommendations
That Funds Be Put To Better Use
The schedules that follow present statistical information on management decisions concerning audit
reports with recommendations that funds be put to better use. The term "recommendation that funds be
put to better use" means a recommendation that funds could be used more efficiently if management took
actions to implement and complete the recommendation, including:
•
reductions in outlays;
•
deobligation of funds from programs or operations;
costs not incurred by implementing recommended
improvements related to operations;
avoidance of unnecessary expenditures noted in
preaward reviews of contract agreements;
any other savings which are specifically identified; or
enhancements to revenues.
The term "management decision" means the evaluation by management of the findings and recommendations included in an audit report and the issuance of a final decision concerning its response to such
findings and recommendations, including actions concluded to be necessary.
37
OIG AUDIT REPORTS
WITH RECOMMENDATIONS THAT FUNDS BE PUT TO BETTER USE
6 MONTHS ENDED MARCH 31, 1991
Amount
(In Thousands)
Savings
Revenue
Enhancements
1. For which no management
decision has been made
by the commencement of
the reporting period
6
$12,397
$11,964
$433
2. Which were issued during
the reporting period
.12
21,584
18,021
~
3. Subtotals (1 plus 2)
18
33,981
29,985
..aJm6
8
30,023
26,743
3,280
15,957
12,677
3,280
- based on proposed
management action
15,957
12,677
3,280
- based on proposed
legislative action
0
0
0
14066
14,066
4. For which a management
decision was made during
the reporting period
--dollar value of
recommendations
that were agreed to
by management
-dollar value of
recommendations that
were not agreed to
by management
7aJ
~
5. For which no management
decision has been made
by the end of the
reporting period
(3 minus 4)
-..1jt
$3.958
$ 3.242
~
6. Reports for which no
management decision
was made within six
months of issuance
--.2..
$1,058
$
~
625
a/ Recommended cost avoidances in two reports were partially agreed to and partially not agreed to
IRS AUDIT REPORTS
WITH RECOMMENDATIONS THAT FUNDS BE PUT TO BETTER USE
6 MONTHS ENDED MARCH 31, 1991
Amount
{In Thousands}
~
ImaL
Savings
$
Revenue
Enhancements
l. For which no management
decision has been made
by the commencement of
the reporting period
0
$
2. Which were issued during
the reporting period
2
14,206
3. Subtotals (1 plus 2)
2-
4. For which a management
decision was made during
the reporting period
0
0
$
0
14,206
--«ma.
--«ma.
13.600
2
14,206
606
13,600
2
14,206
606
13,600
-based on proposed
management action
14,206
606
13,600
- based on proposed
legislative action
0
0
0
Q..
_0
_0
0
Q
LJl
Q..
L..O..
- dollar value of
recommendations
that were agreed to
by management
- dollar value of
recommendations that
were not agreed to
by management
5. For which no management
decision has been made
by the end of the
reporting period
(3 minus 4)
6.Reports for which no
management decision
was made within six
months of issuance
39
L..O..
13,600
$
0
~
0
Audit Resolution Information
The Inspector General Act requires Inspectors General to provide information on significant management decisions with which the Inspectors General disagree and prepare a summary of each report which
has been unresolved for more than 6 months. As of March 31, 1991, there were no outstanding unresolved audit issues which had been referred to the Treasury Audit Followup Official for resolution. However, there were seven unresolved reports over 6 months old. An identification and explanation of the
unresolved reports follow:
Questioned
Costs
1. Advisory Audit Report on Equitable Adjustment
Claims Submitted under Contract TOS-87-16 Orders
SE-88-726 and SE-88-351, Departmental Offices,
Report # OIG 89-074, 9/11/89
$217,864
2. Bureau of A TF Acquisition and Utilization
of Space, Report # OIG 90-019,12115/89
390,000
3. Advisory Audit Report, Costs Incurred Under
Subcontract TC-87-048, Modification #3 for In-depth
Analysis of Import Industry Data, Report # OIG 90-079,
169,941
Funds Put to
Better Use
$
7/30/90
4. Costs Incurred Under Contract No. TM-OlY-88-1 008
for Advertising and Marketing of the Commemorative
Olympic Coins,
5. Evaluation of Costs Incurred Under Contract No.
TEP-86-11 (TN) for Integrated State of the Art
Security System, Bureau of Engraving and
Printing, Report # OIG 90-090,8123/90
1,433
93,678
6. Evaluation of Price Proposals Under Contract No.
CS-90-006 for logistics Support for ANIAPG
Radars, Customs, Report # OIG 90-093, 8/30/90
626,526
7. Philadelphia, Pennsylvania District Operations,
Customs, Report # OIG 90-096,8/30/90
432,593
Totals
$872.916
$1.059.119
(1 )An ongOing analysis is being made by Departmental Offices regarding the equitable adjustment
claims submitted under Contract TOS-87-16. (2)The Bureau of ATF has requested credits from the
General Services Administration to offset excess rental payments. (3)The Customs Service has not finalized negotiations for the modification under Subcontract TC-87-048. (4)The Mint has not finalized review
of the costs incurred under Contract TM-OlY-88-1008. (5)Engraving and Printing has not finalized
negotiations for the costs incurred under Contract TEP-86-11 (TN). (6)The General Counsel for Customs
is reviewing the proposals for Contract CS-90-00B. (7) Finally, all action plans have not been com pleted to
address the recommendations Cited in the audit report for the Customs Philadelphia, Pennsylvania, District operations.
Significant Revised Management Decisions
The Inspector General Act requires Inspectors General to provide a description and explanation of the
reasons for any significant revised management decisions made during the reporting period. There are no
significant revised management deciSions to report.
40
Hotline and Other Allegations
This table summarizes allegations of fraud, waste, or mismanagement received through hotlines or
other means during the 6 months ended March 31, 1991. It does not include inquiries on taxes and other
matters which are referred informally to Treasury program managers and others for appropriate disposition.
Organization
ATF
uses
u.s.ss
J8.S
Disposition of Allegations:
No action required
438
23
415
0
Referred for investigative
or audit inquiry
571
24
378
169
39
9
20
10
Referred to other agencies
...118
-.0
JiL
-M
Totals
~
....§§
§Z.2
~
Referred to program
managers
No Action Required
37.6%
To Other Agencies
10.1 %
To Program Managers
3.3%
To Invest/Audit
49.0%
41
Caseload Accounting
This table accounts for the caseload of the DIG and Offices of Internal Affairs and Inspection. The
beginning balance of cases, plus the cases opened, minus the cases closed, equals the ending balance
of open cases.
O.ganjzation
ATF
uses
Imal
Q1G
usss.
Number of open cases
at the beginning
of the period
2,412
191
508
l,713al
Number of cases opened
during the period
1,750
31
423
1,298
Number of cases closed
during the period
1,940
93
395
1,452
Number of open cases
at the end of the period
2,222
129
538
1,557
aJ Adjusted balance.
42
JBS
Nature of Allegations
This chart and table classify the nature of allegations for investigative cases opened during the period.
The number of allegations equals the number of cases opened because only the most significant allegation per case was counted.
Oq;Janjzatjon
ATF
uses
!mal
QJG.
llS.SS.
1B.S
Bribes, graft, kickbacks
160
3
37
120
Assaults
393
0
0
393
False statements and claims
211
7
92
112
Theft/misuse of funds/property
293
8
50
235
99
0
42
57
Criminal- Other
296
2
72
222
Improper conduct or disclosure
240
10
102
128
Non-Criminal- Other
~
..i
--2.a
~
Total allegations
~
~
~
UM
Drug abuse and control
Assaults
22.5%
False Statements
12.1%
~~~~~~-.J Non-Criminal-Other
Thefts
16.7%
3.3%
Improper Conduct
13.7%
16.9%
43
Prosecutive Actions
This chart and table account for the prosecutive actions of the OIG and Offices of Internal Affairs and Inspection. The OIG and IRS statistics were based on analyses of cases closed during the period. ATF.
uses, and USSS statistics fully account for prosecutive actions during the period. For these organizations, the number of pending cases at the beginning of the period, plus the cases referred to prosecutive
authorities, less the cases accepted for prosecution, less the declinations, equals the pending cases at
the end of the period.
Qrganization
ATF
uses
llS.SS.
JBS
Number of cases pending
prosecutive decision at
the beginning
of the period
19
NA
19
NA
Number of cases referred
to prosecutive authorities
during the period
692
24
133
535
Number of cases
accepted for prosecution
during the period
226
4
49
173
Number of declinations
during the period
454
20
72
362
31
NA
31
NA
Number of cases pending
prosecutive decision at
the end of the period
Successful Prosecutions
This chart shows the number of successful prosecutions involving the cases of the OIG and Offices of
Internal Affairs and Inspection during the 6 months ended March 31, 1991. Successful prosecutions include the number of individuals who as a result of investigations (1) are found guilty by a Federal or state
court, (2) are accepted for pretrial diversion agreements by the Department of Justice, or (3) are granted
plea bargaining agreements.
Organization
Prosecutions
OIG
5
ATF. uses, usss
23
IRS
ill
Total
44
Administrative Sanctions
This chart shows the number of (1) personnel actions and (2) suspensions and debarments of contractors
involving OIG and law enforcement bureau cases.
Personnel
Actions
27
121
Organization
OIG
ATF, USCS, USSS
IRS
Total
SuspenSions
and
Debarments
1
1
152...
.JL
m
...2..
Investigative Monetary Benefits
This table summarizes monetary benefits relating to OIG and law enforcement bureau investigations.
Organization
OIG
ATF, USCS, USSS
IRS
Total
IotaI
$
18
3,535
Amounts in Thousands
Penalties
Recoveries
$ 14
$ 4
90
3,445
.L.aB1
~
~
....21a
$M22.
$~
Savings a/
$ 0
o
-.-J!
$~
a/ Savings and other types of funds put to better use.
Access to Information
The Inspector General Act requires Inspectors General to report on unreasonable refusals of information available to the agency which relate to programs and operations for which the Inspector General has
responsibilities. There are no instances to report where information or assistance requested by the Inspector General was unreasonably refused.
45
Appendix A
Audit Reports with Recommended Monetary
Benefits: 6 Months Ended March 31, 1991
Recommended
Report Title and Date
Report
Number
Questioned
Costs
Monetary
Benefits
(In Thousands)
Funds Put to
Better Use
Savings
Revenue
Enhancements
Bureau of Alcohol, Tobacco
and Firearms
Regulation of National Firearms
Act Weapons Dealers.
11/19/90
OIG 91-007
$ 64
Producer Compliance-Excise Tax
Exemption on Exported Alcoholic
Beverages, North Atlantic Region.
3122191
OIG 91-034
187
Controls Over Export Alcoholic
Beverage Tax Exemption.
3/29/91
OIG 91-037
3,216
u.s. Customs Service
Review of the Virginia Inland Port.
1117191
OIG 91-017
Contract Administration and
Closeout Procedures.
2106/91
OIG 91-024
$
1,084
Bureau of Engraving and
Printing
Evaluation of Claim for Contract
Price Adjustment Delivery Order
W-4093-00 Contract
TEP-83-79(M).
10/31/90
46
$ 125
OIG 91-004
47
Recommended
Report Title and Date
Report
Number
Questioned
Costs
Benefits
Monetary
(loIbousaods)
Funds Put to
Better Use
Savings
Evaluation of Contract Pricing
Proposal Submitted for
Denominated Distinctive Currency
Paper with Security Threads.
12/20/90
OIG 91-014
15,303
Evaluation of Bid Sample Cost
Incurred for Denominated
Distinctive Currency Paper with
Security Threads.
1/23/91
OIG 91-020
Evaluation of Unsolicited Contract
Price Proposal for Advanced
Counterfeit Deterence Capability.
2121191
OIG 91-027
53
Evaluation of Contract Pricing
Proposal for Heatset Intaglio
Postage Stamp Inks and Varnish.
3/18/91
OIG 91-032
495
Evaluation of Firm-Fixed-Price
Redetermination-Prospective
Proposal for Distinctive Currency
Paper
3/18/91
OIG 91-033
470
549
Federal Law Enforcement
Training Center
FLETC's Marana Satellite Facility.
1/18/91
OIG 91-019
Evaluation of Cost Proposal For
Janitorial Services at the FLETC's
Glynco, Georgia, Facility.
2115/91
OIG 91-025
136
469
Financial Management
Service
Contract Administration and
Closeout Procedures.
11/30/90
Credit Card Use.
3/21/91
OIG 91-010
45
OIG 91-0338
225
48
Revenue
Enhancements
Recommended
RepQrt Iille and Date
Report
Number
Questioned
CQsts
Monetary
Benefits
(ID IOQusaods)
Funds Put to
Better Use
Savings
Revenue
Enoancements
Internal Revenue
Service
Selected Activities in the Midwest
Region Fiscal Management Branch
310210
68
01147
538
1/03/91
Effectiveness of ProceSSing
Employee Benefit Plan Returns.
13,600
3/22/91
U.S. Mint
Evaluation of Contract Termination
Settlement Proposal Contract
TM-89-2013.
OIG 91-016
21
12121/90
Bureau of the Public Debt
Evaluation of the Contract Pricing
Proposal for Conversion of
Records to Microfilm and
Document Destruction.
OIG 91-001
101
10102/90
Undeliverable Payments.
OIG 91-011
96
12/05/90
TOTALS
$1.101
49
$18.627
$17.163
AppendixB
Audit Report Listing
October 1, 1990, Through March 31,1991
Multibureau Audits
u.s. Customs Service
Treasury's Implementation of the
Bank Secrecy Act (Customs,
Departmental Offices,lRS, and
Comptroller of the Currency).
OIG 91-013, 12111/90
Contracted Advisory and
Assistance Services.
OIG 91-002A, 10/18/90
Evaluation of Treasury's Management Controls Over Advisory and
Assistance Services (Engraving
and Printing, Customs, Financial
Management Service, Departmental Offices, and IRS).
OIG 91-021, 1/25/91
Evaluation of Treasury's Compliance with Public Law 101-121
Requirements for Limiting Use of
Appropriated Funds for Lobbying
(Customs, Departmental Offices,
Financial Management Service,
and Mint).
OIG 91-022, 1/25/91
EI Paso Special Agent-In-Charge.
OIG 91-003, 10/25/90
Evaluation of Claim for Contract
Price Adjustment Delivery Order
W-4093-00 Contract
TEP-83-79(N).
OIG 91-004, 10/31/90
Federal Managers' Financial
Integrity Act.
OIG 91-008, 11/28190
Review of Contract Administration
and Closeout Procedures.
OIG 91-009, 11/28190
Review of the Virginia Inland Port.
OIG 91-017,1/17/91
Evaluation of Contract Pricing
Proposal Submitted for
Denominated Distinctive Currency
Paper with Security Threads.
OIG 91-014, 12120/90
Review of the Appropriation
Accounts for FY 1987.
OIG 91-023, 1/30/91
Contract Administration and
Closeout Procedures.
OIG 91-024, 2106/91
Regulation of National Firearms
Act Weapons Dealers.
OIG 91-007, 11/19/90
Visa Card Operations.
OIG 91-026, 2120/91
Producer Compliance - Excise Tax
Exemption on Exported Alcoholic
Beverages, North Atlantic Region.
OIG 91-034, 3/22191
Efforts to Reduce OWCP
Payments. OIG 91-036, 3/27/91
Controls Over Export Alcoholic
Beverage Tax Exemption.
OIG 91-037, 3/29/91
Evaluation of Bid Sample Costs
Incurred for Denominated
Distinctive Currency Paper with
Security Threads. OIG 91-020,
1/23/91
Departmental Offices
Bureau of Alcohol, Tobacco,
and Firearms
Bureau of Engraving and
Printing
Examination of the Exchange
Stabilization Fund's Statements
for the Fiscal Years Ended
September 30, 1989 and 1988.
OIG 91-006,11116/90
Departmental Offices' Conversion
to the Department of Agriculture's
Integrated PayrolVPersonnel
System. OIG 91-012,12106/90
Contract Administration and
Closeout Procedures.
OIG 91-015,12120/90
Forest Hill Company Cash Disbursements, November 1, 1989
through November 16, 1990.
OIG 91-031,3/18191
51
Evaluation of Unsolicited Contract
Price Proposal For Advanced
Counterfeit Deterrence Capability.
OIG 91-027, 2121/91
Product Accountability Systems
Conversion. OIG 91-030, 3/15/91
Evaluation of Contract Pricing
Proposal for Heatset Intaglio
Postage Stamp Inks and Varnish.
OIG 91-032, 3/18/91
Evaluation of Firm-Fixed-Price
Redetermination-Prospective
Proposal for Distinctive Currency
Paper. OIG 91-033, 3/18/91
Federal Law Enforcement
Training Center (FLETC)
FLETC's Marana Satellite Facility.
OIG 91-019, 1/18/91
Evaluation of Cost Proposal For
Janitorial Services at the FLETC's
Glynco, Georgia, Facility.
OIG 91-025,2115/91
Financial Management
Service
Implementation of the Computer
Security Act of 1987.
OIG 91-002, 10/11/90
Collection's Employment Tax
Examination Program in the
Central Region.
Examination Activities in the
Brooklyn District.
60125, 12111/90
41015, 10118190
Recommendations for
Improvements to the Automated
Collection System.
01083, 10/31/90
Taxpayer Service Activities in the
Seattle District.
The Small Purchases Imprest
Fund in the Boston District
61024, 12118190
The Processing of Informants'
Claims for Reward in the North
AtlantiC Region.
61033, 12119/90
91014, 10/31/90
Information Systems
Development's Security and
Project Management Programs.
Use of Enforcement Statistics by
Collection Divisions in the
Southeast Region.
11012, 12121/90
01096, 11/01/90
Earned Income Credit.
Contract Administration and
Closeout Procedures.
OIG91-010, 11/30/90
Service Center Adjustments
Fresno.
01174, 12126/90
91032, 11/09/90
Electronic Certification System.
OIG 91-028, 3/04/91
High Risk Collection Activities in
the Helena District.
Adequacy of Corrective Actions to
Ensure that Bankruptcy Freeze
Codes Are Properly Reversed.
Credit Card Use.
OIG 91-o33B, 3/21/91
Internal Revenue Service
31031, 12127/90
31012, 11/09/90
Planning for Check Handling
Enhancements Expert System
(CHEXS).
Selected Activities in the Midwest
Region Fiscal Management
Branch.
310210, 1/03/91
01103,11116/90
Assessments on Bankrupt
Taxpayers' Accounts.
The Effectiveness of Central
Region's Problem Resolution
Program.
41022, 10101/90
Procurement and Property
Management in the Pittsburgh
District.
81019, 11/20/90
The Small Purchases Imprest
Fund in the Denver District.
Employee Plans and Exempt
Organizations Activities in the
Mid-Atlantic Region.
Abstracting Excise Taxes from
Quarterly Excise Tax Returns at
the Andover Service Center.
51011, 1/09/91
80095, 10101/90
60132, 11/28190
Trend Analysis of Systems
Development Activities
FY 1987-1989.
KCSC Adjustment/Correspondence Branch Workload.
30064, 10/10/90
The Electronic Filing System.
01033, 1/09/91
Information Systems Development
Requirements Analysis Package
(RAP) Process.
01022, 10/12/90
Problem Resolution Program in
the Manhattan District.
01115, 11/29/90
Controls Over Payments of Delinquent Taxes in the Boston District.
The Bankruptcy Program in the
Dallas District.
51027, 1/14/91
61040, 12103190
Examination Division Code to
Prevent Subsequent Year
Examinations.
01161, 12107/90
60097, 10/16/90
Procurement Activities in the
Midwest Regional Offices.
30055, 10/16/90
01041,1/04/91
The Integrated Management
System (IMS) Prototype.
01153,12110/90
52
Follow-Up ProceSSing of Fiduciary
Income Tax Returns.
01210,1116/91
Laguna Niguel District Examination Division Controls Over Statute
Protection.
91022, 1/18/91
District Office Remittance Processing, Los Angeles District.
National Audit Review of the
Bankcard Program Pilot.
91041, 2/01191
01073,3/07/91
The Detroit Computing Center's
Small Purchases Imprest Fund.
Use of Restricted Interest on
Taxpayer Accounts.
41034,2101/91
01265,3111/91
Information Gathering Activities in
the Criminal Investigation Division.
Selected Activities In the Special
Procedures Branch Pittsburgh
District.
01014,2/07/91
81045, 3/12191
National Audit of the Computer
Resources Management System.
01255,2107/91
Statute Controls Follow-up atthe
Philadelphia Service Center.
81030,3/12191
The Automated Taxpayer Service
System Prototype Tests.
01192,2112/91
Examination Division Returns and
Statute Controls in the San Jose
District.
91087,2112191
Problem Resolution Program in
the Anchorage District.
01231, 2112/91
An Analysis of Interest Paid on the
Refunds.
Small Purchases Imprest Fund.
01276, 3/22191
Effectiveness of Processing
Employee Benefit Plan Returns.
01147,3/22191
Procedures Used to Requisition
and Control Returns for the
Examination Division.
11021, 2122191
01221,3/04/91
Puerto Rico Trust Fund Cases.
Monitoring of Travel Advances in
the Office of the Assistant
Commissioner (International).
81022, 3/05/91
The 1988 Olympic Coin Program.
OIG 91-029, 3/08/91
Evaluation of the Contract Pricing
Proposal for Conversion of
Records to Microfilm and
Document Destruction.
OIG 91-001, 10/02190
61055,2127/91
Estimated Tax Remittance
Processing Lockbox Depository
System.
Evaluation of Contract Termination
Settlement Proposal Contract
TM-89-2013.
OIG 91-016,12121/90
Small Purchases Imprest Funds in
the Office of the Assistant
Commissioner (International).
91052, 2119/91
Investigative Imprest Fund and
Equipment in the Boston District.
The Processing of Numismatic
Coin Orders and Remittances by
the Lockbox Depository.
OIG 91-005, 11-09-90
Bureau of the Public Debt
01243,3/20/91
Office Examination Case Management and Control in the Western
Region.
u.s. Mint
91071, 3/12191
81053, 3/15/91
Service Center Candling
Operations.
Southwest Region.
51030,3/26/91
81062, 3/26/91
Undercover Activities and
Investigative Imprest Funds in the
53
Undeliverable Payments.
OIG 91-011, 12105/90
Reconciliation of Account
Balances.
OIG 91-018, 1/09/91
Office of Thrift Supervision
Information Systems.
OIG 91-035,3/20/91
AppendixC
C~ References to Inspector General Act
Source
.Eage
Inspector General Act, as amended
Section 4(a)(2)
Review of Legislation
and Regulations
33
Section 5(a)(1 )
Significant Problems,
Abuses, and Deficiencies
9-24
Section 5(a)(2)
Recommendations with
Respect to Significant
Problems, Abuses, and
Deficiencies
13-20
Section 5(a)(4)
Matters Referred to
Prosecutive Authorities
44
Section 5(a)(5)
Summary of Instances
Where Information Was
Refused
45
Section 5(a)(6)
List of Audit Reports
47-53
Section 5(a)(7)
Summary of Significant Reports
13-20
Section 5(a)(8)
Statistical Table Questioned Costs
35-36
Section 5(a)(9)
Statistical TableRecommendations that
Funds Be Put to Better
Use
37-39
Section 5(a) (10)
Summary of Audit Reports
Issued Before the
Commencement of the
Reporting Period for
Which No Management
Decision Has Been Made.
40
Section 5(a)(11)
Significant Revised Management
Decisions Made During the
Reporting Period
40
Section 5(a)(12)
Management Decisions With
Which the Inspector General
Is in Disagreement
40
55
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OFFICE OF INSPECTOR GENERAL
DEPARTMENT OF THE TREASURY
TREASURBYlloNoEWS
Department of the Treasury • Washington, D.C •• Telellhone 5&&-2041
Cl
FOR RELEASE AT 2:30 P.M.
October I, 1991
-r:il 0 \j II L 8 \
CONTACT:
____ "
EPT.C:- lr.t.
,,,_,,,:J \j r-ft'
,y:: ~
Office of Financing
;t02-219-3350
C
TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice,
invites tenders for two series of Treasury bills totaling
approximately $ 21,600 million, to be issued October 10, 1991.
