Partial Retention of Reserve Deduction Would Cut $400 Million from New Tax

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Partial Retention of Reserve Deduction Would Cut $400 Million from New Tax

Lobbying by the banking industry to rescue the tax deduction for loan-loss reserves is expected to shave only about $400 million off the $4 billion or more that bankers will owe as part of the reform initiative nearing final congressional approval.

On Monday, Sen. Bob Packwood, R-Ore., chairman of the tax-writing Senate Finance Committee, unveiled details of a new plan to terminate the current deduction.

The new plan works like this:

Banks with less than $500 million in assets would operate under current law, meaning that 0.6% of loans can be kept in a tax-deductible loan-loss reserve. There are about 450 banks in the U.S. within this category

Banks with more than $500 million but with serious loan losses also would retain the deduction. To qualify, problem loans must constitute 75% or more of capital. Problem loans are those with payments at least 90 days overdue.

Healthy banks with more than $500 million in assets would be required to pay taxes on the current reserve over four years. In the first year, taxes must be paid on 10% of the reserve; in the second year, on another 10%; in the third year, taxes are owed on 20%; and in the fourth year, the bank must pay taxes on the final 60% in the reserve. Anything put into a bank's reserve after 1986 would be fully taxable.

Healthy banks whose loan losses suddenly slip above 75% of capital can cease paying taxes on the reserve until their loan portfolio improves. At that point, they must resume the 10-10-20-60 schedule where they left off.

According to congressional figures, protecting problem banks will save the industry about $400 million. But bankers still will be paying more than $3.5 billion in new taxes because of the change.

"It will provide some liquidity and increase present value of the reserve,' said a representative of the American Bankers Association. Present value refers to the concept that $1 is worth more when paid now than when paid in the future, because of inflation and earning potential.

Also part of the latest Senate plan are easier transition rules for new taxes proposed on lenders that make money available to a specific group of 15 developing nations. The compromise would give bankers three years to make new loans to the Latin American and African nations and then five years to adapt to the new law. The previous plan imposed the new law in three years.

The change is aimed at encouraging lenders to boost credit to the 15 developing countries as part of the plan proposed last year by Treasury Secretary James A. …