This offering will provide about $3,825 million of new cash for
the Treasury, as the maturing bills are outstanding in the amount
of $ 17,765 million. Tenders will be received at Federal Reserve
Banks and Branches and at the Bureau of the Public Debt, Washington, D. C. 20239-1500,
Monday, October 7, 1991,
prior to
12:00 noon for noncompetitive tenders and prior to 1:00 p.m.,
Eastern Daylight Saving time, for competitive tenders. The two
series offered are as follows:
91-day bills (to maturity date) for approximately
$ 10,800 million, representing an additional amount of bills
dated July 11, 1991
and to mature January 9, 1992
(CUSIP No. 912794 XU 3), currently outstanding in the amount
of $ 10,715 million, the additional and original bills to be
freely interchangeable.
182-day bills (to maturity date) for approximately
$ 10,800 million, representing an additional amount of bills
dated
April 11, 1991
and to mature
April 9, 1992
(CUSIP No. 912794 YH 1), currently outstanding in the amount
of $ 11 ,022 million, -the additional and original bills to be
freely interchangeable.
The bills will be issued on a discount basis under competitive and noncompetitive bidding, and at maturity their par amount
will be payable without interest. Both ser~es of bills will be
issued entirely in book-entry form in a minimum amount of $10,000
and in any higher $5,000 multiple, on the recor-ds either of the
Federal Reserve Banks and Branches, or of the Department of the
Treasury.
The bills will be issued for cash and in exchange for
Treasury bills maturing
October 10, 1991. Tenders from Federal
Reserve Banks for their own account and as agents for foreign
and international monetary authorities will be accepted at
the weighted average bank discount rates of accepted competitive tenders. Additional amounts of the bills may be issued to
Federal Reserve Banks, as agents for foreign and international
monetary authorities, to the extent that the aggregate amount
of tenders for such accounts exceeds the aggregate amount of
maturing bills held by them. Federal Reserve Banks currently
hold $732
million as agents for foreign and international
monetary authorities, and $ 4,390 million for their own account.
Tenders for bills to be maintained on the book-entry records
of the Department of the Treasury should be submitted on Form
PD 5176-1 (for 13-week series) or Form PD 5176-2 (for 26-week
series) •
NP-1483
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer. whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
competitive tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.
1/91
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from anyone
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bids
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the periodduring the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, PUblic Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.
8/89
TREASUR'(!;NEWS
Dellartment of the Treasury • Washington, D.C. • Telellhone 5&&.2041
For Release Upon Delivery
Expected at 10:00 a.m.
October 2, 1991
STATEMENT OF
KENNETH W. GIDEON
ASSISTANT SECRETARY (TAX POLICY)
DEPARTMENT OF THE TREASURY
BEFORE THE
COMMITTEE ON WAYS AND MEANS
UNITED STATES HOUSE OF REPRESENTATIVES
I am pleased today to present the views of the
Administration on H.R. 3035, a bill to amend the Internal Revenue
Code of 1986 with respect to the amortization of goodwill and
certain other intangibles; H.R. 1456, the Intangibles
Amortization Clarification Act of 1991; and H.R. 563, a bill to
amend the Internal Revenue Code of 1986 to clarify that amounts
paid to acquire certain intangible items are treated as being
paid for goodwill. As I stated in a letter to Chairman
Rostenkowski shortly after introduction of H.R. 3035, we believe
that H.R. 3035 provides a very promising approach to address a
difficult issue for both taxpayers and the Internal Revenue
Service \~RS), and we support it.
commissioner Goldberg and I believe that H.R. 3035, which
would require amortization of purchased goodwill and other
intangible assets over 14 years, is one of the most important
simplification proposals before you this year. If enacted it
would avoid innumerable tax controversies concerning the tax
treatment of future acquisitions •. It also would move the tax law
with respect to goodwill toward conformity with generally
accepted accounting principles which prevail not only in domestic
financial accounting but also in international financial and tax
accounting. 1
Given our strong preference for the mechanism proposed in
H.R. 3035, we oppose H.R. 1456 and H.R. 563 because we do not
believe that either would reduce controversy as effectively as
H.R. 3035. We particularly object to H.R. 563 because that bill
would increase the number of unamortizable assets by providing,
as a matter of law, that a customer base, market share, or any
Amortization of goodwill is permitted for tax purposes by
several of our major trading partners, including Canada, Germany
and Japan.
1
NB-1484
- 2 -
similar item has an indeterminate useful life and is therefore
nondepreciable. These statutory measures, while generally
consistent with current IRS positions and some decided cases
would ignore factual conclusions reached by the courts in a
number of cases, as well as the emerging consensus of the
accounting profession, the Securities and Exchange commission,
and banking regulatory agencies, that goodwill should be
amortized for accounting purposes. Moreover, H.R. 563 would work
to the disadvantage of domestic acquirers who are generally
denied any amortization deductions for· the cost of acquired
goodwill vis-a-vis foreign acquirers whose home country tax law
permits amortization of goodwill. In some cases, this advantage
could be significant in future competition against united States
bidders for businesses with significant trademarks, going concern
value and goodwill. In addition, the terms "customer base",
"market share", and "similar items" in H.R. 563 are vague and not
well defined.
We believe that the proper objective here is simplification,
not raising revenue. H.R. 3035 has been designed to be
essentially revenue neutral and thus meets that requirement for
our support.
Our objection to H.R. 1456 is that we believe H.R. 3035 is
clearly the better rule for the future and will more definitively
resolve the issue. We understand that many of the proponents of
H.R. 1456 would support H.R. 3035 as a prospective rule for
purchased intangibles if their solution were made applicable to
currently pending cases. The IRS would not agree with their
premise that H.R. 1456 simply restates and clarifies current law.
We traditionally oppose retroactive legislation. Accordingly, we
do not support application of the approach set forth in H.R. 1456
to existing controversies.
Having summarized our basic position on the three bills
before you, I would like to return to a review of current law and
its history, the specific provisions of the bills before you, and
certain requests for changes to and clarification of H.R. 3035
which have arisen since its introduction. 2
Congress has never explicitly addressed by statute whether
goodwill should be amortized. Instead, the rule that goodwill
cannot be amortized is found in Treasury Regulation section.
1.167(a)-3. 3 While the current version of this regulation was
2
A more detailed review of current law is attached as an
Appendix.
That regulation also permits amortization of intangible assets
if experience or other factors establish that the asset will be
of use for only a limited period, the length of which can be
3
- 3 -
adopted in 1956 and amended in 1960,4 versions of the rule can be
traced back to the earliest days of the income tax. As a result
of subsequent reenactments by Congress and frequent judicial
endorsement, the regulatory pronouncement that goodwill may not
be amortized has become well settled law. Accordingly, the
validity of the regulation is beyond challenge and it is a rule
of such longstanding that we believe that it should only be
altered by legislation.
A rule disallowing any amortization for goodwill has been
consistent with the rule that taxpayers must present facts to
prove both the allowability and the amount of any deduction, and
it caused few difficulties in an earlier time when a relatively
small amount of business value consisted of intangible assets
(other than patents and copyrights, which had limited lives by
statute). However, it is now time to reevaluate the question.
Financial accounting conventions have over time begun to
require amortization or depreciation of goodwill in order to
prevent financial statements from overstating assets and income.
The financial accounting community has recognized that goodwill
is not a perpetual asset akin to land or a fine painting, but
rather that the value of goodwill and other intangible property
is eventually consumed in the production of income, even though
the period over which the value disappears may be indeterminate.
Prior to 1970, there was considerable flexibility in the
amortization of intangible property for financial accounting
purposes. since 1970, generally accepted accounting principles
have required amortization of the cost of goodwill and other
intangible property over the period estimated to be benefitted,
but not to exceed 40 years. 5 Thus, there is a discontinuity
between sound accounting practices and the tax rule that goodwill
cannot be amortized.
In estimating the useful life of an intangible asset for
financial accounting purposes, consideration is given to (1)
legal, regulatory, or contractual limits on the useful life, (2)
competition, obsolescence, and other economic factors that may
estimated with reasonable accuracy.
4 The 1960 amendment merely added a cross-reference to section
177 of the Code for rules concerning trademarks and trade names.
5 See Accounting Principles Board Opinion No. 17, Intangible
Assets. See also statement of Financial Accounting Standards
No. 72 and Financial Accounting Standards Board Interpretation
No.9; Securities and Exchange commission, Staff Accounting
Bulletin No. 42 Topic 2.A.3; Office of the Comptroller of the
Currency, Revised Banking Circular 164 and Bank Accounting
Advisory Series.
- 4 -
limit the useful life, and (3) provisions for renewal or
extension. With respect to goodwill and certain other intangible
property, the Accounting Principles Board acknowledges that,
"Since the date at which the value becomes zero is indeterminate,
the end of the useful life must necessarily be set arbitrarily at
some point or within some range of time for accounting
purposes. ,,6
The current state of the law in this area is very unsettled.
Courts continue to follow the rule that goodwill cannot be
amortized, but some courts have been persuaded that certain
intangible assets can be distinguished from goodwill and can be
amortized. The result is uncertainty and a lack of uniformity in
application of the rule. It is thus often unclear to the buyer
and seller whether a particular intangible asset is amortizable.
The primary common feature of decisions allowing amortization is
dependence on the facts of the particular case. In addition,
results may differ from court to court depending on the legal
principles that are considered controlling and the quality of
proof adduced by the taxpayer. Thus, some courts may hold for
the taxpayer based on a finding that an identifiable asset has an
ascertainable value and a limited useful life, while other courts
may find that similar assets are so closely linked to the
customer relationship that they are inseparable from goodwill or
that their lives are indeterminate. 7
A determination that an intangible asset can be amortized
does not end the uncertainty because the amount of the
amortization deduction allowable depends on the asset's cost, its
useful life, and the rate at which it is exhausted. In the case .
of intangible assets acquired as part of a business, valuation
may be especially difficult because comparable assets are not
often sold separately. Determining an intangible asset's useful
life and the rate at which it is exhausted is equally
problematic.
This uncertainty about how existing law will be applied in
particular cases can be expected to have adverse effects on
economic efficiency. Capital markets function best when relevant
information is readily available to prospective investors. Under
current law, however, the tax consequences, and thus the ultimate
cost, of a business acquisition involving significant intangible
assets cannot be predicted with accuracy.
Intangible assets for those companies included on the
Compustat data base (about 7,000 of the largest U.S.
Accounting Principles Board Opinion No. 17, Intangible Assets,
paragraph 23.
6
7
See Appendix.
- 5 -
corporations) are valued for financial accounting purposes at
over $400 billion in 1990. 8 For the Compustat group of firms,
the value of intangibles has grown from just about 1.5 percent of
the total assets of manufacturers in 1971 to about 7 percent in
1990. Likewise, from 1971 to 1990, intangibles have increased
from about 1.5 percent to over 4 percent of the share of total
assets in the retail and wholesale trade sector of the economy.
Even in the transportation and public utility sector, the share
of intangibles has grown from less than 0.5 percent to about 2.5
percent, while in the service industries, the share has grown
from about 5 percent to about 10 percent of total assets between
1971 and 1990. While the pattern varies among sectors, most of
this growth has occurred in the last decade. These statistics
indicate that intangible assets are more significant than in
earlier years.
A comparison of the treatment historically afforded tangible
versus intangible property is useful. Initially, the Revenue Act
of 1913 applied identical depreciation standards to tangible and
intangible property (i.e., "a reasonable allowance for the
exhaustion, wear and tear of property"). Since the introduction
of this standard, however, significant administrative and
legislative efforts have been made from time to time to resolve
the obvious difficulties that arise in applying this inherently
factual standard to each tangible asset used in a trade or
business. In the case of tangible property, these efforts have
resulted in statutorily mandated methods of depreciation and
useful lives. Impelling this change was dissatisfaction with the
uncertainty created by differing results in litigation involving
depreciation of.tangible assets. 9 In contrast, the 1913 standard
(a "reasonable allowance") remains unchanged in its application
to intangible property.
We believe the time has come to adopt statutory amortization
rules for intangible property, and we view H.R. 3035 as important
in achieving that objective.
The Compustat database is published by Standard and Poor's
Compustat Services, Inc.
8
In describing the pre-1981 depreciation procedures and the
reasons for adopting statutory lives, Congress stated that the
then-existing system "required determinations on matters, such as
useful life and salvage value, which are inherently uncertain
and, thus, too frequently resulted in unproductive disagreements
between taxpayers and the Internal Revenue Service." General
Explanation Of The Economic Recovery Tax Act of 1981, p. 75
(1981), prepared by the Staff of the Joint committee on Taxation.
9
- 6 -
DESCRIPTION OF PROPOSALS
H.R. 3035
H.R. 3035 would require the cost of most purchased
intangible property (including goodwill and going concern value)
to be amortized ratably over 14 years. The cost of purchased
intangibles would continue to be determined under the principles
of current law. tO Except as otherwise provided below, the bill
would apply to intangible property acquired in stand-alone
purchases as well as intangible property acquired in the purchase
of an ongoing business.
Since the bill applies only to purchased intangible
property, it would not change the tax treatment of self-created
intangible property or the costs of creating such property.
If a taxpayer acquires property that is subject to
amortization under the bill and disposes of a portion of the
property acquired in the transaction, no loss would be allowed
with respect to the disposition and the adjusted basis of the
remaining intangible assets would be adjusted accordingly.
The following property would be subject to the bill ll , and
hence amortized ratably over 14 years:
goodwill and going concern value;
work force in place, its composition, terms and
conditions of employment, including employment
contracts, favorable wage rate structures, technical
expertise of work force, and similar property;
information bases, including customer lists, credit
lists, client files, business books and records,
insurance expirations, data bases, manuals, and similar
property;
technology, including software, formulas, processes,
designs, patterns, know-how, formats, recipes, and
similar property;
Allocation disputes would be substantially reduced, however,
because in many cases, there would be no need to allocate among
individual assets the aggregate amount paid for 14-year
intangibles.
10
The following listing is intended to illustrate the scope of
the bill; however, the listing of an item does not imply that it
does or does not constitute a depreciable asset under current
law.
II
- 7 -
customer-based intangibles, including insurance in
force, favorable market structure or other competitive
advantages, customer contracts, mortgage servicing
rights, core deposits, and similar property;
supplier-based intangibles, including favorable service
contracts, favorable manufacturing contracts, favorable
supply contracts, favorable leases (except as otherwise
provided below), and similar property;
licenses, permits and other rights granted by a
governmental unit or an agency thereof, provided the
rights are not granted for an indefinite period and are
not reasonably expected to be renewed for an indefinite
period;
covenants not to compete or similar arrangements that
are entered into in connection with the acquisition of
a trade or business; and
franchises, trademarks and trade names, including
renewals of franchises, trademarks or trade names (but
excluding any rights granted by a governmental unit or
an agency thereof and certain contingent amounts paid
or incurred with respect to a franchise, trademark or
trade name).
Several classes of intangible property would be excluded
from the scope of the bill and therefore not subject to 14-year
amortization. costs associated with the acquisition of excluded
property would be controlled by current law principles. For
example, if in connection with the acquisition of tangible
property the purchaser also acquires an interest as a lessor in a
lease, the cost of acquiring the leasehold interest would be
added to the basis of the property acquired rather than amortized
over 14 years. The cost of acquiring a leasehold interest in
tangible property, as a lessee, would be excluded from the scope
of the bill provided the lease has a fixed duration, is not
renewable, and is acquired in a stand-alone purchase. With the
exception of core deposits and similar items held by financial
institutions, the bill would not apply to any interest as a
creditor under any existing indebtedness. The bill also would
not apply to the cost of acquiring the following property:
favorable financing, provided the favorable financing
has a fixed term and is nonrenewable;
any interest in land that has a remaining recovery
period under current law of 30 years or more;
- 8 -
any property of a kind that is regularly traded on an
established market, such as futures contracts, foreign
currency contracts, and similar instruments;
patents and copyrights acquired in a stand-alone
purchase;
sports franchises and items acquired in connection with
the acquisition of sports franchises; and
licenses, permits or other rights granted by
governmental units or agencies thereof for an
indefinite period or reasonably expected to be renewed
for an indefinite period.
The bill would provide the Treasury Department with regulatory
authority to exclude the cost of acquiring rights under
contracts, provided the rights have a fixed duration and are
acquired in a stand-alone purchase. The bill would apply to
intangible property acquired after the date of enactment of the
bill.
H.R. 1456
H.R. 1456 would provide for amortization of the value of
customer-based, market share, and any similar intangible
property, provided the taxpayer can demonstrate that (1) the
property has an ascertainable value that is separate and distinct
from other assets acquired in the same transaction (including
goodwill and going concern value), and (2) such property has a
limited useful life. H.R. 1456 would provide the Treasury
Department with regulatory authority to prescribe safe harbor
recovery periods .for specific types of customer-based, market
share, or similar intangible property. The bill would apply to
all taxable years beginning before, on, or after the date of
introduction. Legislation similar to H.R. 1456 has also been
introduced in the Senate.
H.R. 563
H.R. 563 would provide that any amount paid or incurred to
acquire customer base, market share, or any similar item has an
indeterminate useful life and is therefore not depreciable. The
bill would apply to customer base, market share, or any similar
item acquired after the date of enactment of the bill.
- 9 -
ADMINISTRATION POSITION
As set forth above and in my letter to Chairman
Rostenkowski, we support H.R. 3035 as a promising approach for
resolving the tax treatment of purchased intangible property in a
revenue neutral manner. However, a number of possible
modifications to the specific provisions of H.R. 3035 have been
brought to our attention since the bill was introduced.
One possible modification was suggested in a recent General
Accounting Office Report, "Tax Policy: Issues and Policy
Proposals Regarding Tax Treatment of Intangible Assets." The
report suggested the adoption of asset classes and multiple
recovery periods analogous to those of the current law
depreciation system for tangible property. The argument in favor
of this proposal is that recovery periods for intangible assets
would correspond more closely with their actual useful lives
resulting in better matching of amortization deductions with
related revenue and more accurate measurement of income.
Notwithstanding this argument, we oppose a multiple class
system for intangibles generally. Multiple recovery periods will
inevitably lead to disputes over the class in which an asset
should be included and over the allocation of purchase price
among different classes of intangible assets. Both of these
problems are minimized by the uniform amortization period of
H.R. 3035.
Commenters have questioned the exclusion of governmental
rights with an indefinite duration (such as renewable Federal
broadcast licenses or grazing leases) from the provisions of the
bill (thereby making such assets ineligible for 14-year
amortization). We oppose application of the proposal to such
governmental rights. Often, government-granted rights are
effectively perpetual in nature, i.e., not subject to exhaustion.
H.R. 3035 does not purport to reverse the longstanding
requirement that depreciation is limited to property that is
subject to "exhaustion, wear and tear." Thus, tangible and
intangible property that is not subject to eXhaustion, wear and
tear, such as land or the stock of an acquired trade or business,
must be capitalized and recovered only upon disposition of the
property. The proposal establishes a 14-year useful life for
classes of intangible property that have been recognized in the
financial accounting practice to be generally subject to
exhaustion. The exclusion of governmental rights of an
indefinite duration is therefore consistent with the purpose of
the bill. 12
While it is conceivable that certain private contracts might
12
retain their value indefinitely, such private contracts are
relatively infrequent. We, therefore, concur in the judgment
- 10 other commenters have questioned whether the bill's coverage
of leases is sufficiently broad to reach depletable mineral
interests. While we do not believe that the bill was intended to
reach leases of mineral interests where cost recovery is
accomplished primarily through an allowance for depletion, we
believe that this exclusion should be made explicit.
Commenters have also questioned the propriety of a 14-year
amortization period for purchased software. The term "software",
however, covers a broad range of intangibles. We agree with the
proposition that the bill should not cover purchases of a
nonexclusive license to use software that is generally available
for purchase through commercial outlets. Examples of this
category of software would be commercially available spread
sheet, database and word processing programs. By way of
contrast, if the developer of a software program sold its
copyrights and related know-how for the software program to
another developer/marketer of software, the acquired rights
should be subject to 14-year amortization in the hands of the
purchaser.
Accordingly, we would favor clarifying the bill to exclude
purchases of nonexclusive licenses to use commercially available
software while making it equally clear that purchased software
will be subject to the 14-year amortization rule when the
purchaser acquires all rights to the software or acquires any
exclusive rights with respect to the software (~, the
exclusive right to exploit the software in a particular market).
Finally, we recommend that Congress adopt an explicit
amortization period for nonexclusive licenses of commercially
available software. Such a rule could be patterned after the
Service's administrative safe harbor, Rev. Proc. 69-21, 1969-2
C.B. 303, which generally provides a 5-year amortization period
for software that is purchased separately and treats the cost of
software included in the purchase price of a computer as part of
the depreciable basis of the computer. Adoption of this
clarification would not, in our view, require any change in the
14-year amortization period proposed by the bill.
CONCLUSION
We strongly support enactment of H.R. 3035 with the
clarifications I have discussed today. We look forward to
working with the Committee to achieve this important and needed
simplification.
that private contracts do not warrant a similar exclusion.
-
11 -
This concludes my written testimony, Mr. Chairman. I will
be pleased to answer any questions which you or other members of
the Committee may have.
- 12 APPENDIX
Current Law
statutory and Regulatory Provisions Relating to Depreciation of
Intangible Property
Section 167 of the Code allows a depreciation deduction for
exhaustion, wear and tear, and obsolescence of property that is
used in a trade or business or held for the production of income.
This deduction allocates the cost or other basis of the property
over the estimated useful life of the property, thereby matching
costs and related income. The basis upon which the allowance for
depreciation is to be computed with respect to any property is
the basis under section 1011 for the purpose of determining gain
on the sale or other disposition of the property.
In the case of tangible property the depreciation method and
recovery period are generally prescribed in section 168. With
the exception of property with a lS-year or 20-year class life,
property used in a farming business, and certain property for
which the taxpayer elects an alternate recovery method, tangible
personal property is generally depreciated using the 200-percent
declining balance method. Tangible property with a lS-year or
20-year class life, property used in a farming business, and
certain property for which the taxpayer makes the appropriate
election, is depreciated using the lS0-percent declining balance
method. Nonresidential real property, residential rental
property, railroad grading or a tunnel bore, and property for
which the taxpayer elects to use the straight line method, is
generally depreciated using the straight line method. The
recovery periods prescribed under section 168 vary between 3
years and 50 years, depending upon the class life of the
particular property. Salvage value is disregarded in determining
the allowance for depreciation under section 168.
Treasury Regulation section 1.167(a}-3 provides that if an
intangible asset is known from experience or other factors to be
of use in the business or in the production of income for only a
limited period, the length of which can be estimated with
reasonable accuracy, such an intangible asset may be the supject
of a depreciation allowance. An intangible asset, the useful
life of which is not limited, is not depreciable. Treasury
Regulation section 1.167(a}-3 specifically provides that no
deduction for depreciation is allowable with respect to goodwill.
Treasury Regulation section 1.167(a}-1(a} provides that the
depreciation allowance is generally based on the amount which
should be set aside for the taxable year in accordance with a
reasonably consistent plan, so that the aggregate of the amounts
- 13 set aside, plus salvage value, will, at the end of the estimated
useful life of the depreciable property, equal the cost or other
basis of the property. Treasury Regulation section 1.167(a)-1(b)
provides that the estimated useful life is the life over which
the asset may reasonably be expected to be useful to the taxpayer
in its trade or business or in the production of income. Some of
the factors to be included in determining this period are (1)
wear and tear and decay or decline from natural causes, (2) the
normal progress of the art, economic changes, inventions, and
current developments within the industry and the taxpayer's trade
or business, (3) the climatic and other local conditions peculiar
to the taxpayer's trade or business, and (4) the taxpayer's
policy as to repairs, renewals, and replacements.
Statutory, Regulatory. and Administrative Provisions Providing
Recovery Periods for Intangible Property
Several statutes, regulations and administrative
pronouncements prescribe useful lives and depreciation or
amortization methods for certain types of intangible property;
however, relatively few intangible assets are subject to these
rules.
Some of the most significant of these special rules relate
to transfers of franchises, trademarks, and trade names. section
1253 of the Code limits the circumstances in which such transfers
are treated as sales or exchanges of capital assets and
prescribes the treatment of payments on account of such
transfers. These rules prescribe the following recovery methods:
Installment payments contingent on productivity or
similar criteria may be deductible when made. This
rule applies only if the installments are payable at
least annually over the term of the transfer agreement
and are substantially equal or determined under a fixed
formula.
Noncontingent principal payments (and contingent
principal payments to which the preceding rule does not
apply) may be (1) amortized ratably over the shorter of
10 years or the term of the transfer agreement if
payable in a lump sum, (2) deductible when made if
payable in approximately equal installments over a
specified period, and (3) taken into account under
regulations consistent with the foregoing rules in
other cases. These rules apply only if the transfer is
not treated as a sale or exchange of a capital asset
and the aggregate amount of the payments does not
exceed $100,000.
- 14 The transferee may be required to capitalize the
payments. In that case, the transferee may elect to
amortize the amounts charged to the capital account
over 25 years.
(If the transferee does not make the
election, depreciation is determined under section
167.) These rules apply if the transfer is treated as
a sale or exchange of a capital asset. Payments on
account of transfers not treated as a sale or exchange
of a capital asset are also subject to these rules if
no other rule applies.
Section 248 of the Code provides that a corporation may
elect to amortize organizational costs ratably over a period of
not less than 60 months, beginning with the month in which it
begins business. Treasury Regulation section 1.248-1(b) (1)
defines organizational expenses as those expenditures that are
directly incident to the creation of the corporation, are
chargeable to a capital account, and are of a character which, if
expended incident to the creation of a corporation having a
limited life, would be amortizable over such life. Examples of
organizational expenditures include legal and accounting services
incident to the organization of the corporation, expenses of
temporary directors or stockholders of the corporation, and fees
paid to the state of incorporation. Under section 709 of the
Code, a similar rule applies to organizational expenditures of
partnerships.
From 1956 through 1986; section 177 of the Code provided a
similar rule with respect to trademark and trade name
expenditures (i.e., expenditures that are (1) directly connected
with the acquisition, protection, expansion, registration, or
defense of a trademark or trade name, (2) chargeable to the
capital account, and (3) not part of the consideration paid for a
trademark, trade name, or business). Electing taxpayers could
amortize these expenditures ratably over a period of not less
than 60 months beginning with the "first month of the taxable year
in which the expenditure was paid or incurred. section 177 was
enacted to minimize disparities of treatment that resulted from
the failure of some taxpayers (generally, large companies with
in-house legal staffs) to capitalize all of their trademark and
trade name expenditures. The provision was repealed by the Tax
Reform Act of 1986, because, on reconsideration, "the possibility
that some taxpayers may fail accurately to compute nondeductible
expenses was [not] a justification for rapid amortization." H.R.
Rep. No. 426, 99th Cong., 1st Sess. 171 (1985).
Treasury Regulation section 1.167(a)-6(a) provides for
depreciation of the cost or other basis of a patent over the
remaining useful life of the patent. If a patent becomes
worthless in any year before its expiration, the unrecovered cost
or other basis may be deducted in that year. The cost of a selfcreated patent includes the various Government fees, cost of
- 15 drawings, models, attorneys' fees, and similar expenditures.
Amounts paid or incurred in the development of a patent and that
qualify as research and experimental expenditures under section
174 of the Code may be deducted during the year in which they are
paid or incurred. Alternatively, the taxpayer may elect to
capitalize and amortize research and experimental expenditures.
Under Treasury Regulation section 1.174-4(a) (4), if these
capitalized expenditures result in the creation of a patent, the
unrecovered capitalized amount is depreciable over the useful
life of the patent.
A number of administrative procedures provide safe harbor
recovery periods for various classes of intangible property. For
example, Rev. Proc. 69-21, 1969-2 C.B. 303, provides that the
cost of purchased software may be amortized ratably over a period
of 5 years provided the cost of the purchased software is
separately stated from the cost of any purchased hardware.
Similarly, Rev. Proc. 90-63, 1990-2 C.B. 664, provides that the
cost of purchased or self-created package designs may be
amortized ratably over either a 4-year or 5-year period.
Taxpayers electing 5-year amortization of package design costs
may deduct the unamortized portion of the basis of the package
design in the tax year of disposition or abandonment . . Taxpayers
electing 4-year amortization of package design costs may not
deduct the unamortized portion of the basis of the package design
in the tax year of disposition or abandonment.
Statutory Provisions Relating to Valuation of Intangible Property
section 1060 of the Code provides that the purchaser of the
assets of a trade or business must use the method prescribed in
the regulations under section 338(b) (5) to allocate the purchase
price among the assets acquired.
Treasury Regulation section 1.338{b)-2T(b) prescribes a
"residual method" under which the purchase price is allocated as
follows:
First, to cash, demand deposits, and similar accounts
in depository institutions (Class I assets).
Second, to certificates of deposit, U.S. Government
securities and readily marketable stock, securities and
foreign currency (Class II assets).
Third, to any remaining tangible and intangible
property other than intangible assets in the nature of
goodwill and going concern value (Class III assets).
Fourth, to intangible assets in the nature of goodwill
and going concern value (Class IV assets).
- 16 In general, the purchase price allocated to assets in each
of the first three classes will be equal to their fair market
value. If, however, the fair market value of a class of assets
exceeds the remaining purchase price (~, the purchase price
reduced by amounts allocated to prior classes), the remaining
purchase price is allocated among the assets in proportion to
their relative fair market values. The residual purchase price,
after allocation to the first three classes, is allocated to
goodwill and going concern value (Class IV assets).
Prior to 1987, the two most common methods of valuing
goodwill in connection with an acquisition of the assets of a
going business were the residual method and the formula method.
Under the formula method, goodwill and going concern value were
separately valued along with the other assets of the business.13
Taxpayers using the formula method often employed a "second-tier
allocation" procedure to allocate any premium paid for the
business among the assets acquired, including goodwill and going
concern value. The second-tier allocation procedure involved (1)
a valuation of each asset acquired, including goodwill and going
concern value, (2) an allocation of purchase price among the
assets acquired in an amount equal to each asset's fair market
value, and (3) an allocation of any remaining purchase price
among all assets, except cash and cash equivalents, in proportion
to their relative fair market values. The obvious benefits for
taxpayers using the formula method and second-tier allocation
procedure to assign purchase price to depreciable property,
rather than goodwill and going concern value, led to protracted
controversy and litigation concerning purchase price
methodologies. See Banc One Corp. v. commissioner, 84 T.C. 476
(1985), aff'd 815 F.2d 75 (6th Cir. 1987).
section 1060 of the Code was enacted, as part of the Tax
Reform Act of 1986, in order to limit controversy concerning
purchase price allocations, particularly allocations to goodwill
and going concern value. By requiring taxpayers to apply the
residual method, any premium is effectively treated as a payment
for assets in the nature of goodwill or going concern value.
Section 1060 effectively limits controversy regarding the
mechanics of the purchase price allocation but does not resolve
questions concerning the proper classification of the assets
acquired. Thus, disputes persist concerning whether an
intangible asset acquired in the purchase of an ongoing business
is within Class III and amortizable, or constitutes goodwill or
Goodwill and going concern value were generally valued by
capitalizing, at an appropriate discount rate, the excess earning
capacity of the business. The IRS recognized the formula method
in situations in which there was no "better evidence available
from which the value of intangibles can be determined." See Rev.
Rul. 68-609, 1968-2 C.B. 327.
13
- 17 going concern value and, therefore, is within Class IV and
nonamortizable.
Brief Overview of the Evolution in Treatment of Tangible Property
The Revenue Act of 1913 permitted a deduction from income
for "a reasonable allowance for the exhaustion, wear and tear of
property arising out of its use or employment in the business."
Prior to 1934, taxpayers had considerable discretion in
establishing the amount of depreciation allowable during the
taxable year. 14 This discretion resulted in excessive
depreciation allowances and ultimately led to a 1934
administrative reform of depreciation practices. 15
During 1934, Treasury issued regulations which (1) limited
the deduction for depreciation to an amount necessary to recover
the cost or other basis of the property and (2) placed the burden
of proof for the correctness of depreciation deductions claimed
squarely upon the taxpayer. See T.D. 4422~ XIII-I, C.B. 58
(1934). During this period, the IRS generally determined the
useful life of tangible property by reference to standardized
useful lives prescribed in "Bulletin F. ,,16 This approach led to
Bureau of Internal Revenue, Regulations 74 and 77, Article
205 provided that, "the capital sum to be replaced should be
charged off over the useful life of the property, either in equal
annual installments or in accordance with any other recognized
trade practice, such as an apportionment of the capital sum over
units of production. Whatever plan or method of apportionment is
adopted must be reasonable and must have due regard to operating
conditions during the taxable period. While the burden of proof
must rest upon the taxpayer to sustain the deduction taken by
him, such deductions will not be disallowed unless shown by clear
and convincing evidence to be unreasonable."
14
15
SeeH.R. 704, 73rd Cong., 2d Sess. 8-9 (1934) and Letter from
the secretary of the Treasury to the Chairman of the Ways and
Means Committee, House of Representatives, January 26, 1934, in
H.R. 704, 73rd Cong., 2d Sess. 8-9 (1934).
16
The earliest edition of Bulletin F, dated August 31, 1920,
did not contain suggested useful lives. The Bulletin stated
that, "[t]he Bureau does not prescribe rates to be used in
computing depreciation and obsolescence, as it would be
impractical to determine rates which would be equally applicable
to all property of a general class or character. For this
reason, no table of rates is published. The rate applicable and
the adjustment of any case must depend upon the actual conditions
existing in that particular case." However, in 1931 the Internal
Revenue Service published a schedule of suggested useful lives
- 18 unacceptable levels of controversy concerning depreciation
deductions. As a result, the IRS announced a new policy in 1953
under which it would not disturb depreciation deductions, except
where there was a "clear and convincing basis for a change." See
Rev. Rul. 90, 1953-1 C.B. 43. However, taxpayers generally
continued their pre-1934 depreciation practices and the IRS
continued to challenge these practices.
Beginning in the late 1950s, Treasury undertook several
major studies of the useful lives of tangible property. In 1962
Treasury issued Rev. Proc. 62-21, 1962-2 C.B. 418, which was
specifically designed to provide taxpayers with a greater degree
of certainty in determining the useful lives of tangible assets.
Rev. Proc. 62-21 provided asset "guideline lives" which were
approximately 30-40 percent shorter than the useful lives
suggested in Bulletin F. Under the revenue procedure, if the
useful life used by a taxpayer was equal to or longer than the
prescribed guideline life, the taxpayer's depreciation deductions
would not be disturbed, provided the taxpayer also satisfied a
"reserve ratio test. "17 Taxpayers were not required to elect the
guideline useful lives.
Rev. Proc. 62-21 initiated a fundamental change in the
determination of useful lives for tangible property by abandoning
the historic asset-by-asset useful life determination in favor of
industry-wide useful life standards. Homogeneous assets were
aggregated into "classes" with a single guideline useful life for
each class. 18 The revenue procedure replaced the thousands of
useful lives suggested in Bulletin F with 75 asset guideline
lives.
The reserve ratio test promulgated under Rev. Proc. 62-21
ultimately proved unsatisfactory and controversy concerning
useful lives continued. Accordingly, on June 22, 1971, Treasury
adopted the Asset Depreciation Range (ADR) system. ADR, inter
alia, sanctioned depreciation allowances within a 20-percent
entitled "Depreciation Studies -- Preliminary Report of the
Bureau of Internal Revenue."
17
The reserve ratio test was designed as a mechanical procedure
to test whether the taxpayer's actual period of use conformed
with the guideline life.
18
For example, all machinery and equipment used in agriculture
was grouped in a single class for which a 10 year guideline
useful life was established. Some of the assets within a
particular class would obviously have longer, or shorter, useful
lives than the guideline useful life; however, the industry
experience should produce a "reasonable" allowance for the group
of assets.
- 19 range of tolerance above, and below, the guidelines prescribed in
Rev. Proc. 62-21. 19 By abandoning the reserve ratio test, the
ADR system completed the transition from historic individualized
useful life determinations to industry-based useful life
determinations. ADR also operated as an elective procedure. For
assets that were not covered, and for taxpayers who did not elect
ADR, useful lives were determined according to the facts and
circumstances pertaining to each asset.
During 1981, Congress undertook a.comprehensive reform of
the depreciation system. ADR was replaced with a statutory
depreciation scheme, the Accelerated Cost Recovery System (ACRS).
ACRS, embodied in section 168 of the Code, prescribed mandatory'
depreciation rates for broad classes of tangible assets, thereby
de-emphasizing the concept of useful lives and depreciation
methods. ACRS was designed to both stimulate investment and
simplify depreciation practices. The depreciation categories and
procedures have been revised since 1981, but the statutory
framework of prescribed depreciation methods and useful lives has
continued.
controversy and Litigation with Respect to Intangible Property
Application of the language of section 167 of the Code, and
the regulations thereunder, to intangible property has been a
constant source of controversy between taxpayers and the IRS.
Taxpayers attempt to (1) value identifiable intangible property
and (2) establish a useful life for the property. The IRS often
takes the position that the intangible property is inseparable
from goodwill and going concern value or that the property has an
indeterminate useful life. If the IRS prevails on either of
these assertions, depreciation of the property is forbidden under
Treasury Regulation section 1.167(a)-3. On other occasions the
IRS accepts the existence and useful life of the intangible
property but questions the value assigned to the property.
Resolution of these differences has frequently fallen to the
courts.
These issues are frequently litigated, with courts reaching
widely divergent and often contradictory conclusions from very
similar sets of facts. Comparison of the following cases will
suggest the uncertain state of the law in this area:
Compare Newark Morning Ledger Co. v. United States,
No. 90-5637 (3rd Cir. 1991), rev'g 734 F.Supp. 176
(D. N.J. 1990) (newspaper subscription list inseparable
19
As with most depreciation changes, the ADR system was
recognized as having significant effects on capital investment as
well as administrative complexities.
- 20 from goodwill) with Houston Chronicle Publishing Co.
v. united states, 481 F.2d 1240 (5th Cir. 1973), cert.
denied, 414 U.S. 1129 (1974) (newspaper subscription
list amortizable).
Compare Decker v. Commissioner, 54 T.C.M. 338 (1987),
aff'd 864 F.2d 51 (7th Cir. 1988) (insurance
expirations nonamortizable) with Richard S. Miller &
Sons. Inc. v. United States, 537 F.2d 446
(ct. Cl. 1976) (insurance expirations amortizable).
Compare AmSouth Bancorporation & Subsidiaries v. United
States, 681 F.Supp. 698 (N.D. Ala. 1988) (core deposits
inseparable from goodwill) with citizens and Southern
Corporation and Subsidiaries v. Commissioner,
91 .C. 463 (1988), aff'd 900 F.2d 266 (11th Cir. 1990)
(core deposits amortizable).
Compare Westinghouse Broadcasting Corp. v.
Commissioner, 36 T.C. 912 (1961), aff'd 309 F.2d 279
(3rd Cir. 1962), and Indiana Broadcasting Corporation
v. Commissioner, 350 F.2d 580 (7th Cir. 1965), rev'g
41 T.C. 793 (1964) (network affiliation contract
nonamortizable) with Miami Valley Broadcasting
Corporation v. United States, 499 F.2d 677
(Ct. Cl. 1974) (network affiliation contract
amortizable).
TREASURYCTNEWS
Department of the Treasury • washln.tOn~'·~D.C. '.'·Te.ephone 5&&-2041
FOR RELEASE AT 2:30 P.M.
October 2, 1991
CONTACT:
Office of Financing
202/219-3350
TREASURY TO AUCTION $9,250 MILLION OF 7-YEAR NOTES
The Department of the Treasury will auction $9,250 million
of 7-year notes to refund $5,398 million of 7-year notes maturing
October 15, 1991, and to raise about $3,850 million of new cash.
The public holds $5,398 million of the maturing 7-year notes,
including $376 million currently held by Pederal Reserve Banks
as agents for foreign and international monetary authorities.
The $9,250 million is being offered to the public, and
any amounts tendered by Federal Reserve Banks as agents for
foreign and international monetary authorities will be added
to that amount. Tenders for such accounts will be accepted at
the average price of accepted competitive tenders.
In addition to the public holdings, Federal Reserve Banks
for their own accounts hold $347 million of the maturing securities that may be refunded by issuing additional amounts of the
new notes at the average pri·ce of accepted competi ti ve tenders.
Details about the new security are given in the attached
highlights of the offering and in the official offering circular.
000
Attachment
NB-1485
HIGHLIGHTS OF TREASURY
OFFERING TO THE PUBLIC
OF 7-YEAR NOTES
TO BE ISSUED OCTOBER 15, 1991
October 2, 1991
Amount Offered:
To the public . . . . . . . . . . . . . . . . . . . $9,250 million
Description of Security:
Term and type of security ...... . 7-year notes
Series and CUSIP designation ... . H-1998
(CUSIP No. 912827 C6 7)
October 15, 1998
Maturity date
To be determined based on
Interest rate
the average of accepted bids
Investment yield ......•......... To be determined at auction
Premium or discount .....•....... To be determined after auction
Interest payment dates ...•...... April 15 and October 15
Minimum denomination available .. $1,000
Terms of Sale:
Method of sale . . . . . . . . . . . . . . . . . . Yield auction
Competitive tenders . . . . . . . . . . . . . Must be expressed as an
annual yield, with two
decimals, e.g., 7.10%
Noncompetitive tenders
Accepted in full at the average price up to $1,000,000
Accrued interest
payable by investor
.
None
.. .. . .... . ..
Payment Terms:
Payment by noninstitutional investor~
Deposit guarantee by
designated institutions
Full payment to be
submitted with tender
Acceptable
Key Dates:
Receipt of tenders ............. . Wednesday, October 9, 1991
a) noncompetitive ............ . prior to 12:00 noon, EDST
b) competitive . . . . . . . . . . . . . . . . prior to 1:00 p.m., EDST
Settlement (final payment
due from institutions):
a) funds immediately
available to the Treasury
Tuesday, October 15, 1991
b) readily-collectible check
Thursday, October 10, 1991
For Release Upon Deliver~
Expected at 10:00 a.m.
October 3, 1991
STATEl'tENT OF
PHILIP D. MORRISON
INTERNATIONAL TAX COUNSEL
DEPARTMENT OF THE TREASURY
BEFORE THE
COMMITTEE ON WAYS AND MEANS
UNITED STATES HOUSE OF REPRESENTATIVES
Mr. Chairman and Members of the Committee:
I am pleased to present the views of the Administration on
H.R. 2889, introduced by Representatives Dorgan and Obey, and on
a proposal to allow U.S.-controlled foreign corporations to elect
to be taxed as domestic corporations.
Background
The income of foreign corporations controlled by U.S.
shareholders generally is not subject to u.S. tax when earned;
instead, U. S. tax is deferred until the income is ·:epatriated.
subpart F of the Internal Revenue Code (Code) eliminates
deferral, however, for certain types of income that are passive
or particularly mobile, taxing the u.S. shareholder on his pro
rata share of such income as it is earned by the controlled
foreign corporation, rat~er than when it is later distributed to
the shareholder.
Traditionally, sUbpart F has eliminated deferral only on
income that is passive or particularly mobile, because such
income presents obvious opportunities for tax avoidance and taxmotivated behavior. This was subpart F's relatively limited goal
upon enactment in 1962 and has remained its goal through nearly
three decades of amendments. In contrast, income earned by a
U.S.-controlled foreign corporation from less mobile, active
business activities such as manufacturing is excluded from
subpart F and is subject to U.S. tax only when the profits are
repatriated to the united States. Subpart F presumes that bricks
and mortar will not ordinarily be moved for tax reasons. alone.
In some·circumstances, active business income may be diverted via
a conduit company, from the locus of economic activity from which
it arises to a low-tax jurisdiction. The "base company" rules
for sales and services income under subpart F were enacted in
part to prevent this abuse.
NB-1486
2
In evaluating subpart F, and any proposals to amend it,
administrability is an important factor. We are dealing with
foreign corporations engaged in international trade, often with
unrelated persons in jurisdictions from which we can obtain
little information. We must assure ourselves that both the
taxpayer and the Internal Revenue Service (IRS) can identify and
compute the tainted subpart F income with reasonable clarity.
Subpart F must also be viewed in conjunction with the
foreign tax credit, since the elimination of deferral will
sometimes have no U.S. tax impact. This occurs, generally,
whenever the income being taxed under subpart F has already borne
creditable foreign tax equal to or in excess of the U.S. rate.
Because that income has borne as much foreign tax in its country
of source as we would impose, the foreign tax credit ensures that
we do not tax it again. Eliminating deferral also may have no
impact on U.S. tax liability, however, even when the foreign tax
on a particular item of income is low, if there are similar items
of foreign income that are high-taxed. This is because of the
mechanics of our limitation on the foreign tax credit.
The foreign tax credit is generally limited to prevent a
credit against U.S. tax for foreign taxes that exceed the U.S.
rate. To prevent excessive averaging of high and low foreign
taxes, the foreign tax credit limitation is applied separately to
various categories or "baskets" of income so that income that is
ordinarily subject to high foreign taxes or that is not easily
moved is separated from income that is ordinarily ~ubject to low
or no foreign tax (or income that might easily be moved to
jurisdictions with low or no tax on such income). When there are
more high taxes in one basket than low taxes, the result is
excess foreign tax credits. Excess foreign tax credits can be
carried forward only five years and, if still unused, then
expire. If, however, there is low-taxed income in the same
basket as high-taxed income, those foreign taxes can be averaged
and may, in many cases, eliminate any residual U.S. tax on all
the income in that basket.
Because of excess foreign tax credits in the residual or
active income basket, some U.S. corporations are essentially
indifferent to deferral. In fact, if these companies could elect
to have their controlled foreign subsidiaries taxed currently as
domestic corporations, we speculate that many would, in order to
avoid an extra allocation of interest expense to foreign income
(and a corresponding reduction in allowable foreign tax credits)
that may occur because of the inability to consolidate foreign
subsidiaries with the U.S. group for interest allocation
purposes.
3
H.R. 2889
H.R. 2889 would expand subpart F by eliminating d~ferral on
a new class of income of controlled foreign corporations called
"imported property income." The bill defines "imported property
income" broadly to include profits, commissions, fees, and any
other form of income from property imported into the united
states, whether derived in connection with its manufacture,
production, growth, or extraction; sale, exchange, or other
disposition; or lease, rental, or licensing. "Imported property"
includes not only property imported into the United states by the
controlled foreign corporation or a related person, but also
property sold to an unrelated person, if it was reasonable to
expect that the unrelated person would import the property, or a
product which incorporates the property as a component, into the
united states. Exceptions are provided for foreign oil and gas
extraction income, foreign oil related income, and income from
subsequently exported property.
In addition to the new subpart F income category, H.R. 2889
would create a new, separate foreign tax credit limitation basket
for imported property income.
Because of a combination of factors, the Administration
opposes H.R. 2889. First, we believe it will be exceedingly hard
to administer and enforce and will add to the already
considerable complexity of the taxation of U.s. multinationals.
Second, we believe that the bill represents a significant
departure from the traditional subpart F focus. Third, because
of excess foreign tax credits and the opportunities for averaging
of high and low foreign taxes within a basket, we think the bill
could, in many cases, have little or no impact, even where a
manufacturing plant is located in an offshore tax haven solely
for tax purposes.
Our administrability, enforceability and complexity concerns
are the most serious. The threshold fact that must be proved for
the bill to apply -- that property produced by a controlled
foreign corporation was destined for import into the united
states -- would often be very difficult to determine. In the
simplest case, where a finished product is shipped directly from
a U.S.-controlled foreign corporation to the United states for
consumption here, destination determination is straightforward.
The bill itself, however, recognizes that simply addressing the
direct import case is not enough since the simple case could be
easily avoided. As a result, the bill requires tracing products
through related and unrelated party sales (in the latter case
under a-"reasonable expectations" test), as well as tracing of
components into the products in which they are embedded.
These
aspects of the bill's destination test are complex and would be
unadministrable.
4
There are some destination-based rUles already in the Code,
such as the base company sales income rules under subpart F.
Under these rules, a company earns subpart F foreign base company
sales income when it re-sells property for use, consumption, or
disposition in a country other than the same country in which it
is incorporated. These rules generally do not present the
significant enforcement problems that we foresee under H.R. 2889,
however, because they address a narrower set of facts than the
bill, i.e., either the buying or the reselling of the property
must involve a related party. For this reason it is relatively
easy for a foreign subsidiary to know whether it need be
concerned about the base company rules. This in turn justifies
the approach in the base company sales regulations which
establish broad presumptions that the taxpayer must rebut. That
is, all subsidiaries engaged in such purchases or re-sales are
presumed to earn subpart F income unless the taxpayer can
establish that the income is not subpart F income because of its
source or destination. Thus, it is the taxpayer under these
rules who has the incentive to know the destination of the
property it sells.
It may not be feasible to adopt a comparable approach under
H.R. 2889, i.e., to assume that all sales by foreign subsidiaries
generate imported property income unless the taxpayer establishes
the opposite. A presumption that property sold to an unrelated
foreign person is destined for the country to which it is shipped
would undercut the bill's rule, discussed below, that property is
imported if it was "reasonable to expect" that it would be
imported (or incorporated into a product that woul~ be imported)
by the unrelated buyer. A presumption that property sold to a
related person was necessarily destined to be imported into the
united states would be overbroad, given the common practice of
locating production facilities overseas precisely to serve
overseas, rather than U.S., markets.
As mentioned, the bill would tax the sale of property to an
unrelated person if "it was reasonable to expect" that the
property would be imported, presumably either by the unrelated
buyer or anyone in its chain of distribution, whether related to
the buyer or not. The IRS would thus be required to trace
indirect sales through what may be a long chain of unrelated
parties, some of whom may transform the property sold by the U.S.
controlled foreign corporation or otherwise incorporate it into
another product. In addition, the IRS would have to demonstrate
whether the U.S.-controlled foreign corporation should reasonably
have expected at the time of the initial sale that the property
would ultimately be imported into the united states.
The first task could prove insurmountable without the
cooperation of all of the parties. such cooperation from
unrelated foreign customers with no financial or legal interest
in cooperating, however, may be unlikely. The IRS may also have
5
to trace sales through multiple unrelated foreign parties in
several countries, including countries with which we have no tax
treaty relationship and from which we cannot readily obtain
information. The likelihood of obtaining accurate information
and of being able to perform an audit in such a case is very low.
If the transactions involve fungible property, such as minerals,
agricultural products, or other commodities, the IRS would have
no practical way to tell what was imported indirectly by a U.S.controlled foreign corporation and what was not. Further, where
property produced by a U.S-controlled foreign corporation is
substantially transformed by its purchaser, as, for example, when
bauxite mined by the controlled foreign corporation is used to
make aluminum which is then imported into the United states, it
is unclear whether the property that was transformed (the
bauxite) should be considered imported property or not.
The second task, determining whether "it was reasonable to
expect" that the property would be imported, would also be
difficult. If reasonable expectations require an inquiry into
intent, the inability to prove .or disprove a state of mind at a
point in the past will likely stymie effective enforcement. Even
if reasonable expectations can be established by objective facts
existing at the time of sale without an inquiry into intent,
however, the task will not be easy. The investigation would
require not only an examination of the documentary and other
evidence actually in the U.S.-controlled foreign corporation's
possession but also a determination of whether it was reasonable
for the controlled foreign corporation not to have made further
inquiry. Is it reasonable, for example, for a U.S.-controlled
foreign corporation to rely on a buyer's statement that it has no
present intention to import the property into the united States,
or must the U.S.-controlled foreign corporation exercise some
form of due diligence to look behind the statement? Must it go
even further and insist on a warranty to enforce the statement?
From the perspective of the U.S.-controlled foreign
corporation, the broad application of H.R. 2889 could also make a
good faith attempt to comply very difficult. For example, the
bill would require a U.S.-controll~d foreign corporation selling
personal computers to an unrelated Hong Kong company to predict
whether the Hong Kong company would subsequently import the
computers into the united States or sell the computers to a third
party that would import them. Even if the U.S.-controlled
foreign corporation had no indication of such intent, its income
from the initial sale would become subject to current U.S. tax if
it turns out that the computers actually were imported into the
united states and it is found that the controlled foreign
corporation should have anticipated that outcome.
The enforcement and compliance problems posed by H.R. 2889
are further complicated by the fact that the bill applies not
only to finished products, but also to components that may be
6
incorporated into other products prior to importation. We
recognize that, if the bill is to be effective, it cannot simply
exempt component parts. On the other hand, the administrative
and compliance burden could be overwhelming if components must be
traced in every case, even where the imported product contains
relatively few components manufactured by a U.S.-controlled
foreign corporation.
It would be difficult, for example, to trace a component,
such as a semiconductor chip, once it has been incorporated into
a product, such as a personal computer. Such tracing might be
impossible if the component is produced in accordance with the
purchaser's specifications, as is often the case, and is
therefore indistinguishable from components manufactured by other
suppliers. As another example, where recycled paper and virgin
paper from different sources are both used to produce cardboard
boxes that are shipped both to the united States and abroad, the
commingling of raw material inputs can make it impossible to
distinguish which boxes contain which paper.
This problem is compounded because an unrelated foreign
purchaser of components from a U.S.-controlled foreign
corporation would have no incentive, financial or otherwise, to
provide the information necessary to determine whether or not the
components will be incorporated into products for the U.S.
market. Indeed, the incentive is likely the opposite -- not to
provide such information -- since it may be proprietary or of a
competitively sensitive nature or quite costly to obtain. For
example, a U.S.-controlled foreign corporation man 11facturing
television components may be aware that an unrelated foreign
purchaser of such components is selling some of its output of
televisions to the U.S. market. The purchaser, however, may well
be unwilling to put in place the expensive inventory tracking
mechanisms necessary to trace the components, solely for its
supplier's benefit. Nor would such a purchaser divulge such
information to a supplier if it were likely to give that supplier
an advantage over other suppliers. If a U.S.-controlled foreign
corporation component manufacturer insists on information from
its foreign customers regarding the finished product into which
the component is incorporated and its destination, the foreign
customer might simply choose other, non-U.S. controlled sources
of supply rather than disclosing sensitive, competitive
information.
The administrative problems of H.R. 2889 are further
complicated by the exception the bill provides for property
imported into the U.S. but subsequently exported. It is common
for U.S. manufacturers in certain industries to produce
components overseas for use in U.S.-manufactured or u.s.assembled products that are then sold both in U.S. and foreign
markets. In some cases, this may be the only way for a U.S.
manufacturer to avoid relying on a foreign-owned parts supplier.
7
Under the bill, however, if a U.S.-controlled foreign corporation
is used, the U.S. manufacturer will be taxed on the controlled
foreign corporation's income unless it can trace the parts
through the finished product and show that the finished product
is exported.
Even if U.S.-controlled foreign corporations can surmount
these compliance problems and determine whether and to what
extent their gross income is derived from "imported property,"
H.R. 2889 would result in onerous new accounting and reporting
requirements. For example, to compute the amount of "imported
property income," both for subpart F and for foreign tax credit
purposes, the corporations would have to determine their expenses
deductible against that income. This would place additional
pressure on the already complex and controversial expense
apportionment provisions of the Code and the regulations. Where
the imported property income arises as the result of the
unanticipated subsequent actions of an unrelated party, the U.S.controlled foreign corporations may not have maintained books and
records to support an allocation of expenses.
Compliance and enforcement problems are not the sole reason
for opposing this bill. As noted above, subpart F generally does
not tax non-mobile, active income such as most income from
manufacturing. Since H.R. 2889 would impose current U.S. tax on
a category of non-mobile, active business income, it departs in
an important way from the traditional rationale for subpart F.
Foreign production of goods for the U.S. mark~t may, in many
cases, be primarily attributable to factors such as the proximity
of raw materials and other natural resources, or to comparative
economic advantages such as lower labor costs or a more favorable
climate. In comparison, the data suggest that taxes often
represent a relatively small part of total costs, particularly
where the savings are not likely to be inflated artificially by
non-arm's length transfer pricing.
Further, the goods produced by a U.S.-owned company abroad
may not necessarily replace those that it would produce if it
were operating in the United States. The most obvious example is
that of agricultural products, such as bananas, or minerals that
cannot be grown or extracted in adequate quantities in the United
states because of climate or insufficient deposits. The bill
appears to recognize the importance of some geographical
limitations, since it provides an exception for foreign oil and
gas extraction income and foreign oil related income, but it
ignores other geographic factors. The bill may, therefore, serve
to increase taxes for U.S.-controlled foreign agricultural
companies or non-oil mineral companies that have no choice but to
produce or extract abroad.
8
Finally, we have serious reservations about whether the bill
would accomplish its intended purposes in certain circumstances.
Commerce Department data indicate that a relatively small share -approximately 15 percent -- of total imports come from u.s.
affiliates located in low-tax countries. Most imports from
affiliates are from Canada, Japan and Europe. If the same u.s.
multinational company that imports from its manufacturing plant
in a low-tax country also imports from an affiliate in relatively
high-tax Canada or Germany, the excess foreign tax credits from
the Canadian or German imports would be averaged with those from
the low-taxed country imports, since both would be in the new
"imported property income" basket. Those credits would thus
shield the low-taxed country income from residual u.s. tax under
an amended subpart F. This could, of course, essentially
eliminate the impact of the bill for such companies.
u.s. Election for Controlled Foreign corporations
The Committee has also requested our views on allowing u.s.
shareholders to elect to treat their controlled foreign
corporations as u.s. corporations for tax purposes. The
Administration opposes this proposal because it would entail a
substantial revenue loss. Preliminary estimates are that the
provision would lose about $1.5 billion over the five-year budget
window, even with safeguards.
Obviously, taxpayers would make such an election only if it
reduced their u.s. tax liability. A reduction in TJ.S. taxes
could occur for a significant number of u.s. multinationals
through the greater use of foreign tax credits obtained via the
election. Specifically, the election would permit a u.s.
multinational to treat its controlled foreign corporations as
members of its u.s. affiliated group for purposes of allocating
interest expense betw~en domestic and foreign source income. The
effect for many u.s. mUltinationals would be a smaller allocation
of interest expense to foreign source income. The resulting
increase in foreign source income would permit the multinational
to utilize more foreign tax credits. While the existing interest
allocation rules are often criticized on policy grounds for
allocating too much interest expense to foreign source income,
and the elimination of deferral via the U.S. election would
remove a policy objection to allocating interest on a worldwide
group basis, elective relief from these rules would be very
costly.
If such a provision were to be considered by Congress,
certain-safeguards could be desirable to help to minimize revenue
loss and to prevent abuse. These include a consistency rule
requiring that a U.S. shareholder make the election with respect
to all affiliated controlled foreign corporations of which it is
a u.s. shareholder, and not merely those that generate net
9
operating losses or bear high foreign taxes.
In addition, each
controlled foreign corporation to which an election applied could
be treated as transferring all of its assets to a domestic
corporation at the time of the election, and the "toll charge"
now imposed on inbound reorganizations could apply.
Finally,
restrictions could be imposed on revocation of the election.
FOR IMMEDIATE RELEASE
October 3, 1991
CONTACT:
Barbara Clay
202-566-5252
STATEMENT BY TREASURY SECRETARY NICHOLAS BRADY
As we approach the G-7 meeting in Bangkok, I welcome the report
that twelve republics have initialed an "economic commonwealth"
agreement. This agreement, if fully supported by all major
republics, will serve as a valuable step forward for discussions
with the soviets in Bangkok.
000
N8.,..1487
TEXT PREPARED FOR DELIVERY
REMARKS BY
NICHOLAS F. BRADY
SECRETARY OF THE TREASURY
TO THE
BUSINESSWEEK SYMPOSIUM OF CHIEF EXECUTIVE OFFICERS
OCTOBER 4, 1991
Thank you, Jack.
As you know, one of the President's top priorities this year
is to reform the out-of-date laws governing our financial
services industry. In preparing for this speech, I· looked back
at some of.the speeches I gave in the spring of this year, when
we first introduced the President's financial services reform
proposal. At that time, everyone was predicting the proposal was
doomed to failure. During the intervening months, we've worked
hard, along with a number of Members of Congress, to keep this
comprehensive proposal on track.
Despite tremendous controversy and several obituaries, we've
achieved a gre'at deal of progress. In the face of all the
predictions that our bill was dead on arrival, let's look at
what's been accomplished. The banking committees in both the
House and Senate have adopted provisions calling for prompt
regulatory action, limits on risky activities, limitations on
insurance coverage for brokered deposits, and interstate
branching. Reports of bank reform's death were greatly
exaggerated.
Following the August Congressional recess, supporters of a
comprehensive bill approached the fall session with the very real
possibility of achieving meaningful reform. But then Congress
reconvened, additional Congressional committees took up the bill,
adding new restrictions, and for a brief moment, I recalled a
very meaningful quote: "There are moments when everything goes
well; don't be frightened, it won't last."
Let me say again, we firmly believe that fair and
competitive comprehensive reform is possible, but we are now at a
very familiar crossroads on banking reform legislation. The
debate has started to stray from larger principles to industryspecific concerns on the bill. Lobbyists for various financial
service industries are jockeying for special piec~s of the pie,
NB-1488
2
just as they have every other time the Congress has tried to deal
with comprehensive banking reform. All the historical arguments
that banking reform is just internecine warfare -- one faction of
the financial services industry protecting it's turf against
another faction -- seem to again be coming true.
But this time, the situation is different. The stakes are
higher, and the issue is just too important to allow competing
interests to self-destruct and thereby destroy the process.
The stakes are higher because the banking industry has some
serious problems, and we must recapitalize the Bank Insurance
Fund this year. Therefore, it is mandatory that we have some
kind of banking legislation this year. The big question which
has always lingered is whether it will be a "band-aid" approach,
or true reform.
You don't need me to tell you that the banking industry is
troubled. You have been reading about it in the newspapers for
months. Bank failures are at an all-time high, and the Bank
Insurance Fund CBIF) is at a low level. But the important point
is that these are not just bank statistics -- they are business,
consumer, and taxpayer concerns. The good news is that through
true reform, we can do something about it. The bad news is there
are those in Congress who don't want to.
It's obvious -- consumers should be allowed a broader choice
of financial products when they go to the bank. Businesses and
workers need strong, well-capitalized banks that can keep lending
in economic downturns. The nation needs a banking system that is
strong enough to compete toe-to-toe with the best our
international rivals have to offer. And most of all, the
taxpayer needs to be spared the prospect of another costly and
unnecessary cleanup.
The credit crunch is just one symptom of the problems facing
the banking industry. I don't want to oversimplify. There are
numerous causes of the credit crunch. Clearly, the recession is
a major cause, along with overbuilding in the commercial real
estate industry, and reported overkill on the part of bank
examiners. But the underlying cause is more fundamental.
Our financial institutions were weak heading into the
recession. The result is that banks are not performing their
function as "shock absorbers", lending to businesses and
individuals to help pull them through the tough times. Instead
of making loans, banks are pulling back and improving their
balance sheets, running to quality. And that's not just a
problem for the banks -- that's a problem for business and
consumers.
3
The needs of businesses and consumers have outgrown and
outpaced our financial service institutions and the laws which
govern them. The marketplace has already found innovations which
bypass out-of-date laws and have left the traditional banking
system out in the cold. If we don't face today's reality,
tomorrow's reality will be a second-class financial system.
It reminds me of Louis XV of France. As the citizens began
to advance on the French aristocracy, the King turned to an aide
and asked, "Is this a revolt?" His aide replied, "No Sir, it is
a revolution." We are facing a technological revolution. In a
world where plastic money cards are replacing checks, and even
cash, it is time for our laws to catch up with reality.
Consumers long ago began to ignore the artificial
restrictions on banking practices, using credit cards, cash
machines, and the 800 number to handle their financial affairs
when and where they want. Customers have increasingly turned
away from the banks, and now get auto loans from GMAC and Ford
Motor credit, checking servicesfromVanquard and Fidelity mutual
funds, business; loans through General-El.ectl:-ic Credit Corporation
and Goldman Sachs, and they save at Merrill Lynch and Sears
Roebuck.
-
President Bush has proposed the first true change in the
banking industry and securities markets in over 50 years.
First, make deposit insurance safe for u.S. taxpayers
and depositors by increasing market discipline,
promptly addressing weak banks, and strengthening
supervision. We will confront problems at banks before
they become problems for the Bank Insurance Fund, or,
potentially the taxpayer.
Second, modernize archaic laws, which artificially
restrict competition among financial services
companies. Allowing banks to branch across state lines
will lead to greater efficiency, and enormous benefits
will result for consumers and communities. And
permitting well-capitalized banks to affiliate with
securities and insurance firms will make these
institutions more competitive and better able to serve
customers.
Third, link risk-based premiums to capital levels.
This will reward strong banks -- particularly smaller
banks -- and encourage weak banks to raise additional
capital, making them safer and healthier.
4
Fourth, end the restriction on commercial ownership of
banks to make more private capital available to the
industry. We should open the door to capital for banks
-- and certainly for failing institutions, where the
alternative could be taxpayers' money. Let me give you
a statistic -- 33 commercial firms have bought thrifts
and pumped over $3 billion of capital into those
thrifts, making stronger institutions.
The bipartisan plan for reforming the banking system is
simple and straightforward. It is based on the time-proven
philosophy of free and open competition. We believe that
competition will lead to a stronger and more profitable financial
services industry. Opponents of banking reform should not be
allowed to protect markets for the benefit of entrenched
interests.
Banking reform is alive in the Congress. The reform
proposal is on the table. But, as we head into the final days of
the Congressional session, turf battles between congressional
committees inevitably lie ahead. Similar turf battles in past
debates have traditionally led to Congressional paralysis -- or
worse, legislation aimed at protecting special interests. But,
this time, we must put the American people ahead of turf.
The special interest arguments are also the same as in
previous years. Opponents of true reform will tell you it is
deregulation allover again. It is not. Our reform proposal
rejects artific"ial restrictions in the name of protection. It
brings 1930's banking laws into the 21st century, while providing
strong new supervisory standards that will make banks both safer
and stronger.
I am shocked that opponents of true reform want more of what
weakened our financial system in the first place. We don't need
re-regulation and special interest protection. And we certainly
don't need more rules that distort markets and artificially
restrict competition.
We knew we would eventually reach this point in the debate,
but there are strong advocates of reform on both sides of the
aisle -- Democrats and Republicans. We will continue to work
together with them, but Congress has to act, and it has to act
now.
5
There will be a banking bill this year. Congress must act
to recapitalize the Bank Insurance Fund, and they know they must
act this year. If we do it right this time -- if we recapitalize
the Bank Insurance Fund with industry money, if we adopt changes
to make banks safer, stronger and healthier -- we will have faced
the challenge before us.
But if the foes of reform run to a narrow banking bill, a
bill which does not address the issues of the day, then we face
the real possibility of having to approve another
recapitalization bill down the road -- perhaps the next time with
taxpayer funds. And that means those who oppose competitive
reform this year may have to answer to the taxpayers the next
time for refusing to act when they had the chance.
The reform coalition is not discouraged. We are right, we
have the time to act this year, and we have the makings of
historic banking reform legislation. We can create a modern
financial system that is internationally competitive, that will
protect depositors, save taxpayers money, serve consumers and
s:trengthen the ·-economy . The strength, if not the future, of our
banking system depends on whether we can stand on principle. By
facing up to the marketplace of today, we can help to ensure
financial security for the future.
###
UHLIC DEBT NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
FOR RELEASE AT 3:00 PM
October 4, 1991
Contact: Peter Hollenbach
(202) 219-3302
PUBLIC DEBT ANNOUNCES ACTMTY FOR
SECURITIES IN THE STRIPS PROGRAM FOR SEPTEMBER 1991
Treasury's Bureau of the Public Debt announced activity figures for the month of September 1991,
of securities within the Separate Trading of Registered Interest and Principal of Securities
program, (STRIPS).
Dollar Amounts in Thousands
Principal Outstanding
(Eligible Securities)
$544,825,443
Held in Unstripped Form
$414,228,648
Held in Stripped Form
$130,596,795
Reconstituted in September
$4,701,960
The accompanying table gives a breakdown of STRIPS activity by individual loan description.
The balances in this table are subject to audit and subsequent revision. These monthly figures are
included in Table VI of the Monthly Statement of the Public Debt, entitled "Holdings of Treasury
Securities in Stripped Form." These can also be obtained through a recorded message on
(202) 447-9873.
000
PA-71
T ABLE VI-HOLDINGS OF TREASURY SECURITIES IN ~ I HI ...... ~U ~U"M
(In thousands)
PnnClpal Amount OUlstandlng
Loan DescnptlOn
Matunty Date
11·5/8% Note C-1994
11115194
$6.658.554
, '·1/4% Note A·1995
2115195
6.933.861
11·114% NOle 8·1995
5/15195
7.127.086
I ~ 112% Note C- I 995
811 5195
7.955.901
11115/95
7.318.550
~112%
Note 0-1995
I
StrlppeCI Form
55.428.154
I
51.230.400
6.438.341
'
495.520
- O·
5.866.126
I
1.260.960
$216.960
- C·
7.272.301
683.600
- C·
6.243.750
1.074.800
- O·
8.349.599
225.800
-D·
I
19.821.643
264.000
-0
20.258.810
19.948.410
310.400
-0-
9.820.037
101.200
-0-
.2115196
8.575.199
7·318% Nole C-1996
.5115196
20.085.643
11115196
I
Reconstituted
nils Montll'
,
6-7/8% Note '-1996
7·1/4% Note 0-1996
PonlOll HelO In
PonIOll Held In
UnltnPQed Form
Total
6-112% Note A·1997
5115/97
9.921.237
6-518% Note 8-1997
.8115197
9.362.836
9.330.836
32.000
-0·
6-718% Note C·I997
.11115197
9.808.329
9.747.529
60.800
-0·
&- I 18% Note ...·1998
2115198
9.159.068
9.149.788
9.280
-0-
9% Note 8-1998
5115198
9.165.387
9.128.387
37.000
-D·
~II4%
8115198
11.342.646
11.213.846
128.800
-0·
9.902.875
9.605.275
297.600
-D·
NOle C-1998
6-718% Note 0-1998
.. . 11115198
6-718% Note A·1999
.2115199
9.719.623
9.602.823
116.800
-0-
Note 8- I 999
5/15199
10.047.103
9.176.703
870.400
-o·
~ I 18%
8% Note C·I999
8/15199
10.163.644
10.081.619
82.025
- J.
7·7/8% Note 0-1999
11115199
10.m.960
10.765.960
8.000
-D·
&-112% Note A·2OOO
2115100
10.673.033
10.673.033
-0-
-D·
&-7/8% Note 8-2000
· .5115100
10.496.230
10.373.030
123.200
-D·
&-314% Note C·2000
8115/00
11.080.646
11.080.646
-0-
-o·
&-112% Note 0-2000
11115100 .
11.519.682
11.519.682
-0-
- O·
7·314% Note A.2OO1
2/15/01
11.312.802
11.308.802
4.000
- 0-
· .5115/01
12.398.083
12.398.083
-0-
- O·
8115101
12.339.185
12.337.585
1.600
-0-
8% Note 8-2001
7·7/8% Note C·2001
I
11·518% Bond 2004
11115104 .
8.301.806
4.437.806
3.864.000
540.800
12% Bonet 2005 .
5115/0S
4.260.758
1.818.108
2.442.650
215.800
.8II51OS
9.269.713
8.385.713
884.000
20.000
.2/1S/06
4.755.916
4.755.916
-0-
-0·
6.005.584
1.576.784
4.428.800
222.400
1~314%
~318%
Bond 2005
Bond 2006
"·314% Bonet 2009-14
11115114
"·114% Bond 2015
.2115115
12.867.799
2.156.599
10-518% Bond 2015
· .8115115
7.149.916
1.679.516
6.899.859
2.215.059
'
10.511.200
13.280
5.470.400
110.400
4.684.800
236.800
~7/8%
Bond 2015
11115115
~1I4%
Bond 2016
2115116
7.266.854
6.515.654
751.200
32.000
7·114% Bond 2016
5115116
18.823.551
17.089.151
1.734.400
100.000
7·112% Bond 2016
11115/16
18.864.~
15.940.288
2.924.160
435.360
6-314% Bond 2017
5115117
18.194.169
6.179.129
12.015.040
310.880
&-7/8% Bond 2017
8115117
14.016.858
9.455.258
4.561.600
225.600
9-118% Bond 2018
.5115118
8.708.639
2.302.239
6.406.400
56.000
9.032.870
1.200.070
7.832.800
80.000
9% Bond 2018
11115118
&-718% Bond 2019
2115119
19.250.798
5.026.798
14.224.000
321.600
8-118% Bond 2019
8115119
20.213.832
10.975.752
9.238.080
193.600
&-112% Bond 2020
2115120
10.228.868
4.072.068
6.156.800
210000
&-314% Bond 2020
5/15120
10.158.883
2.998.563
7.160.320
478 S60
&-314% Bond 2020
8115120
21.418.606
7.588.686
13.829.920
200.6C!
7·7/8% Bond 2021
2115121
11.113.373
8.620.573
&-118% Bond 2021
5115/21
11.958.888
10.393.~
&-118% Bond 2021
8115121
12.163.482
544.825.443
Total
2.492.800
139.200
1.565.440
342010
12.163.482
-0-
-0·
. ' •. 228.648
130.596.795
4.701.960
I
, Etlec'live May 1 1987. secUrities held In striPped torm _re eligible lor reconstitution to their unstnppeCI torm
No,,· On til' .," workday ot nCII man," a record'ng ot Table VI Will be available alter 3:00 pm. The telephone number IS (202) 447·9873
The Delances ,n ,II,s latlle are sutll8C1 '0 audl\ ana SUbseQuent adluStments.
?AG=:.202
4
'C'
13:25
S~Ud 12:23 p.ti{,
13-]/1
or:ice of the ?ress
for
I~mediate
Secre~ary
Release
Oc~obe::
4,
1991
EX::::Cl;TIV:=: ORDER
1f-j :J.11:~ _
PROHIBITING CERTAIN
T~~SAC7ro~;S
~ITH
R~S?£CT
TO
~~ITI
By the authority ves~ed in ~e as Presiden~ by the
constitution and the laws of the United states of ~~erica,
including the International £~ergency Economic POwers Act
(50 U.S.C. 1701 et~.), the Natio~al 2~ergencies Act
(50 U.S.C. 1601 et seg.), and sectic~ ]01 of title J of the
United S~ates Code,
I, GEORGE BUSH, Preside~t 0: the United S~ates of ~erica,
find that the grave eventstha= have occurred in the Republic of
Haiti to disrupt the legitinate exercise of power by the
democratically elected govern~ent of that ~ountry constitute an
unusual and extrclordinary threat to the n~~:onal security,
foreign policy, and ecc~o~y ef the United :;=ates, and hereby
declare a national e~ergency to deal wi~h -jat threat.
I
hereby order:
S~ction 1.
2XC8pt tQ the extent provised in reg~lations,
direc~ives, or licenses Which Day ~~reafter be issued
purs~ant ~o this order, all ?roperty and i~~erests in ~roperty
0: ~he Gove:::-:1~e:-:-: 0: :-:2.':':i., ':':'5 agej'jcies,
~ ~.5~:-u:7len::alities and
orders,
co;)trolled entities, including ~he 3a:1que ,.;! la Rep~blique
d'Haiti, that are in t~e ~nited States, th~: herea~ter cc=e
within the United S~ates, or that are or h~ ~ea~~er co~e within
the possession or control 0: United Sta~es ;ersc~s, incl~ding
their overseas branches, are hereby blocke~.
Sec. 2.
Except to the extent provid~j in regulations,
orders, directives, or licenses which ~ay ~ereafter be issued
pursuant to this order, any direct or indirect paYDents or
transfers to the de facto regime in Haiti c~ funds, including
currency, cash cr cai;.s 0: c~y ~aticn, 0= c: o~he~ financial O~
invest~ent assets or credits,
by any Unitec States person, or by
a!Jy person organized u:-:ce::- =r.e l.a,,·s ot: naitt'4C,nd owned or
controlled by a United States person, ate ~~ohibited.
All
:'ransfe:::-s o.r pa:7.\ents o\.;ed ·to ':he Government· of Haiti shall be
Dade when due into an accoun': at the Federc.l Reserve Bank of
New York, or as other~ise ~ay be direc:.ed by the Secretary of
the Treasury, to be held for the be~efit 0: the Haitian people.
Sec. J.
For the
?u~pcses
of this order:
The term "de ::'ac'::o .::-e<;i~e i:1 P.aiti" means those
power illegally fro~ the democratically elected
of President Jean-3ertrar.d Aris~ide on Septe~ber 30,
1991, and includes any persons, agencies, :nstr~~entalities, or
entities ouroorting to act en ~ehalf of the de facto regime 0'::under the' as;erted authority thereof, or any extraconstitutional
successor thereto.
(a)
~ho seized
govern~ent
more
(OVER)
2
(b)
The te::-rn "united States person" means any
United States citizen, perrnanent resident alien, juridical
person organized under the la~s of the United States, or any
person in the United states.
Sec. 4.
~he measures taken oursuant to this order are
not intended to block private Haitlan assets subject to the
j~risdiction of the United States, or to prohibit remittance~ by
United states oersons to Eaitian persons ether than the de facto
regime in Haiti.
Sec. 5.
The Secretary of the Treasury, in consultation
with the Secretary of State, is hereby authorized to take such
actions, including the prornulgation of r~les and regUlations,
and to ernploy all powers granted to me by the International
~:nergency Econornic Powers Act, as rnay be necessa~y to carry
out the purposes of this order.
Such actions may include
prohibiting or regulating payments or transfers of any property,
or any transa~tions involving the transfer of anything of
economic value, by any united States persen to the de facto
regime in Haiti.
The Secretary .of the Treasury ~ay redelega~e
any of these functions to ct~er officers and agencies of the
United states Governrnent, all agencies of which are hereby
directed to take all appropriate ~easures within their authority
to carry out the Frovisions of this crder, including suspension
or termination of licenses or other authcr.zations in effect as
of the date of this order.
Sec.
6.
This order is effective
i~~~jiately.
Sec. 7.
Kothing cor.tained in this order shall confer any
substantive or procedural right or privilege en any person or
organization, enforceable against the Unitsj States, its
age~cies or it~ officers, or the Federal R03erve 9ank of
~e~ York or its officers.
This o:der shall be trans~itted to th0 Congress and
published in the :ederal Reaister.
G:::C;;{G~
---
7:::2 KHIT::: HOUSE,
October 4, 1991.
/0
# ;; #
BUSH
foe f u-b~frked
IO/r/'lf
Department of the Treasury •
FOR IMMEDIATE R~EA.l>tI
October 7, 1991
Bu·~~~~ (~r(n'e(t>ublic Debt
a0 0 9 7 7
• Washington, DC 20239
CONTACT: Office of Financing
202-219-3350
r·· ....
RESUl>TS! ·6p T'DR.~e~~'p AUCTION OF 13 -WEEK BILLS
Tenders for $10,804 million of 13-week bills to be issued
October 10, 1991 and to mature January 9, 1992 were
accepted today (CUSIP: 912794XU3).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.03%
5.04%
5.04%
Investment
Rate
5.18%
5.19%
5.19%
Price
98.729
98.726
98.726
$6,895,000 was accepted at lower yields.
Tenders at the high discount rate were allotted 77%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Received
33,290
28,784,765
39,895
54,865
48,975
39,555
1,175,125
55,275
7,365
40,955
23,110
554,505
1,012,935
$31,870,615
AcceQted
33,290
9,208,295
39,895
54,865
48,285
37,555
204,105
15,275
7,335
40,955
22,110
79,515
1,012,935
$10,804,415
Type
Competitive
Noncompetitive
subtotal, Public
$27,656,880
1,751,315
$29,408,195
$6,590,680
1 1 751,315
$8,341,995
2,289,930
2,289,930
172,490
$31,870,615
172 1 490
$10,804,415
Federal Reserve
Foreign Official
Institutions
TOTALS
An additional $84,410 thousand of bills will be
issued to foreign official institutions for new cash.
NB-1lt89
Department of the Treasury • Bureau of the Publ~Rebl ,.1 Waship~ton, DC 20239
4
oJ JI U U U ~ l
CONTACT: Office of Financing
LFT. (;,_- ;;-;;: T,:C,',_ '.;',/
202-219-3350
FOR IMMEDIATE RELEASE
October 7, 1991
RESULTS OF TREASURY'S AUCTION OF 26-WEEK BILLS
Tenders for $10,852 million of 26-week bills to be issued
October 10, 1991 and to mature April 9, 1992 were
accepted today (CUSIP: 912794YH1).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.06%
5.08%
5.08%
Investment
Rate
5.28%
5.30%
5.30%
Price
97.442
97.432
97.432
$945,000 was accepted at lower yields.
Tenders at the high discount rate were allotted 67%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas city
Dallas
San Francisco
Treasury
TOTALS
Received
37,990
26,062,480
18,785
32,935
47,560
39,495
1,571,765
36,950
8,785
51,940
23,705
720,285
750,810
$29,403,485
Acce:gted
37,990
8,961,915
18,785
32,935
45,910
39,210
698,365
20,300
8,785
51,940
23,705
161,175
750,810
$10,851,825
Type
competitive
Noncompetitive
subtotal, Public
$25,421,665
1,335,610
$26,757,275
$6,870,005
1,335,610
$8,205,615
2,100,000
2,100,000
546,210
$29,403,485
546,210
$10,851,825
Federal Reserve
Foreign Official
Institutions
TOTALS
An additional $287,490 thousand of bills will be
issued to foreign official institutions for new cash.
NB-1420
Removal Notice
The item identified below has been removed in accordance with FRASER's policy on handling
sensitive information in digitization projects due to copyright protections.
Citation Information
Document Type: Transcript
Number of Pages Removed: 14
Author(s):
Title:
Treasury Under Secretary David Mulford News Conference
Date:
1991-10-03
Journal:
Volume:
Page(s):
URL:
Federal Reserve Bank of St. Louis
https://fraser.stlouisfed.org
~,
T
'.
,"",-~
-,
contact:
Claire Buchan
Embargoed until 3PM
October 8, 1991
566-8773
EASING THE CREDIT CRUNCH TO PROMOTE ECONOMIC GROWTH
secretary of the Treasury Nicholas Brady today announced new
steps in the Administration's ongoing efforts to address "credit
crunch" problems identified by the business community, bankers,
and regulators. The steps build on the President's economic
agenda and are aimed at sustaining the economic recovery.
"
"Maintaining the economic recovery depends on banks playing their
traditional role, businesses making investments, and consumers
purchasing goods and services," Brady said. Recent statistics
show employment levels, housing starts, and industrial production
rising. The Administration wants to insure that proper balance
in the regulation of the banking sector continues the upward
trend and that Congress passes other Administration economic
growth proposals.
The Administration's new steps were developed in consultation
with the Federal Reserve Board, Federal Deposit Insurance
Corporation, Office of the Comptroller of the Currency, and the
Office of Thrift Supervision. They are designed to promote
confidence and balance in the lending environment, and to help
businesses and consumers in their economic activity.
The Administration's program builds on the previous efforts by
the Treasury Department and financial regulators to assure that
sound businesses and consumers can get needed credit. These
efforts include encouraging lenders to make prudent loans and
assuring that examiners perform their reviews in a balanced,
sensible manner. The federal banking and thrift regulators have
stated that they do not want the availability of credit to sound
borrowerS to be adversely affected by supervisory policies or
depository institutions' misunderstandings about them.
In particular, the Administration, while avoiding any
encouragement of regulatory laxity, wants to ensure that the
specific guidance issued by the regulators over the past several
months is being fully implemented by examiners in the field, and
that additional opportunities for assuring balanced regulation
are pursued. Among the areas addressed are:
NB-1491
Directives that bankers should work constructively with
borrowers experiencing temporary difficulties and
facilitate the orderly restructuring of credits;
Prudent refinancing of economically sound commercial
real estate loans;
Improved verification by regulatory supervisors that
recent policy changes and clarifications are
appropriately applied in each examination;
Enhancements in the process for appeals of alleged
misapplication of regulatory standards;
Harmonization of the treatment of preferred stock in
u.s. capital standards with other signatory countries
under the Basle capital accord;
Appropriate application of valuation standards
especially in real estate credits so as to avoid a
liquidation approach to valuation;
Improved guidance in the appraisal process and steps to
reduce excessive appraisal costs for lenders;
Legislative action to make permanent recent EPA
regulations to limit lender liability for environmental
cleanup of loan collateral properties;
This program is in addition to the President's comprehensive
economic growth package, which has been stalled in the Congress.
These proposals designed for increasing job-creating investment
include: reducing the capital gains tax, permanently extending
the research and experimentation tax credit, establishing
enterprise zones, and promoting saving through Family savings
Accounts and expanded Individual Retirement Accounts. "These
proposals should be voted upon without delay," Brady said.
"Congress can also help by passing the Administration's
comprehensive banking reform legislation and approving its
nominees for top financial regulatory positions which are before
the Senate. Holding up these measures and appointments creates
further uncertainty about fiscal, monetary, and regulatory
policies," Brady said.
Details of the Administration program are found on the attached
fact sheet.
EASING THE CREDIT CRUNCH TO HELP PROMOTE ECONOMIC GROWTH
FACT SHEET
I.
NEW REGULATORY ACTIONS TO BE IMPLEMENTED
A.
Efforts to Improve Lending Environment
Conform U. S. Implementation of Basle Capital Standards
Conform U. S. treatment of Preferred Stock in Tier One
capital with other countries under the Basle accord. No
amendment to the Basle capital standards is needed.
Removing this ceiling will give bank holding companies an
additional method of raising Tier One capital, as there are
investors who prefer preferred stock to common shares.
This could result in an increase in Tier One capital and
thus expand lending capacity.
The target date for completing this conforming change is
October 31, 1991.
B.
Build Banker Confidence
1.
Enhanced Examination Appeals Process
Each agency has an existing appeals process for bankers who
believe that examiners have made an error in their
evaluation of loans. Although the guidelines issued March
1st encouraged bankers to take advantage of this mechanism,
few bankers have done so.
Thus, it is recommended that the appeals process be
strengthened by allowing a banker to appeal directly to
senior officials or a Reserve Bank President separate from
the supervisory process. Investigations would be conducted
in a confidential manner.
Each regulatory agency will implement this system by
November 15, 1991.
2.
Improve Examination Management
In order to further assure that consistent and balanced
examination standards are applied, agencies will take the
following steps:
1
a.
Regional supervisory management will be required to:
i)
make sure that the March 1st policy changes and
clarifications, and all subsequent guidelines,
have been effectively communicated to each
examiner;
ii)
make sure that these policy changes and guidelines
have been explained to the banker by the examiner
in each examination; and
iii) certify that these policy changes and
clarifications, and all subsequent guidance, have
been followed by examiners in each exam.
These policy changes and clarifications include the
instruction that:
o
bankers should work in an appropriate and constructive
fashion with borrowers who may be experiencing
temporary difficulties;
o
income producing property loans are to be assessed on
the income-producing capacity of the properties over
time. Examiners should take into account the lack of
liquidity and cyclical nature of real estate markets.
Liquidation appraisal values are to be used only if the
property is to be liquidated;
o
banks with real estate concentrations should not
automatically refuse new credit to sound real estate
developers or to work with existing borrowers;
o
regulatory agencies do not have rigid rules (or
percentages) on asset concentrations, as bankers and
regulators know well the benefits of adequate portfolio
diversification;
o
institutions attempting to raise capital by shrinking
assets should avoid actions such as the sale of all
high-quality assets. Such actions by themselves, or
the refusal to make sound, new loans, fail to achieve
an important goal of improving the quality of the
institution's loan portfolio;
o
bankers and examiners should not lump all real estate
together: distinctions should be made. For example,
credit for a residential builder, should not be
automatically penalized by local oversupply conditions
in commercial office development;
o
bankers should facilitate the orderly restructuring of
2
troubled credits by using established techniques under
FASB 15, "Troubled Debt Restructurings"j and
o
banks should be able to prudently refinance commercial
real estate loans without fear of regulatory
retribution ("mini-perm" guidance).
b.
The agencies will develop a method for regular
communication with bankers by central office and/or
regional senior personnel to determine banker views on
the fairness and balance of examination standards and
practices. Examples of this communication would
include polling and regular meetings with bankers.
The agencies will implement these changes by November 15,
1991.
C.
Improve Real Estate Guidance
1.
Real Estate Valuation Policies
The bank and thrift regulatory agencies have been developing
a uniform and comprehensive set of real estate examination
guidelines, especially for real estate in troubled markets.
These detailed guidelines cover loan classification
procedures, indicators of troubled loans, proper analysis of
appraisals and loan values, and proper reserve analysis.
These guidelines will be released by October 31, 1991 and
will be distributed to all examiners -- and bankers.
2.
Use of Appraisals
As a part of Subsection 1 above, a letter will be sent by
the primary regulator to every bank chief executive
outlining the guidelines for using appraisals emphasizing
balance and appropriate time lines.
3.
Random Audit Program
The regulatory agencies would establish quality control
through a random audit program to determine how examiners
are using appraisals in the loan documentation process.
This can be implemented by October 31, 1991.
4.
Appraisal Costs
The Administration supports the actions taken recently by
the regulatory agencies to limit the costs of appraisals on
residential real estate loans by raising the minimum loan
size subject to appraisal requirements to $100,000 from $50,000.
3
The Administration calls on the regulatory agencies to
consider additional steps that can be taken administratively
to lower the burden of appraisal costs, especially for home
buyers and small business.
The agencies will report their recommendations to the
Secretary of the Treasury by January 1, 1992.
D.
Further Clarify the Definition of Highly Leveraged
Transaction (HLTl
Leveraged borrowers in businesses such as cable television
or broadcast media have cited the HLT definition as
unreasonably restraining credit to their industries.
The agencies published their definition for public comment
in the Federal Register. The comment period concluded on
September 23, 1991, resulting in over 200 comment letters.
The regulatory agencies will review the comments and propose
improvements to the definition by December 1, 1991.
E.
Convene National Meeting of Examiners
The Treasury Secretary has requested that by mid-November,
1991, the regulatory agencies convene a meeting of all key
supervisory management and senior field examination
professionals.
Examiners would participate in a series of meetings about
the economy and a thorough briefing on the policy changes
and guidelines and their application.
II.
PROPOSALS THAT WOULD HELP CURE THE CREDIT CRUNCH
WHICH REQUIRE ACTION BY CONGRESS
The Administration supports a number of legislative proposals
that would promote savings and economic growth, make the
financial sector more efficient and create a better climate for
lending. These include:
A.
Banking Reform
The President's Banking Reform bill will spur confidence for
investment by assuring that the united states has a modern
banking system with stronger, safer banks.
Stronger, more competitive banks would have greater
flexibility in working with borrowers to avoid future credit
crunches.
4
B.
Lender Liability Reform
Banks have been reluctant to make certain loans because of
recent court cases that have found lenders liable for
environmental clean-up costs, even when the bank's only
interest in a property is a security interest to secure a
loan.
To address this uncertainty concern, the EPA issued a
proposed regulation interpreting the Superfund Act which
would properly limit lenders' liability for any Superfund
clean-up costs as long their participation is merely that of
a lender, and not a long term operator.
To make this certainty permanent, the Administration is
supportive of efforts to further clarify these rule changes
in statute.
C.
The President's Growth Initiatives
To increase demand and boost asset values, including real
estate, the Administration continues to urge Congress to
pass the President's growth package. The program would:
D.
o
reduce the capital gains tax rate;
o
enhance personal savings through an expanded Individual
Retirement Account (IRA) and Family Savings Account;
o
make the Research and Experimentation (R&E) tax credit
permanent;
o
increase federal investment in science, technology and
infrastructure;
o
reform the education system; and
o
keep the discipline of the budget agreement.
Nominees for Regulatory positions
Three out of four bank and thrift regulatory agencies are
without a Senate-confirmed head. Presidential nominees for
regulatory positions awaiting Senate confirmation, include
two members and the Chairman of the Federal Reserve Board,
as well as the Comptroller of the Currency and the Chairman
of the FDIC.
The Administration urges Congress to eliminate uncertainty
about the direction of monetary policy and regulatory
leadership by acting quickly to confirm the President's
5
nominees. congress' preoccupation with second guessing
regulators has continued to exacerbate the credit crunch.
E.
Bankruptcy Reform
Some in Congress and the American Bankers Association point
out that recent court decisions, a developing social
acceptability of bankruptcy, and aggressive tactics by
borrowers have weakened bankruptcy practices and thus,
reduced the willingness of bankers to lend.
The Justice Department has recently undertaken a
comprehensive review of the bankruptcy law and practice.
The President has asked the Acting Attorney General to
complete this review, analyze pending legislative
initiatives, and, together with the Secretary of the
Treasury, evaluate their impact on credit extensions by
financial institutions.
This report will be made to the Economic Policy council in
January 1992.
The Economic Policy council and the regulatory agencies will
continue to review the credit crunch and related issues.
6
TREASURI::':i~:ews
.
Del lart men t Of the Trea sury • was hing ton , D.C. • Tele
pho ne 5&& ·204 '
FOR RELEASE AT 2:30 P.M.
Octo ber 8, 1991
CONTACT:
Offi ce of Fina ncing
202-2 19-33 50
TREASURY'S WEEKLY BILL OFFERING
The Depa rtmen t of the Trea sury, by this publ
invi tes tend ers for two serie s of Trea sury bills ic notic e,
appr oxim ately $21,6 00 milli on, to be issue d Octo tota ling
This offe ring will prov ide abou t $3,90 0 mill ion ber 17, 1991.
of new cash for
the Trea sury , as the matu ring bills are outs tand
ing in the amou nt
of $17 703 mill ion. Tend ers will be rece ived
at Fede ral Rese rve
Bank s and Bran ches and at the Bure au of the Publ
ic Debt , Wash ington, D. C. 2023 9-150 0, Tues day, Octo ber 15, 1991,
prio r to
12:00 noon for nonc ompe titive tend ers and prio r
to 1:00 p.m. ,
East ern Dayl ight Savin g time , for comp etitiv e tend
ers. The two
serie s offe red are as follo ws:
91-da y bills (to matu rity date ) for appr oxim
$10,8 00 mill ion, repre senti ng an addi tiona l amou ately
nt of bills
dated Janu ary 17, 1991 ,
and to matu re Janu ary 16, 1992
(CUS IP No. 9127 94 XV 1), curr ently outs tand ing
in
of $22,8 80 mill ion, the addi tiona l and orig inal the amou nt
bills to be
free ly inter chan geab le.
182-d ay bills for appr oxim ately $ 10,30 0 mill ion,
to be
dated Octo ber 17, 1991 ,
and to matu re Apri l 16, 1992
(CUS IP
No. 9127 94 YJ 7).
The bills will be issue d on a disco unt basi
tive and nonc ompe titive bidd ing, and at matu ritys unde r comp etithei r par amou nt
will be paya ble with out inte rest. Both serie s
of bills will be
issue d enti rely in book -entr y form in a minim um
amou nt of SlO,O OO
and in any high er $5,00 0 mult iple, on the reco rds
Fede ral Rese rve Bank s and Bran ches, or of the Depaeith er of the
rtmen t of the
Trea sury.
The bills will be issue d for cash and in exch ange
for
Trea sury bills matu ring Octo ber 17, 1991 .
Tend ers from Fede ral
Rese rve Bank s for thei r own acco unt and as agen
and inter natio nal mone tary auth oriti es will be ts for forei gn
acce pted at
the weig hted avera ge bank disco unt rate s of acce
pted comp etitive tend ers. Addi tiona l amou nts of the bills
may
be issue d to
Fede ral Rese rve Bank s, as agen ts for forei gn and
inter
natio nal
mone tary auth oriti es, to the exte nt that the aggr
egate
amou nt
of tend ers for such acco unts exce eds the aggr egate
amou
nt of
matu ring bill s held by them . Fede ral Rese rve Bank
s
curr
ently
hold $741
mill ion as agen ts for forei gn and inter natio nal
mone tary auth oriti es, and $ 4,597 mill ion for thei
r own acco unt.
Tend ers for bills to be main taine d on the book
-entr y reco rds
of the Depa rtmen t of the Trea sury shou ld be subm
PD 5176 -1 (for 13-w eek serie s) or Form PD 5176 -2 itted on Form
(for 26-w eek
serie s) .
NB-1 422
TREASURY'S 13-, 26-, AND 52-WBBK BILL OFFERINGS, Paqe 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" tradinq, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
competitive tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.
1/91
TREASURY'S 13-, 26-_, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from anyone
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bid~
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include-in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.
8/89
TREASU-iRYJ~ EWS
,ellartment of the T,easur:r • ~ashlnllton, D.C. • Telellhone 5&&-2041
Ucr I I J! 0 U I 2 J 9
For Immediate Release
October 8, 1991
Contact:
Anne Kelly Williams
(202) 566-2041
statement by
Acting Secretary of the Treasury
John E. Robson
Today the Financial Institutions Subcommittee of the House
Banking Committee reported out legislation that is flawed and
inadequate. Among other things, this legislation fails to
provide adequate funding for the RTC;
imposes new bureaucratic
obstacles on the RTC; and busts the budget agreement between
Congress and the Administration. This legislation would delay
the savings and loan clean-up and raise the costs to the American
taxpayer.
We urge the full committee to take responsible action to
address these flaws.
000
NB-1493
lIeliartment of the Treasury • Washington, D.C •• Telellhone 5&&.2041
p~ ~b" BODoral»le
Robert R. Glauber
UDder secretary of the Treasury for FiDaDce
, ,-!. ~ ,"/ .,(:" .: before the
Forum OD CooperatioD Betw.en Shareholders aDd corporatioDS
UC{
iEim.&.
october 3, 1991
Introduction
Good afternoon. It is a pleasure to be here today to
discuss corporate governance. Let me especially commend
Michael Jacobs on rounding up such an able group of individuals.
It reminds me of President Kennedy's remark, at a state dinner of
collected notables, that the White House had not seen such an
assemblage of talent since Thomas Jefferson dined alone.
The standard of living of Americans clearly depends upon the
success of our nation's businesses, and their ability to compete
in the international arena. The effectiveness of how our
corpora~ions'are run becomes an issue of national significance.
\.
International events over the last few months, as well as
the last few years, show that nation after nation is
acknowledging that free people and free markets are necessary to
deliver the highest standard of living to their citizens. The
revolutions that have taken place in Eastern Europe and the
Soviet Union have been won on the basis not of military strength
but of ideas, and the quality of life we have achieved in America
has made our system of democratic capitalism the envy of the
world. As the rest of the world is adopting our rules, we are
competing in an increasingly global economy with the home field
advantage.
But we also face unprecedented competition. The other
players are getting economically stronger and, in many cases,
growing faster. We need to invigorate our economy to preserve
our role as the world's leading economy.
There is also a broader risk if corporate America on its own
does not perform effectively. Many will encourage the federal
government to become more involved, like the Japanese, in
targeting our industries of the future, deciding where federal
capital should be funneled, and protecting those industries. I
am troubled by the underlying assumption that government always
knows best -- even though I am now part of it. The marketplace
is the best allocator of capital to good ideas and projects. The
role of the government should be to create a stable and healthy
economic climate and then to minimize unnecessary restraints upon
businesses.
It is most appropriate that this forum be held now.
The Ideal System
I do not mean to imply that there is no need for improvement
in corporate America, nor am I suggesting that a radical
restructuring of U.S. industry is required. Rather, I believe we
need to look for ways to improve the existing structure. I would
characterize most of the corporate governance issues which you
are addressing at this forum as examples of ways to improve the
existing system.
Right now, we have a corporate governance system which
appears to rely on a troika approach:
Management, which sets the strategic plan for the business
and manages the day-to-day operations.
The Board of Directors, which approves the strategic
direction set by management, monitors management's
performance and holds management accountable to shareholder
interests.
Shareholders, the true owners, who provide patient capital
and select members of the board to look after their
interests.
When these three entities work together to max~m~ze
shareholder value, everyone benefits. Each in its way should
contribute to improving corporate performance through creating
value, rather than merely skimming personal profits at the
others' expense. If any of these groups is less than fully
engaged, the three-legged stool is unbalanced.
Problems with the System
Unfortunately, the reality often belies the theory -- the
system does not always work the way it should. In many
companies, an adversarial relationship has developed between
management and owners. Shareholders complain that management
focuses less on long-term value than their own job and pay
security, and on insulating themselves from accountability to
shareholders rather than on making the company more competitive.
Management counters that it is pressure from short-sighted
investors, who sellon quarterly earnings reports without
consideration of long-term prospects, which shortens investment
time horizons. However, shareholders in turn argue that they
only sell because management is not responsive to their concerns.
This adversarial attitude continues to feed on itself.
2
Improving the System
It does not have to be this way. Institutional investors,
who own the majority of shares of public companies, do not
benefit from short-term trading. Most of them underperform the
market average. Furthermore, as they continue to accumulate
assets, it becomes more and more difficult for them to sell
without moving the market. I believe they essentially want onedecision stocks, where they can buy shares of a company which
they feel confident has excellent long-run potential, and then
not worry about it. Furthermore, corporations need owners and
investors, not traders and speculators, who worry little about
accountability, and do not provide the third pillar necessary for
proper corporate governance.
I doubt that institutional investors really want to take
matters into their own hands. They have too many stocks to
follow to monitor the activities of individual corporations
closely. Nevertheless, institutional investors are often being
forced to get involved. Institutional investors are increasinglyfrustrated that management can not be trusted to put company
interests ahead of personal interests. This frustration is
evidenced by the number of shareholder resolutions which appeared
on corporate proxies this past year, and the increasing
shareholder support some of those resolutions received.
I commend those of you who have been involved in enacting
change through the existing system. It is a testimony, again,
that corporate governance can work and that shareholders can
initiate reasonable changes without involving- themselves in dayto-day operations. The relatively modest gains achieved to date,
however, have brought to light some significant barriers which
shareholders must overcome if they want to voice their opinions.
Some of these barriers have been created by government -- both at
the state level, through anti-takeover laws, and the federal
level.
Proxy Reform
An example of a federal government barrier to better
corporate governance can be found in the current proxy rules.
Essential to corporate governance is effective and efficient
communication among interested parties. Communication is a
fundamental prerequisite to making an informed voting decision,
and is especially important given the myriad owners who often
lack, on an individual basis, the knowledge and experience to
make informed judgments. An ongoing education process can
therefore be beneficial. Significant shareholders, like
Warren Buffett, never know when they may be asked to assume
greater responsibility. Yet the current proxy rules place
3
severe restrictions on the ability of shareholders to communicate
among themselves about issues which appear on corporate ballots - restrictions which reduce information flow to shareholders.
The SEC has been engaged in a very thorough study of this
issue for the past two years. It has proposed some changes to
allow greater communications among shareholders on certain
issues. It is in the process of evaluating comments on its
proposed regulations before a final regulation is submitted. We
have been impressed at the thoroughness and quality of the SEC
review. The SEC clearly raised the key issues in their comment
request, has carefully considered the different sides of the
issues, and is attempting to strike a balance between competing
interests. I applaud the progress it has made thus far, and I
particularly support the concept of allowing shareholders to be
better informed.
Shareholders and Kanaqement
While I believe that changes to the existing proxy rules are
necessary t~ allow shareholders to become better informed, I
believe it 1S ultimately up to shareholders and management
themselves to improve their relationship.
Managers should try less to insulate themselves from their
shareholders and more to explore policies which would align
management/shareholders interests in the common goal of buildinq
a competitive enterprise. In fact, major institutional
investors, like pension funds, could become their greatest allies
-- the source of the patient capital they are looking for. I
doubt that pension funds really want to fight with management
over poison pills and golden parachutes. What they would prefer
is to be able to trust management to act in their best interest.
For they too have a vested interest in finding relationships
where they can invest large amounts over extended time periods.
These institutions have grown so large that they cannot simply
sell the stock in every company where they disagree with
management.
For most investors, though, patience requires participation.
Yet many shareholders have come to think that their voices are
not sought, much less heeded. In fact, corporate raiders have,
in many instances, assumed the role of policemen of capitalism.
This is not the most effective solution -- we should do better.
From an economic cost and efficiency point of view, takeovers are
not the ideal way of imposing discipline on managers. Instead,
they are the option of last resort for shareholders who have no
other way to make management responsive to their goals.
Effective corporate governance would minimize the need for
hostile takeovers, as the interests of management and
shareholders would not be sufficiently discordant to justify one.
Investors should be seen as potential partners in achieving
4
corporate strategic objectives rather than adversaries. Prudent
management of corporate assets combined with solid communication
with the owners of the stock can move long-term thinking back
into the markets and the board rooms.
Board of Directors
Of great importance to this improvement is strengthening the
role of the board of directors. It is their job to ensure that
management has the proper incentives to maximize the long-term
value of the company, to exercise, as independent policymakers,
their good business judgment on behalf of shareholders. For
shareholders, the board of directors in many ways is where the
buck stops.
To do this, I think it is critical that the majority of
board members be independent from management. A board cannot
keep management accountable if they are being overly influenced
by management. It is their job to independently assess
management proposals, and to challenge management when they have
questions as to the viability of a given plan. The day of the
sinecure, where long-term friends are gently put out to financial
pasture and need only show up on board meeting days to rubber
stamp management decisions and pick up their check, should be
over.
A second, critical board responsibility is to ensure that
executive compensation provides managers with incentives which
are consistent with shareholder interests. Managers should be
made shareholders, so that executive compensation plans motivate
behavior which truly maximizes the value of the corporation.
People behave differently when they have an ownership interest.
Homeowners have a different attitude about their homes than do
renters. In the same way, executives will care more about the
long-term value of the company if they own a stake in it which is
significant to them. I do not think the answer is merely to tack
on long-term incentives to already existing pay. Executives
should not become millionaires while shareholders lose value.
Boards of directors should reevaluate the composition of
compensation plans and should consider substituting plans that
tie executive fortunes, in both senses of the word, to the longterm value of the firm. Likewise, companies should reevaluate
how board members are compensated. Paying board members at least
partially with stock would better ensure that directors are
looking after stockholder interests. Greater accountability and
compensation truly tied to performance would, in my view, lead to
more competitive companies.
5
Third, the Business Roundtable has also proposed that large
public corporations should have a nominating committee of the
board composed solely of independent directors. This seems
appropriate. The Nominating committee could develop guidelines
for selecting directors which have the qualifications which could
be most beneficial to the firm. Such a committee could also
respond to shareholder comments and recommendations and be the
forum to recommend the removal of directors who no longer have
time or expertise to perform their stewardship role toward
shareholder wealth.
Conclusion
In conclusion, it is ultimately private industry which will
determine the success of our nation. If private industry is to
succeed, we need shareholders, managers and boards of directors
working together to develop and implement successful long-term
strategies for the future. How we respond to our changing world
will determine where the United states will stack up in global
competition. We have the resources, we have the people, and we
have the tradition on our side. But we have no God-given right
to success. Our response to the challenge will impact the
quality of life for generations to come. I am optimistic that
positive changes can be made to existing corporate governance
structures -- changes which will ultimately make u.s.
corporations more competitive. This forum demonstrates your
dedication to this goal.
• • * *
6
Removal Notice
The item identified below has been removed in accordance with FRASER's policy on handling
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Citation Information
Document Type: Transcript
Number of Pages Removed: 11
Author(s):
Title:
News Conference By Treasury Deputy Secretary John Robson
Date:
1991-10-08
Journal:
Volume:
Page(s):
URL:
Federal Reserve Bank of St. Louis
https://fraser.stlouisfed.org
UBLIC DEBT NEWS
FOR IMMEDIATE RELEASE
October 9, 1991
Ucr
I
J
"1 OCP~T~9T: Office of Financing
.J
U
I L
j
b
202-219-3350
RESULTS OF TREASUF,X,'S(,.M]CT+()N OF 7-YEAR NOTES
. -.
I. J C
i
I : ,-- •. 1,
~
C:, ~ y
Tenders for $9,280 million of 7-year notes, Series H-1998,
to be issued October 15, 1991 and to mature October 15, 1998
were accepted today (CUSIP: 912827C67).
The interest rate on the notes will be 7 1/8%. The range
of accepted bids and corresponding prices are as follows:
Low
High
Average
yield
7.19%
7.20%
7.20%
Price
99.647
99.593
99.593
$35,000 was accepted at lower yields.
Tenders at the high yield were allotted 76%.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Received
22,115
19,282,342
8,266
17,692
348,068
827,286
890,259
20,192
9,202
17,925
7,547
169,094
5,837
$21,625,825
Accepted
22,090
7,788,382
8,266
17,687
341,588
785,076
216,324
16,192
9,202
17,875
7,547
43,814
5,822
$9,279,865
The $9,280 million of accepted tenders includes $379
million of noncompetitive tenders and $8,901 million of
competitive tenders from the public.
In addition, $623 million of tenders was awarded at the
average price to Federal Reserve Banks as agents for foreign and
international monetary authorities. An additional $347 million
of tenders was also accepted at the average price from Federal
Reserve Banks for their own account in exchange for maturing
securities.
NB-j 425
G
DEPARTMENT OF THE TREASURY
BUREAU OF THE PUBLIC DEBT
WASHINGTON. D.C. 20239-0001
AUCTION YIELD TO PRICE CONVERSION TABLi
7-1/8 ,
7-YEAR TREASURY NOTES
912827 C6 7
COSIP NtlMBIR:
AUC'rION DATI:
SETTLEMBNT DATE:
MATURITY DATE:
FIRST IN'l'. PAYMENT:
or
SIRIES H-1998
OCTOBER I, 1991
OC'l'OBER 15, 1991
OCTOBER 15, 1998
APRIL 15, 1992
INTEREST (COOPON) RATE:
7.125'
YIELD'
PRICE
YIELD'
PRICE
YIBLD'
PRICE
YIELDt
PRICE
6.33
6.34
6.35
6.36
6.37
6.38
6.39
6.40
6.41
6.42
6.43
6.44
6.45
6.46
6.47
6.48
6.49
6.50
6.51
6.52
6.53
6.54
6.55
6.56
6.57
6.58
6.59
6.60
6.61
6.62
6.63
6.64
6.65
6.66
6.67
6.68
6.69
6.70
6.71
6.72
104.440
104.383
104.325
104.268
104.211
104.154
104.097
104.040
103.982
103.925
103.868
103.812
103.755
103.698
103.641
103.584
103.527
103.471
103.414
103.357
103.301
103.244
103.188
103.131
103.075
103.018
102.962
102.905
102.849
102.793
102.737
102.680
102.624
102.568
102.512
102.456
102.400
102.344
102.288
102.232
6.73
6.74
6.75
6.76
6.77
6.78
6.79
6.80
6.81
6.82
6.83
6.84
6.85
6.86
6.87
6.88
6.89
6.90
6.91
6.92
6.93
6.94
6.9S
6.96
6.97
6.98
6.99
7.00
7.01
7.02
1.03
7.04
7.05
7.06
7.07
7.08
7.09
7.10
7.11
7.12
102.176
102.121
102.065
102.009
101.953
101.898
101.842
101.787
101.731
101.675
1Q1.620
101.565
101.509
101.454
101.398
101.343
101.288
101.233
101.178
101.122
101.067
101.012
100.957
100.902
100.847
100.792
100.737
100.683
100.628
100.573
100.518
100.464
100.409
100.354
100.300
100.245
100.191
100.136
100.082
100.027
7.13
7.14
7.15
7.16
7.17
7.18
7.19
7.20
7.21
7.22
7.23
7.24
7.25
7.26
7.27
7.28
7.29
7.30
7.31
7.32
7.33
7.34
7.35
7.36
7.37
1.38
7.39
7.40
7.41
7.42
7.43
7.44
7.45
7.46
7.47
7.48
7.49
99.973
99.918
99.864
99.810
99.756
99.701
99.647
99.593
99.539
99.485
99.431
99.377
99.323
99.269
99.215
99.162
99.108
99.054
99.000
98.947
98.893
98.839
98.786
98.732
98.619
98.625
98.512
98.518
98.465
98.412
98.358
98.305
98.252
98.199
98.146
98.092
98.039
97.986
97.933
97.880
7.53
7.54
7.55
7.56
7.57
7.58
7.59
7.60
7.61
7.62
7.63
7.64
7.65
7.66
7.67
7.68
7.69
7.70
7.71
7.72
7.73
7.74
1.75
7.76
7.77
7.78
7.79
7.80
1.81
7.82
7.83
7.84
7.85
7.86
7.87
7.88
7.89
7.90
7.91
7.92
97.827
97.774
97.722
97.669
97.616
97.563
97.510
97.458
97.405
97.353
97.300
97.247
97.195
97.142
97.090
97.038
96.985
96.933
96.880
96.828
96.776
96.724
96.672
96.619
96.567
96.515
96.463
96.411
96.359
96.307
96.256
96.204
96.152
96.100
96.048
95.997
95.945
95.893
95.842
95.790
7.50
7.51
7.52
1t811artm8nt Of the T.8.SUgf. ~;;~q.~,,~.,.ton, D.C •• Telellhone 5&&.2041
FOR IMMEDIATE RELEASE
October 9, 1991
CONTACT:
Cheryl crispen
(202) 566-2041
TREASURY CALLS 7-1/2% BONDS OF 1988-93
The Treasury today announced the call tor redemption at par
on February 15, 1992, of the 7-1/2% Treasury Bonds of 1988-93,
dated August 15, 1973, due ~uqust 15, 1993. There are
$1.8 billion of these bonds now outstanding, of which $.9 billion
are held by private investors. Securities not redeemed on
February 15, 1992, will cease to earn interest.
The two-year notes to be announced on October 16, 1991, for
settlement on October 31, 1991, will include an amount that is
sufficient to hedge the call of the $.9 billion held by private
investors.
This is the first call by the Treasury since December 15,
1962, and is the first call involvinq securities held' in bookentry form. Payment will be made automatically by the Treasury
for bonds in book-entry form, whether held on the books of the
Federal Reserve Banks or in TREASURY DIRECT accounts. Bonds held
in coupon or registered form should be presented tor redemption
through a financial institution, or to a Federal Reserve Bank or
Branch, or to the Department of the Treasury, Washington.
Coupon bonds must have all unmatured coupons attached to the
security upon presentation for redemption at par. As required by
Department of the Treasury Circular No. 300 (31 CrR 306.27), if
any ooupons for the three interest payment da~e. trom Auqust 15,
1992, through August 15, 1993, are missing, the Treasury must
deduct the full face amount of the missing coupons trom the par
value.
NB-1496
000
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SECRETARY NICHOLAS F. BRADY
PRESS CONFERENCE
u.s.
EMBASSY
TOKYO, JAPAN
OCTOBER
10, 1991
FOR: USINFO PIP, PIPFF, EA; STATE/EAP/J, STATE/PM; STATE
PASS TO UST~; TREASURY/IMI, IMA; NSC; COMMERCE FOR OAS;
USIA 'OR P/M, EA, P/'W
E.O. 12356: N/A
SUBJECT: "FASTPRESS"" TREASURY SECRETARY NICHOLAS F.
BRADY'S PRESS CONFERENCE AT U.S. EMBASSY TOKYO ON 10/10/91
BEGIN TEXT:
OBVIOUSLY THIS IS A VERY IMPORTANT TIME FOR RELATIONSHIPS
BETWEEN JAPAN AND THE UNITED STATES. OUR LONG-STANDING
PARTNERSHIP ON ANY NUMBER OF Issues WILL BE CALLED TO
DEMONSTRATE AGAIN THE STRENGTH OF THAT PARTNERSHIP AS WE
i-ACE THE PROBLEMS BEFORE THE SOVIET UNION. SO, FOR THAT
REASON, AND ~~SO BECAUSE THE PRESIDENT IS COMING HERE IN
LATE NOVEMBER, WE THOUGHT IT WAS IMPORTANT TO STOP ON OUR
WAY TO BANGKOK, TO MEET WITH PRIME MINISTER KAIFU,
FOREIGN MINISTER NAKAYAMA AND FINANCE MINISTER
HASHIMOTo. I DON'T THINK THAT IT IS ANY SURPRISE TO
ANYBODY TO KNOW THAT THE UPCOMING MEETINGS AT THE WORL6
BANK AND 1MF ARE ONES THAT, ALTHOUGH THEY WILL OBVIOUSLY
TAKE INTO ACCOUNT ALL OF THE MINISTERIAL THINGs ARE DONE
AT THOSE MEETINGS, A GREAT PART OF THE DISCUSSION AND
EMPHASIS AT THOSE MEETINGS WILL BE ABOUT THE SITUATION IN
THE SOVIET UNION, AND WHAT THE NATIONS OF THE WORLD ARE
GOING TO DO ABOUT IT. WE WILL HAVE A MEETING, MEETINGS
IN BANGKOK OF THE G~7 FINANCE MINISTERS WHICH WILL
ADDRESS THAT ISSUE, BUT ALSO THE NORMAL ISSUES THAT ARE \
DISCUSSED IN FINANCE MINISTERS' MEETINGS, AND OF COURSE,
AS YOU KNOW, THERE WILL BE REPRESENTATIVES FROM THE
SOVIET UNION WHO WILL BE JOINING US IN BANGKOK OVER THE
weeKEND, SO WITH THAT AS A BACKGROUND, 1'LL BE GLAD TO
TAKE ANY QUESTIONS THAT ANYBODY MIGHT HAVE.
TOM O'TOOLE, NIKKEI. GIVEN THE SOVIET UNION'S LARGE
EXTERNAL DEBT, AND THE DIFFICULTIES THEY WILL HAVE IN
REPAYING THAT, WILL THERE BE ANY MOVEMENTS IN G~7
MEETINGS TO POSTPONE A PORTION OF THAT DEBT1 AND IF YOU
CAN'T ANSWER DIRECTLY, COULD YOU GIVE ME YOUR OPINION ON
THAT PLEASE? THANK YOU.
Q:
A: WELL, THE MATTER OF ADDRESSING THE SOVIET DEBT WI~L
BE A MATTER THAT WILL BE DISCUSSED BY THE G-7 FINANCE
MINISTERS. THERE IS NO CLEAR VIEW AT THIS PARTICULAR
POINT IN TIME AS TO EXACTLY HOW THAT SHOULD BE CARRIED
OUT. WE'VE BeEN TOLD BY THE SOVIETS THAT THEY ARE GOING
TO BE EXPERIENCING DIFFICULTY OF A BALANCE OF PAVMENTS
NATURE. SO FAR, PART OF THE PROBLEM IS THAT THE eXACT
CALIBRATION OF WHAT THOSE FIGURES ARE HAVEN'T BEEN MADE
CLEAR. AND THAT IS ONE OF THE ITEMS THAT we WILL BE
TA~KING TO THE SOVIET REPRESENTATIVES WHEN WE ARE THERE,
ABOUT WHAT AMOUNTS COULD BE INVOLVED. THERE ARE ALL
SORTS OF WAYS TO ADDRESS THIS PROBLEM. NONE HAS BEEN
DECIDED ON, AND IT WOULD SE PREMATURE Of ME AT THIs
PARTICULAR TIME TO GET INTO DETAILS.
KATHLEEN TAN%Y OF FUTURES WORLD NEWS. THE JAPANESE
HAVE OFFERED A DIRECT AID PACKAGE TO THE USSR. I WOULD
LIKE TO KNOW WHAT YOUR OPINION IS OF THAT PACKAGE, AND
WHETHER THE U.S. WILL BE CONSIDERING A PACKAGE OF A
SIMILAR PATTERN.
Q:
A: WE~L, WE LIKE YOU WERE ADVISED OF THE PACKAGe JUST A
DAY OR SO AGO. WE HAVEN'T HAD A CHANCE TO ANALYZE IT
COMPLETELY. I KNOW THE JAPANESE WILL BE DISCUSSING IT
MORE WITH US WHEN WE GET TO BANGKOK. I WOULD POINT OUT
TO YOU THAT THE UNITED STATES ALREADY HAS BEEN GENEROUS
IN THEIR ASSISTANCE TO THE SOVIET UNION. WE RECENTLY ARE
ON OUR WAY TO COMPLETE AMONG OTHER THINGS A TWO AND A
HALF BILLION DOLLAR CCC CREDIT FOR FOOD FOR THE SOVIET
UNION. AND THAT PROGRAM, WHICH WAS SUPPOSED TO CARRY
INTO 1992, IS BEING ADVANCED SO THAT THE FUNDS CAN BE
SUPPLIED THIS YEAR. CABINET MINISTER FOR AGRICULTURE
MADIGAN IS IN THE SOVIET UNION AT THIS PARTICULAR POINT
IN TIME. I DO NOT KNOW THE RESULTS Of HIS TRIP. HE WILL
BE BACK THIS NEXT WEeK, SO IT WOULD aE PREMATURE OF Me TO
TALK MORE ABOUT THAT.
HECTOR RUEDA DE LEON OF TELEVISA MEXICO. MR.
SECRETARY, JAPANESE OFFICIALS HAVE BEEN VERY APPREHENSIVE
ABOUT THE FREE TRADE PACT BETWEEN MEXICO, CANADA AND THE
UNITED STATES. HAS THIS BEEN BROUGHT UP IN'YOUR TA~KS
WITH TH! JAPANESE OFFICIALS AND IF SO, WHAT?
Q:
A: NO, IT HASN'T BEeN BROUGHT UP, BUT 1 DON'T THINK THEY
SHOULD BE APPREHENSIVE ABOUT ~HAT. WE EXPECT THAT THE
FREE TRADE AGREEMENT BETWEEN MEXICO, CANADA AND THE
UNITED STATES WI~L CREATE A LARGER MARKET IN EACH OF
THOSE THREE COUNTRIES, ONe INTO WHICH THE JAPANESE ARE
WELL PLACED TO BE PARTICIPANTS. AND THEY'VE DONE PRETTY
WELL IN THE UNITED STATES MARKET AS IT IS, AND IF IT GETS
BIGGER AND BECOMES A MARKET THAT IS INTEGRATED WITH
CANADA AND MEXICO, I EXPECT THE JAPANESE WILL DO JUST AS
WELL THERE AS THEY HAVE ELSEWHERE AROUND THE WORLD, SO 1
THINK TO THE EXTENT THERE IS APPREHENSION, THAT IT
SHOULDN'T BE. THEY SHOULDN'T HAVE IT.
Q: VLAOIMIR SOLNTSEV FROM TASS. WHAT ARE THE TERMS OF
THE fINANCIAL AID TO THE SOVI~T UNION BY THE UNITED
sTATES AND THE G-7? IS THIS PROBLEM BEING DISCUSSED AT
THE MOMENT? AND SECONDLY, 1 WOULD LIKE TO ASK WERE THERE
ANY REQUESTS FROM THE SOVIET SIDE FOR UNITED STATES OR
THE WEST IN GENERAL TO PARTICIPATE IN MAKING A MASTER
PLAN FOR SOVIET REFORMS?
A: WELL, AS 1 MENTIONED A MINUTE AGO, THE MEETINGS IN
BANGKOK WILL -- THE G-7 MEETINGS, AND THE I AM SURE THE
PLENARY SESSIONS OF THE IMF AND THE WOR~D BANK WILL BE
VERY MUCH CONCERNED WITH THE SITUATION IN THE SOVIET
UNION. SO, THERE WILL BE FURTHER PROGRESS MADE ON THAT
ONE WHEN GET TO BANGKOK. BUT ON THE VISIT THAT I MADE TO
THE SOVIET UNION SOME TWO WEEKS AGO, IT WAS QUlTE CLEAR
Tn M~ THAT T~~ SOVI~T UNION UNDERSTOOD THEIR PROB~EMS
VERY CLEARLY THEMSELVES. AND BY THAT, 1 MEAN THEY
UNDERSTAND THAT THE tOEA THAT THE WESTERN NATIONS WOULD
SUPPLY UNLIMITED AID INTO A SITUATION, INTO AN ECONOMY,
THAT WAS NOT PREPARED TO RECEIVE IT, WAS SOMETHING THEY
UNDERSTOOD WOULDN'T WORK EITHER. AND WE TALKED VERY
CLEARLY ABOUT THE NECESSITY fOR REFORMS AND REORIENTATION
OF THEIR COUNTRY TOWARDS A MARKET-BASED DEMOCRACY. NOW,
AS YOU ALL KNOW THAT CAN'T BE DONE OVERNIGHT. AND THEY
HAVE ASKED VERY CLEARLY AND FORTHRIGHTLY FOR OUR
ASSISTANce TO HELP THEM DO THAT. AND THIS
ALL-ENCOMPASSING TERMS THAT'S USED OF "TECHNICAL
ASSISTANCE," WHICH SEEMS TO BE CONFUSING AND SOMETIMES IS
REGARDED AS A WAY OF NOT TALKING ABOUT SPECIFICS, IN MY
MIND, IS VERY CLEAR AND IS VERY SPECIFIC. WHAT IT REALLY
REFERS TO IS, THEY DO NOT HAVE THE WHEREWITHALL IN TERMS
OF PERSONNEL SYSTEMS AND THE LIKE TO GET THIS Joe DONE
AND THEY ARE ASKING OUR HELP. THERE ARE VERY FEW IF ANY
COST ACCOUNTANTS IN THE SOVIET UNION; THERE ARE NO
BUSINESS LAWYERS, THERE ARe NO ACCOUNTANTS, THERE ARE NO
INVESTMENT ANALYSTS TO SPEAK OF. THOSE PEOPLE WHO WOULD
NORMALLY FORM THAT PLACE IN THE SOCIETY HAVE BEEN ENGAGED
IN OTHeR OCCUPATIONS OF HELPING SUPPORT THE
MILITARY-INDUSTRIA~ COMPLEX.
SO WHEN THEY TALK ABOUT
TECHNICAL ASSISTANCE, THEY ARE ASKING US, HOW DO YOU FORM
THe CENTERPIECE, THE WORKING MECHANISIM THAT CREATES A
MARKET-BASED SOCIETY, SO IT'S IN THAT AREA WHERE I THINK
WE CAN BE OF THE MOST HELP, ANQ ONE THAT THEY QUITE
CLEARLY RECOGNIZE IS ONE THAT'S THE MOST IMPORTANT FOR
THEIR POINT OF VIEW. I DID NOT GeT WHILE I WAS IN SOVIET
UNION REPEATED REQUESTS, IN FACT VERY FEW, AND IN FACT
ALMOST NO REQUESTS FOR THE IDEA THAT THE WESTERN WORLD
WAS GOING TO DUMP MONEY INTO THAT eCONOMY. THEY KNOW
THAT WON'T WORK. AND THEY ARE NOT ASKING FOR IT.
MARY WA~SH, CBS NEWS. JAPAN1S TRADE SURP~US
CONTINUES TO GROW. PID YOU BRING THIS UP IN YOUR
MEETINGS, SUGGESTING THAT THE BALANce Of TRADE NEEDS TO
BE IMPROVED?
Q:
A: WELL, WE ALWAYS -- WE ARE IN CONTINUAL DISCUSSIONS
WITH JAPAN ABOUT THE SIZE OF THEIR TRADE SURPLUS. AND
THE NECESSITY ON THEIR PART TO PROVIDE TO THE UNITED
STATES AND OTHER WORLD COUNTRIes THE SAME OPPORTUNITIES
INSIDE JAPAN IN TERMS OF ABILIT¥ TO COMPETE THAT THEY ARE
AFFORDED INSIDE THE UNITED STATES. THE JAPANESE KNOW
FULL WELL THAT THIS IS AN Issue THAT CONTINUES TO BE
PARAMOUNT FOR THE UNITED STATES. AND THOSE DISCUSSIONS
HAVE TAKEN PLACE AND WILL CONTINUE TO TAKE PLACE. THE
SII TALKS AND THE YEN-DOLLAR DISCUSSIONS ARE THE
PARTICULAR FORUMS IN WHICH THOSE DISCUSSIONS CARRY
FORWRAD, AND WE ARE ALWAYS PRESSING ON THAT PARTICU~AR
POINT. THE JAPANESE KNOW THAT AND OF COURse THEY ARE
TRYING TO BE RESPONSIVE.
RICH MILLER, REUTERS. YOU MENTIONED THAT YOU'D COME
FRO~ THE SOVIET UNION FAIRLY ENCOURAGED ABOUT THE
REFOR~S AND THEIR DESIRE TO Move AHEAD.
BUT RECENTLY,
THERE HAS BEEN SOME SIGNS THAT THE REFORM PROCESS THERE
MIGHT BE STALLED, AND IN PARTICULAR, I AM THINKING ABOUT
RUSSIAN'S RELUCTANCE TO SIGN AN eCONOMIC UNION TREATY. I
WONDER If YOU COULD COMMENT ON THAT. HAVE YOUR VIEWS
CHANGED AT ALL SINCE YOU CAME BACK FROM MOSCOW?
Q:
BACK
A. NOT ReALLY, RICH. BECAUSE IT WAS ALWAYS EVIDENT, IT
WOULD BE EVIDENT TO ANYBODY THAT SPENT SOMe TIME IN THE
SOVIET UNION, THAT THERE IS A CRITICAL DISCUSSION GOING
ON AT THIS PARTICU~AR POINT IN TIME ABOUT THE
RELATIONSHIPS BETWEEN THE REPUBLICS AND THE CENTRAL
GOVERNMENT. AND THAT DISCUSSION IS IN A FORMATIVE STAGE,
IT'S ONE THATIS CRITICALLY IMPORTANT FROM THE POINT OF
VIEW OF THOSE,COUNTRIES THAT ARE TRYING TO PROVIOE HELP
TO THE SOVIET UNION AT THIS PARTICULAR POINT IN TIME. IT
ISN'T ANV GREAT REVELATION TO SAY THAT, WHEN YOU ARE
TRYING TO PUT TOGETHER A FINANCIAL PLAN, THAT IT IS
EASIER IF YOU CAN DEAL WITH ONE CENTRAL AUTHORITV OR ONE,
OR AT LEAST AN ORGANIZATION OF CENTRAL AUTHORITV AND
REPUBLICs WHICH SUITS -- I AM NOT TRYING TO G~T INTO THE
BUSINES OF THE SOVIET UNION INTERNALLY, aUT IN TERMS OF
TRYING TO ORGANIZE WESTERN RESPONSE TO THE SOVIET
PROBLEM, IT OBVIOUSLY SHOULD BE C~EAR TO EVERYBODY THAT
IF yoU HAVE ON THE OTHER END OF THAT CONVERSATION, A
CENTRAL POINT OF VIEW, A POINT OF VIEW THAT IS AGREED TO,
IN THIS CASE, BY THE CENTER AND THE REPUB~ICS, WHICH WILL
GIVe US THE OPPORTUNITY TO HELP, THAT THAT'S VERY
IMPORTANT.
NOW, TO THE OTHER PART OF YOUR QUESTION, WHICH IS, HAS
THIS PROCESS OF IRONING OUT THE RELATIONSHIP BETWEEN THE
CENTER AND THE REPUBLICS GONE BACKWARnS, 1 WOULD ONLY
GIVE YOU A VIEW THAT IT'S ONE Of THOSE THINGS LIKE
LEGISLATION IN THE UNITED STATES -- IT'S ONE STEP fORWAD
AND TWO STEPS BACK, AND THEN YOU GATHER YOURS~LF AND GO
FORWARD AGAIN. SO I DONIT THINK ANYBODY -- NOR WERE WE
LEO TO BELIEVE BY THE SOVIETS -- eXPECTS THAT THIS IS
GOING TO BE SOME KIND OF A STRAIGHT-LINE MARCH TO AN
AGREEMENT WHICH WOULD BE VERY CLEAR IN A SHORT PERIOD OF
TIME. IT WON'T. ITIS GOING TO TAKE A LOT OF TIME.
THERE IS A LOT OF PAST HISTORY, CENTURIES OF HISTORV
BEING UNDONE HERE, AND 1 THINK WE SHOULD BE UNDERSTANDING
OF THE FACT THAT IT IS NOT GOlNG TO HAPPEN IN A CLEAR,
CONClSE VIew IN A SHORT PERIOD OF TIME. SO, ALTHOUGH
AGAIN I WANT MAKE A POINT CLEAR THAT IT IS GOING TO BE IN
THE SOVIET UNION'S INTERESTS TO HAVE AN ORGANIZATION, BE
IT ONE KIND OR ANOTHER, WITH WHICH THE G-7 AND WORLD
COMMUNITY CAN RELATE AND HAVE IT BE SPECIFIC, SINCE WE
ARE GOING TO BE TALKING ABOUT SPECIFIC AGREEMENTS IN SOME
POINT IN TIME, SO THAT WE CAN COMPLETE THOSE AGREEMENTS,
IS AN ENORMOUS ADVANTAGE NOT ONLY TO THE SOVIET UNION BUT
TO THOSE OF US THAT ARE TRYING TO HELP. THANK YOU VERY
MUCH.
(END TEXT.)
OLSSON, ACTINGN#
D8"artm8nt Of til. Treasury. waSlllngton, D.C . • Tele"hone 5 ••. 204'
:
FOR RELEASE AT 12:00 NOON
October 11, 1991
,T. ' .1-
I: ~~ .~:: ', ...
CONTACT:
Office of Financing
202/219-3350
TREASURY'S 52-WEEK BILL OFFERING
The Department of the Treasury, by this public notice,
invites tenders for approximately $12,500 million of 364-day
Treasury bills to be dated October 24, 1991, and to mature
October 22, 1992 (CUSIP No. 912794 YZ 1). This issue will provide about $2,375 million of new cash for the Treasury, as the
maturing 52-week bill is outstanding in the amount of $10,132
million. Tenders will be received at Federal Reserve Banks and
Branches and at the Bureau of the Public Debt, Washington, D. C.
20239-1500, Thursday, October 17, 1991, prior to 12:00 noon for
noncompetitive tenders and prior to 1:00 p.m., Eastern Daylight
Saving time, for competitive tenders.
The bills will be issued on a discount basis under competitive and noncompetitive bidding, and at maturity their par amount
will be payable without interest. This series of bills will be
issued entirely in book-entry form in a minimum amount of $10,000
and in any higher $5,000 multiple, on the records either of the
Federal Reserve Banks and Branches, or of the Department of the
Treasury.
The bills will be issued for cash and in exchange for
Treasury bills maturing October 24, 1991. In addition to the
maturing 52-week bills, there are $18,142 million of maturing
bills which were originally issued as 13-week and 26-week bills.
The disposition of this latter amount will be announced next
week. Federal Reserve Banks currently hold $1,437 million as
agents for foreign and internatiortal monetary authorities, and
$7,139 million for their own account. These amounts represent
the combined holdings of such accounts for the three issues of
maturing bills. Tenders from Federal Reserve Banks for their
own account and as agents for foreign and international monetary authorities will be accepted at the weighted average bank
discount rate of accepted competitive tenders. Additional
amounts of the bills may be issued to Federal Reserve Banks,
as agents for foreign and international monetary authorities,
to the extent that the aggregate amount of tenders for such
accounts exceeds the aggregate amount of maturing bills held
by them. For purposes of determining such additional amounts,
foreign and international monetary authorities are considered
to hold none of the original 52-week issue. Tenders for bills
to be maintained on the book-entry records of the Department
of the Treasury should be submitted on Form PO 5176-3.
NB-1497
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, paq. 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. Others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdin9s of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
competitive tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.
1/91
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from anyone
bidder will be accepted in full at the weighted average bank
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for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
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Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder quidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, quidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.
8/89
REASURY "r~lvvS
arem.nt Of til. T,••• upY • • •• hlngton, D.C. • TelellhDne ..... a0-411
AS PRBPARED FOR DELIVERY
IMBARGOED UNTIL 3: 45 P.M.
REMARJ(S BY
THB HONORABLE NICHOLAS r. BRADY
SECRETARY OF THE TREASURY
AT THE ANNUAL MEETING
OF THE WORLD BANK AND THE INTERNATIONAL MONETARY FUND
BANGXOK, THAILAND
OCTOBER 15, 1991
Mr. Chairman, ManA9ing Director Cftmdessu., President Pr•• ton,
and fellow Qovernor.. I want to express the gratitude ot my
delegation tor the warm hospitality extended by our Thai hosts.
Hera in Bangkok, we are reminded of Asials economic dynamism and
tha reqion's 9row1ng importance in our economic tuture.
I would like to w_leome the nawest members of the
International Monatary Fund and the world Bank a Albania and
Monvol1.. And alao to welcome the speCial gue.t. trom the aaltio.
an4 the sovi.t Union •
. W•••at at a turning point 1n history. Market-basad systems
that produc. batter eoonomic pertormance and higher living
.tandards are sweeping the globe. Countries in every r89ion of the
world, now including the soviet Union, are shitting course in thair
direction. We can glimpse po •• ibilitie. previously beyond our
viewl global economic inte9ra~ion, oooperation, and prosperity.
The.. developments confront the international financial
institution. with an unprecedented challenqa. Inevitably, th •••
in.titutions will ba held aocountable in an important way tor the
aucce.. or tai1ure ot .ftort. to inte9rate former oommand and
.tate-dominated economies into the global market system. Lik. it
or not, that is the reality.
The difficulty of this kind of transformation shOUld not be
underestimat.d. There are no time-tested blueprints for chartinq
the cour.. trom a state-dominated command ay.tem to a successful
market economy. But what is olear is that this transformation i. a
tundamental, all-encompassing process. Every area of economio
activity and policy i. involved.
Thi. reality brin98 with it an important question. Are we up
to the task? To ri •• to this ohallenge, the international
tinancial institutions must b. willing to adapt. They must change
th.ir attitude., broaden their objeotiv•• , and improve their
••• istanoe capabilitie.. And they muat begin this proce •• right
awey.
NB-14~
2
Reoently, the 1MF and the World Bank have demon.trated their
capacity to diversify in response to emerging needs. Durinq and
atter the Gulf oonflict f they moved quickly to provide resource. to
tho •• oountri •• most .eriously atfect.d. The 1M' rapidly disbursed
re.ouro •• throu9h ~he Compensatory and contingenoy Finanoing
Facility (ccr,) to help countries adjust to the economic oost. of
Iraq'. aggression. The World Bank expanded lending program. and
aocelerated disbursements to assist sectoral adjustment and to
ra.ettle worker refugees.
In Eastern Europa, the 1MF and the World Bank have been at tha
forefront of eftorts to promote free markets and democraoy. with
IMF and World Bank as.istanoe, these countries are implementing
programs of reform and stabilization. IMr tinanoial commitments to
Bulgaria, Czechoslovakia, Hungary, poland, and Romania in 1991
total $8 billion. World Bank oommitments to Ea.tern Europe for
fi.o.l year 1991 reached over $2.6 billion.
The 1MF and the world Bank have •• tablished a speoial
•• sociation with the soviet union to help that country a4dres. the
pre •• 1ng problem. of comprehen.iv. reform. We welcome thi. apeoial
a.sooiation and urge that no eftort be spared to work intensively
in the 4aya ahead. Like others, wa believe special assooiation
will help olear the way for full Soviet membership in both
in.titution ••
In the Soviet union and laatern Europe, we are oonfronted with
the most radioal economic change in the post-war parlo4. The
.earch tor new value. has its oosts. These oountries have made a
conscious deoision to switoh rapidly from one political and
economio .ystem to another. They are literally rewriting all the
rule.. My visit to the sovi.t Union la.t month brou9ht to mind the
Colonial Amerioan experienoe ot makin9 a tresh start and oreating a
new torm ot government. Over two hundred year. ago, the Unit.d
stat•• began it. effort. to create .table institution. -- • proc •••
which took deoad •• to oomplete. y.t the soviet Union is trying to
accomplish a similar task in only a matter of months.
The international financial institutions will have a speoial
role in a •• iating this transformation. In defining this role, w.
must understand what tranaforming countries need. There i. no
que.tion that part of what they need 1s provided by the traditional
IMF/World Bank approachz advice on formulating comprehensive
economio policy programs, and the tinanoial aasistance to support
those programs. But they also need more tundamental assistance
that goe. well beyond standard adjUstment programs.
3
t.t .e li.t the tasksl
(1)
Attitua.s toward the creation of wealth n•• 4 to be
changed to rel.ase the dynaaism ot the private .ector.
Free enterprise and entrepreneur.hip means that
buain •• ses and individuals are free to succeed. state
or4ers are no sUbstitute for individual initiative.
(2)
countries need help in building basio private and
government economic in.tit~tiona, such .a the development
ot capital markets and bankin9 and »eserve ayat ••s.
(3)
They ne.a basio training on how to run profitable private
bUBinesse., which involve the special prote •• 1ona ot co.t
accounting, contract negotiations, diatribution, and
marketing,
(4)
They need practical advice on the operation of a aound
tiacal .yateml a tax co4. and oolleotion syatem, a
public seotor budget mechanism, a cuatoms operation tor
the bordera, and a data collection syatem.
(5)
And last but not l.aat, they need a.siatanee on how to
establish a workable legal system tor private enterpria.,
includin; an enforceable contraot ayat •••
The.e are the b.sio un4erpinnings ot • aucg ••• tul mark.t
economy. We will be up to the task only if the World Bank and the
IMP build on this institutional tramework, •• well .s instituting
macroeconomio policy reform. To do this, the Bretton Wooda
institution. ne.d to develop a partner.hip with the private .ector
to elioit their experti •• 1n helping countries build 801i4
toundationa tor market ec~nom1...
'
To provide a.sistanoe in allot these are.s, the IMF and the
Wor14 Bank will need to dev.lo~ new modes of operation. Brief
miss10n vi.its to neqotiate adjustment programs with central
90vernmenta will not be enouqh.
The IMF and the World Bank will have to pay .uch greater
attention to the human capital component of their proqrama. They
will have to put people in-country tor extended periods of time.
They will have to draw on experts from national government.,
bu.!n ••• , banking, law, and univeraitiea.
The Fund and the Bank will also have to expand in-country
contact a to all levels ot government. This assistance cannot be
provided by dealinq with central qovernments only. Fund and Bank
atatt will have to advise and educate individuals in the private
.ector and 1n local government.
4
Some have legitimately rai.e4 the que.tion of whether this
e.phasis on the Eastern European countri •• and the Soviet Union
will re.ult in a diminution of resourc •• to traditional recipient••
Both the Worl4 Bank and the IMF are well capitalized and I sa. no
rea.on why there should be any shorttall in financial flows.
R•• ourees will be adaquate to the task.
Others have asked whether there will b. any reduction of IMP
and World Bank technical expertise available to traditional
recipients due to a concentration of attention on soviet and
E•• tern European problems. Legitimate traditional prioriti ••
ahould not be weakened. In addition, the gain. for world stability
ahould be well worth the pric. tor countri.s~arqe and small.
In other reqion. ot tha world, the IMF and tha world Sank are
addr •• ainq their ong01n9 responsibilities by playing a crucial part
in the succe.s of the international debt strategy. Under this
atrategy, the IMF and the World Bank have encouraged mark.t retcrms
and aupported a wide varietY'ot commercial bank paekaga. in .everal
debtor eountrie. in varied eeonomio oircumstance.. Mexico, Chile,
and Venezuela are once again enjoying voluntary access to the
international capital markets, neW investment, and returning fliqht
capital. Only a short while ago, they were mired in debt.
To complement the benefits of oommercial bank debt reduction
paokag.. under the debt strateqy for oountries which are heavily
indebted to oommeroial banks, President Bushls Enterpri •• for the
Amerioas Initiative proposes to reduce debts owed to the U.S.
Government by eligible coun~ries within Latin Amerioa and the
Caribbean. Chile, Jamaioa, and Bolivia have already reoeived
initial benefits under this program. The Int.r-American
Development Sank (108) has moved to implement a n.W investment
.eotor loan program to enoourage investment reforms in developing
oountries. The United States has also proposed a Multilateral
Inve.tment Fund to help the eoonomies in the region adapt to
today'. oompetitive World. The U.S. and Japan each propos. to
oontribute $500 million to this Fund. We .xpect other. will be
joining U8 in this effort in the near future.
In the poorest countries, including those of sub-Saharan
Africa, the IMF and the World Bank are providing cone ••• ional
resources to promote sustained growth and the alleviation of
poverty. Some of th ••• countries have turned the oorner. Their
example oonfirm. that market~orien~.d reform i. po •• ible and
benetioial at all .tagee of development. For our part, over the
last year the united state. has forgiven $2.3 billion in bilateral
oonoe •• ional debt ow.d by these countrie.. We also support an
expan.ion of the list ot oountries e1i9ible for the Enhance~
struotural Adju.e~ent Faoility (ESAF) in order to iner•••• the
Fund's oapaoity to support low-income countrie ••
The IMF an4 the World Bank are to be congratulated for their
emph •• i . on the environment. I very muoh aqree with Prima Minist.:
Anand t • remark. this morning that ~e all need a common commitment
to the environment for our own sake and for the sake of tuture
veneration.. In addition, poverty reduotion and the role ot women
in development require stronger emphasis. W. mu.t enaure su.taine~
progre •• on the.e tront ••
The ~ime ha. oome tor the Fund and the Bank to .~reng~hen
their Aupport tor the private .eotor. The World Bank is reviewinq
what change. need to be made in the Articl.. ot Agreement in orde~
to permit direct lendin9 to the private seotor. A. countries
release ownership ot enterpris •• to the private sector, individual
companies in the process ot privatization will need resource flows
from the World Bank. At stake 1. the relevance ot the World Bank'
in support of eoonomio development. To this ,nd, we are plea.ed tc
.upport the $1 billion IFe capital inorea.e and r.lated private
s.otor polioy measure ••
expandin~ tinanoial n.ed. in debtor oountrie., B•• tern
and the pooreat oountrie. neo ••• itat. that the
international finanoial in.titution. have ample resouroe.. To
end, ~he u.s .• trongly .upport. the IMF quota inor •••• to •• et
global tinanaial re.pon.ibiliti.s.
The
Bu~ope,
Qgog\u,ign
In olo.i~9, allow me to again .tress that the international
finanoial institution. must now implement pr09rame tor economio
transformation and tor the ultimate achievement ot a unifi.d 9~oba~
eoonomic .y.tem. 1M' and World Bank activitie. must adapt and.
expand as this unprecedented global economio potential come. into
view. We must •• 118 the opportunity provided by near universality
ot .embership in th ••• institutions and aooaptance ot marketoriented prinoipl... Leadership by the IMF and the World aank can
~ran.late .har.d economic philo.ophy into shared pro.parity.
Seldam in the oour •• of human att.ir. ha. the world'_
oommunity of nations b •• n faced with an 0iPortunity auch .1 we face
today. with imaqination, with determinat on, with vi,lon and with
oourage, I believe that it ie within our abilitI to •• i.e this
moment and to translate that glimpse of prosper ty and harmony ot .
whioh I spoke earlier into a reality. I believe that
ar. up to
that t •• k.
w.
October
1~,
1991
G-7 MINISTERIAL COMMUNIQUE
l.
The Finance Ministers and Central Bank Govlrnor. ot Canada,
France, Germany, Italy, Japan, ~he United Kingdom, and the United
States met on October 11 and 12, 1991 in Bangkok ~or an exchange
o~ views on current international economic and financial issue •.
The Managing Director o~ the IMF participated in the multilateral
surveillance discu •• ions.
~.
The Miniltars and Governors reviewed developments and
pros;ect. in their Iconomies. On balance, aqgreqate growth in
G-7 countri •• in 1991 ha. been weak. Ditference. in cyclical
position. persisted in the first balf of ~hi. y.ar. They noted
that the United Kingdom is moving toward. r.cov.ry while
recovery il underway in the U~~ted States and Canada. Th.y a180
noted that ~rowth was projected to pick up 1nItaly and Franci.
In Japan and Germany, growth haa .lowed trom the rapid pac. in
1990 to a more lustainab1e rate. Inflationary prl •• url. have
•••• d in mOlt couneri.'
p.cially tho.e in recession,
reflecting the more mod.rate pace of activity, lower oil price.,
and oth.r factor.. Th •• e pr •• aures are .xpect.d to eaae further
1n mo.t countrie., while remaining strong in other.. The,
welcomed the lubstantial r.duction in .xternal imbalanc •• that
haa occurred in r.c.nt y.ar., and noted the importan=e o~
avoiding the re-emergence of very large imbalancea. They
re&f~irm.d thlir continued lupport for economic policy
coo~~ination as e •• ential for achieving their common objectives
of sustained global economic growth with price Itability.
1
••
3.
According to the different .conomic condition. in each
country in rec.nt montha, intereat rates have declined in Japan,
the United ~ingdom, Canada, the United Seates, France and Italy,
while r.maining groadly unchang.d in Germany. The Mini.tlrs and
Governorl empha.ized the import~nce of fiscal and monetary
policies which, while reflecting the ditfering situation in each
country, provide the basia tor lower real inter.st rat •• and
sustain.d growth with price stability in a medium-term
per.pective.
4.
The Minist.r. and Governor. noted the importance of
strength.ning global savin;.. They .tr •••• d that the full
implementation of budgetary meaaure. adopted in lome countri •• is
•••• ntial in order to have substantial r.ductions in high bud;et
de!icits, and thel .mphaaized the need ~or all countries to curb
unproductive expen~it~r... In addition, they r.affirmed the
importance to remove ob~' ~cles to priVata sa~ings.
S.
The Mini~~e:. and Governors reviewed development. in
international financial market., and concluded that the recent
exchange market developments were broadly in lin. with continued
- 2 -
adjultment of external irebalances. They allo reaffirmed their
commitment to cooperate clo.ely on exchanqe markets.
6.
The Ministers and Governors. re~ardin~ recent irregularitie.
that were revealed in .ome financial market., affirmed the need
for effective mealurel to avoid the recurrence, with a view to
pre,erving the integrity ot tinancial markets and IYltems.
7.
The Mini.ter. and Governors reaffirmed their .upport for the
international debt strategy aimed at achieving and maintaining
debtor countr!e.' external viability. Aa concerns Ip.cifically
the poorelt, most indebt.d countries, they acknowledged the n •• d
to more conc'.lional re.tructuring term. in lupport of Icund
economic actions. They ther.fore called on the Paris Club 'to
continue itl dilculsions on how be.t to implement promptly
additional debt relief mea.ure., on a ca •• ·by ca.e basi., that go
well beyond the reli.f already granted under the Toronto terms.
8.
In vi.w of the importance of a market-orient.d approach in
d.velopment Itrategie., the Mini.t.rs and Gov.rnors noted that it
is essential tor d.v.lopin~ countri •• to .ncouraqe private
capital flows to develop a dynamic private ,.ctor, and to improve
the investment climate. They observed that empha.i. placed on
entrepren.urial initiatives complem.nted by appropriate economic
policy managem.nt hal b.en the 10urc.I of the economic success in
many countries, as witn •••• d, for example, in the A.ian region.
Th.y agr •• d on the importance of the Multilateral Investment Fund
(MIF) in support in; Latin American and Caribbean countrie. in
reforming their investment regime. and welcom.d action. being
taken to make the ~lr operational.
9.
The Mini.tera and Governor. underscored that the IMF and the
World Bank mUlt have ad.quate resource. to fulfill their .ystemic
r.sponaibilitie. in lupportinq comprehen.ive economic reforms.
In thil regard, they reaffirmed their commitment to complete
implementation of the Ninth Quota Review, includinq the
rati!ication of the Third Amendment to the IMF'. Articl •• by the
.nd of 1991 and they encouraged all other countrie. to take the
nece.aary atepl.
10. The Minilterl and Governor. noted that improved mark.t
acce.1 and sustain.d expanlion in qlobal trade would provide the
ba.il for world economic growth, and i. particularly vital for
countrie. implementing market-oriented r.forms. In thi.
connection, they re-emphasized the importance ot brin;ino the
Uru;uay Round to a rapid and .uccess!ul conclusion.
The Ministers and Governor. reviewed the current economic
.ituation and the ongoing efforts toward economic reform in the
Soviet Union. They have invited the Soviet r.presentative. for
an in!ormal di.cu.lion this eVening.
11.
October 13,. 1991
COHHUNIQU!
or
THE G-7 MEETING ON THE SOVIET UNION
The Minister. and Governora met with the Soviet rapra.antative.
twice y•• tl~day aad today to di.eusl the hi.torie evant. untoldina in
their country. The'l Illtinll reprllented a unique opportunity for a
dir.ct .xehanae with the Sovi.ts on the currlnt economic .ituation and
the .tatu. of their r.tora etfort •.
1.
2. The Hini.ter. and GOTernor. recoanized that thl Soviet Union and the
Republic. are confront ina •• riou. economic and tinancial proble.l. Th.y
rlTilw.d the effort. beina aad. to tran.tora the Sovi.. Union to a
.arkat-otiented econo.y. In thil context, they welco.ed the recent
alz ....nt. with the IM!' on a Sp·.eial Anoeiation and the utabU.hment
of the Technical A•• i.tanee Tru.t Fund in the World Bank. Th.y .tr •••• d
the i.portance of the impll.lntation of appropriate adju.taent and
refora poliei •• with the lupport ot the international tinancial
in.t:1tutioll •.
3. The Soviet repre •• ntativ., delcribed the i ..,diate econo.ic
difficultie. th.y taci and welco.ed the .tap. beinl tak.n by thl G-7 and
oth.~ countrie. in the a~.a of humanitarian al.i.tanee for tood and
ledidnl.
4. The Mini.tlrt and Governor. and the Soviet teprl •• ntltiv •• allo
4i.cu •• ed the Ixternal payeent' .ituation. In thi. r'lard, thlY
,tronlly .040:.,d the intention o~ the Sovi.t Union and the aepublic. to
:e.olTI certain fundamental i.,UI •••• ential tor thl .aintenance of
int'fnational creditworthine •• and to~ an.urine th.ir ICC.'. to ne.
er.dit', includin.:
-
the introduction ot compreben.iv. economic r.form prOlra.'j
th, cle.r co••it.ent by both thl Cant.: an4 Republic
autho~iti •• to the ti.aly .erTicin, of all financial oblilationli
the e.tabli.h.ent at an op.~ation.l tra.awork tor fulfillina .
exi.tina and tuture financial r •• pon.ibilitie. of the Canter and
a.publicI;
the full di.clo.Uf. of Soviet econoeie and fiaancial data.
5. Thl Minilter. and Govlrno~. :ecoln1z14 that the adoption of a more
open, d•• qcratic political .yet •• and the initiation of wide-ranlinl
Icolloeic refora. in the Sovi.t Uni~~. inclu4in •• t.p, toward. the
i.pl ••entation of a treaty creatinl an econoaic co..unity, ar. re.ultiDI
1n a r •• tructurinl of tinancial relation. betw.en the Cent.r and the
Republic.. They veleo••d the.e d.v.lop.ent •• notinl that they are
takinl place in thl cont.xt of heiabtened financial unc.~tainti... The
Soviet reprl.antative. requested a continuiol dialolue with the major
indu.trial countri •• to help th •• daal with their Iconoeic and financial
proble•• within ·the !ra.ew·orlt ot paraaraph four above. Th.retore. the
Hinilee:' and Governorl have alr,ed.to .end the G-7 D.puti,. to MOleow
.hortly to di.cu ••• pecific .pp~o.che. tor deal in, with th •• e i •• ue •.
October 13, 1991
Communiqu' of t~e Interim Co •• ittee
ot the Board ot Gov.rnor. or the
InternatioDI. Honctary Fund
1.
Tha lnt.rim Committee ot the Board ot Gov.rnor. of tho International
Mon.tary Eun4 met in Banakok, Thail~nd on October 13-1~, 1991 und.r the
chairman.hip ot Hr. Carlo. Soleh'aa, Hini.t'f ot Economy .nd Finane. or
Spa!n. Hr. i:ichel Camd ••• us, Han.aina Director, participated in the
Nletinl. which wa. allo att.nd.d by a number ot ob.orvara. A U.S.S.R.
delaaation WI. invitld to attend .ome ot the di.eu •• ion.
2.
Th. COMmittee ob •• rvod that the pronoune.4 Ilowdovn o! ~orld econoMie
arowth thi. yaar wa. expected to be followed i~ 199~ ~, • mod.rat. recov.~y.
Th. r.cant ~odlr.tion ot inllation would lik.ly continul, improvina
pro.p.ct. for .u.t.in.d arowth in the .edium tlr •.
Honatary and fi.eal policiel in the industrial countri ••• hould
continut to tocu. on Ichievin, thl ~edium-ttt= objective. of .u.t.in.d
.lobal expan.ion, prolre •• toward pricI .tability, .n4 provide the b•• i. ror
low.r ,.al incar •• t ratt.. Structural reloral. includina ml •• ur •• to rtduca
trade ra.triction. and to improvt the tunction!n. of labor mark.t., ara
n,edtd to .nhanee aco~omic .tllci.n~y Ind, in many countri ••• r.duce
par.i.t,nely hiah un.mployaent. Continued proare •• in tile.l con.olidation
~ould help to iner.a ••• avinl. r.i •• privata inve.tmlnt Ind potlntial
output, and all,viltl thl d,bt-I.rvle. burden of helvily indtbt.d countti ••.
Th. n.td to rai.1 Ilobal .evine i. haightln.d by the new claim. on re.ourc ••
••• ociacld with rtcon.truction in the Hiddle E"t, unilication in G.rml~Y,
the Icono.ic tran.formation of Ea.torn Europ., and pro.plct. for reform in
tha U.S.S.R. It i ••••• nti.l that the ••• dditional dtm.n~. b. ~.t by reduction. in the ab.orption ot Ilvina by aovlrnment. and .n incr •••• in privati
•• vina, In that r •• pact. In impo~t.nt contrib~tion could b•• Id. by
r ••••••• in •• plndina on defan •• an4 ,ub.idil •.
3.
Thl Committ •• wa. unanimou. in it. concern oVlr th. dllay. in the
Uruluay Round and the attlndant ri.k. to thl world economy. Tha Committeo
,.phl.llid thlt the libaralization ot the trade .y.tem ~ould contribute
importantly to slobal Iconomic arowth and thereby to tha relolution of the
debt probllm. The tailure of the Round could .ariou.ly jeop.rdi~o the
intarnation.l trada and plymlnt Iy.tem, ot which thl multilateral
in.titution. ara an intearal part ••• well •• the outwlrQ-lookina economic
retorm •• upportld by the Fund and the World B.nk, under which many countri ••
havi proc •• dld unilatarally to di.mantl. trade blrrier.. Th, Committ ••
thar.tora ufl14 all lovlrnmlnt. to attach the hi,hllt politicil priority to
a .peedy Ind lucc ••• ful conclu.ion to the Round in ord.: to r.llizl thl
efficiency •• in. on which tuture Stowth dapend.,
4.
Th. Co •• itt •• r.affirmed itl .uppott tor the intern.tional debt
.trat'IY, It WI. Incoura.,d by the progr.l. made by an incraalin. number ot
d.v,lopinr count~t'. toward re.torina axt,rn.l viability .nd achi.vina
lu.t.lnah 0 .rowtb. Thil taltifi •• to the atfactivenl •• ot tb. Irowthorient.d adju.t •• nt polici •• that have been lupportld by th. int'rna~ionll
co •• unity and of thl inltrumlnt. dlvllop.d to a •• i.t memb.r. in thl
rl.olution of their debt difficulti •• , includina eo •• arci.l bank dabt and
debt .ervice reduction. Thl Committee welcomed eaeraina tr.nd. toward
capital r.patriltion and tho r.covlry of privati direct invI.talnt flow •• I I
well a. the :e.u.ption in .oae c •••• ot voluntary c.pit.l m.rket tinlncin,.
It Itre.led the i.portanee of continuld Idequat. and ti=.ly tinanci.l
.upport tor .11 countrit. that are .u.tainin, .ound polieia.. In thi.
context. the li.t ot countrie. eli,ible tor ,upport under thl tSAr .hould b,
k.pt under eon.id.ration with a view to a po •• ibla .xpan.ion.
Direct financial a •• i.tanc. trom bilataral creditor •• nd otficial debt
r,.tructurinl r •• ain e ••• ntt.l. A. coneorn •• p.cilic.lly the poor •• t, =o.t
indebted countri,., the Co~~itte •• cknowledaed tho need tor more
cone ••• ion.l r •• tructurina t.ra. in .upport ot .ound .conomic action.. Th.
Coa.itte, call.d on thl Pari. Club to continul it. di.cu •• ion. on how be.t
to impl.m.nt promptly .dditional d.bt r.lief mea.ure., on a ca.e by cI.e
ba.i., that 10 WIll b.yond the relilt IlreldY~ir.nt.d undlr the Toronto
term.. The Committe. al.o uraad co.mercial bank, to provide ,upport to
countrie •• na ••• d in .trona .cono~ic r.form prolram. that have continu.d to
•• rvic. their d.bt d•• pit. v.ry ditti~ult .xtarnll circum.tanc... It 11.0
call.d ufon .11 parti •• to work txp.ditiou.ly toward a nora.lil.eion at
tinancia r.lationl in tho •• ca ••• wh.re r •• tructurina ot bank debt i. a
nec •••• ry tG~pl.ment to .trona do.a.tie adju.tm.nt .ltort •.
5.
Th. Coamitte. w.raly welcom.d the continu!n, commitmant ot EI.tlrn
Europeln countri •• to .tabilie!n •• nd reforminl their Iconoai •• alonl markle
orilnt.d lin.1 in .pitt oC the addad ditficultie. eau.ad by the colla~., ot
tr~de in the toraer CM!A .r...
The Committal rea ••• rt.d the iaport.nci tor
th, •• countril' to mov •• p.adily with in.titution.l and .tructural rltor~,
includina the openin. ot their economie •. . The Comaitte. pr.i •• d the rlpid
and eftectiv, re.pon.a of the Fund to the chana •• in E•• cern Europa, .nd itl
toll, in coop.rltion with the World Bank, the fBRD. the G-2~ .nd tha Pari.
Club, in or.anilinl (inlneinl tor the r'lion in 1991 . Adju.t •• nt .ltort. in
th ••• countrie. mUle continue to b • • ctiv.ly .upportad durin. thl n.Kt f.w
ye.r. by ad.quat •• nd ti •• ly tinanc!n •• with priv.tl fio.ncin. playina .n
iner ••• inlll i.poftlnt ~oll. Improved ICCI •• to indu.trial country market.
11.0 i. ind .pan.able to the rlorilntation and r.coy.ry ot tha •• Icono.t, •.
6.
Thl Com.ittae w.lcomed thl intention ot thl authoritie. in the U.S,S.R.
to intanlity fllilnc. on .arkat Mach'ni.m. and to intearlte the economy into
the multilat.r.l tradl .nd pay~ent •• y.tl., In vilw ot the prl.ent
circum.tance. ot the country. the Co •• itt •• warmly welcom.d the .i.nina ot
the Spacial A•• oci.tion betwe.n the U.S.S.R . • nd the Fund. al a .t.p toward
ml.ber.hip. Th. wide r.naina experti •• that ha. b.eom •• v.ilable und.r thi.
"Iociation will a •• i.t thl luthoritil' in ao~inl torward with ur,.ntlY
ne.dld .conoaic .t.bilialtion .nd .tructural r.tora •• 0 I . to overcoat the
curr.nt cri.i. 'and .at the .t.ae for a .ucce •• tul trln.torm.tion of th.
Bcono.y.
Th. Co •• itt •• took .toek ot the prolr ••• m.dl by m•• ber. in con.antina
incr ••••• in thair quota. und.r the Hinth a.nlr.l R,vilw and in lac.pcin.
che Third A•• nd.,nt ot the A~ticl ••. Th. Co.~itt •• ur •• d tho'l ••• b.r. who
h.y. not y.t don •• 0 to co.platl thl n.c •••• ry procedure. beforl the .nd ot
thi. YI.r.
7.
to
8,
Th. Co •• itt" .xpr •••• d it. appreci.tion to the Kin,do •• nd p.opl. ot
Thlil.nd for thlir warm hOlpitality. It 'Ir •• d to hold it. neHt .e.tina in
Wa.hinaton. D.C. on HondlY. April 27. 1992.
UBLIC
D~~T,. NEWS
Department of the Treasury • Bureau of the Public Debt • Washington, DC 20239
kr
FOR IMMEDIATE RELEASE
October 15, 1991
1 ; JlcQ,KT1&r9
~ffice
of Financing
202-219-3350
RESULTS OF TREASURY'S AUCTION OF 13-WEEK BILLS
Tenders for $10,812 million of 13-week bills to be issued
October 17, 1991 and to mature January 16, 1992 were
accepted today (CUSIP: 912794XV1).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
4.97%
5.00%
4.99%
Investment
Rate
5.12%
5.15%
5.14%
Price
98.744
98.736
98.739
Tenders at the high discount rate were allotted 28%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Received
30,855
27,999,200
32,010
56,370
148,950
38,695
1,985,935
44,.355
7,535
37,875
25,160
1,031,015
783,120
$32,221,075
Accepted
30,855
8,833,890
32,010
56,370
73,350
31,495
686,735
14,355
7,535
37,875
25,160
198,855
783,120
$10,811,605
Type
competitive
Noncompetitive
Subtotal, Public
$28,190,810
1. 698,715
$29,889,525
$6,781,340
1,698,715
$8,480,055
2,146,720
2,146,720
184,830
$32,221,075
184,830
$10,811,605
Federal Reserve
Foreign Official
Institutions
TOTALS
An additional $164,970 thousand of bills will be
issued to foreign official institutions for new cash.
NB-1499
UBLIC DEBT'o'NEWS
Department of the Treasury • Bureau of the
FOR IMMEDIATE RELEASE
October 15, 1991
J&blic b~btD~WaSh~~J>n, DC 20239
.CONTACT: Office of Financing
..
202-219-3350
RESULTS OF TREASURY'S AUCTION OF 26-WEEK BILLS
Tenders for $10,839 million of 26-week bills to be issued
October 17, 1991 and to mature April 16, 1992 were
accepted today (CUSIP: 912794YJ7).
RANGE OF ACCEPTED
COMPETITIVE BIDS:
Low
High
Average
Discount
Rate
5.01%
5.03%
5.03%
Investment
Rate
5.23%
5.25%
5.25%
Price
97.467
97.457
97.457
Tenders at the high discount rate were allotted 57%.
The investment rate is the equivalent coupon-issue yield.
TENDERS RECEIVED AND ACCEPTED (in thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
st. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Received
26,625
28,137,500
15,045
33,600
39,760
51,710
1,509,540
34,435
7,680
39,840
21,075
696,840
665,195
$31,278,845
Accepted
26,625
9,473,190
15,045
33,600
37,610
42,990
254,740
17,285
7,680
39,840
21,075
204,050
665,195
$10,838,925
Type
Competitive
Noncompetitive
Subtotal, Public
$27,137,615
1.215,960
$28,353,575
$6,697,695
1.215,960
$7,913,655
2,450,000
2,450,000
475,270
$31,278,845
475,270
$10,838,925
Federal ·Reserve
Foreign Official
Institutions
TOTALS
An additional $436,730 thousand of bills will be
issued to foreign official institutions for new cash.
NB-1500
TREASUR'l,,;,NEWS
Department of tile Treasury • wasilington, D.C. • Telephone 5&&-204'
FOR RELEASE AT 2: 30 P.M.
October 15, 1991
kr I te~~eT~ v af~ice
of Financing
202/219-3350
.. 1
TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for two series of Treasury bills totaling approximately
$21,200 million, to be issued October 24, 1991. This offering will
provide about $3,050 million of new cash for the Treasury, as the
maturing bills are outstanding in the amount of $18,142 million.
Tenders will be received at Federal Reserve Banks and Branches and
at the Bureau of the Public Debt, Washington, D. C. 20239-1500,
Monday, October 21, 1991, prior to 12:00 noon for noncompetitive
tenders and prior to 1:00 p.m., Eastern Daylight Saving time, for
competitive tenders. The two series offered are as follows:
91-day bills (to maturity date) for approximately $10,600
million, representing an additional amount of bills dated July 25,
1991, and to mature January 23, 1992 (CUSIP NO:~ 912794 XW 9),
currently outstanding in the amount of $10,933 million, the
additional and original bills to be freely interchangeable.
182-day bills (to maturity date) for approximately $10,600
million, representing an additional amount of bills dated May 24,
1991, and to mature April 23, 1992 (CUSIP No. 912794 YK 4),
currently outstanding in the amount of $16,014 million, the
additional and original bills to be freely interchangeable.
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. Bo~h series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for
Treasury bills maturing October 24, 1991. In addition to the
maturing 13-week and 26-week bills, there are $10,132 million of
maturing 52-week bills. The disposition of this latter amount was
announced last week. Tenders from Federal Reserve Banks for their
own account and as agents for foreign and international monetary
authorities will be accepted at the weighted average bank discount
rates of accepted competitive tenders. Additional amounts of the
bills may be issued to Federal Reserve Banks, as agents for foreign
and international monetary authorities, to the extent that the
aggregate amount of tenders for such accounts exceeds the aggregate amount of maturing bills held by them. For purposes of determining such additional amounts, foreiqn and international monetary
authorities are considered to hold $1,410 million of the original
13-week and 26-week issues, but hold none of the original 52-week
issue. Federal Reserve Banks, for their own account, hold $7,139
million in combined holdings for the three issues of maturing
Dills. Tenders for bills to be maintained on the book-entry
records of the Department of the Treasury should be submitted
on Form PD 5176-1 (for 13-week series) or Form PD 5176-2 (for
26-week series).
NB-1501
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Paqe 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. Others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
competitive tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.
1/91
TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from anyone
bidder will be accepted in full at the weighted average bank
Qiscoun~ ra~e lin ~wo Qecima~s) ot accep~eQ compe~i~ive bias
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
~n the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturinq on that date. Cash adjustments
will be made for differences between the par value of the
maturinq bills accepted in exchanqe and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons desiqnated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
durinq the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, PUblic Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's sinqle
bidder quidelines, and this notice prescribe the terms of these
Treasury bills and qovern the conditions of their issue. Copies
of the circulars, quidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.
8/89
@FedFRASER