Elizabeth Warren helped establish the Consumer Financial Protection Bureau and is a U.S. Senate candidate in Massachusetts. Damon Silvers is director of policy and special counsel to the AFL-CIO. Mark McWatters teaches taxation and directs the graduate programs at the Southern Methodist University Dedman School of Law. Kenneth Troske is chair of the economics department at the University of Kentucky. They served on the Congressional Oversight Panel established by the Emergency Economic Stabilization Act of 2008.
When the U.S. economy was in crisis in October 2008, Congress passed a $700 billion bailout of our financial system. The Troubled Assets Relief Program (TARP) was heavily scrutinized in the media and passionately debated on Wall Street and Main Street. Congress created a bipartisan committee — on which we served — to oversee the funds distributed through TARP. The committee conducted dozens of public hearings and produced 30oversight reports.
Compare that experience with a recent event. AIG, a massive insurance company that received $182 billion in TARP and Federal Reserve bailouts during the financial crisis, reported in February that it had earned $19.8 billion in the fourth quarter of 2011. Its profits increased a staggering $17.7 billion — from a loss of $2.2 billion a year earlier — because of special tax breaks from the Treasury Department.
Yet there was no congressional debate, no front-page story, no special oversight committee. What happened?
When filing tax returns, companies must report whether they have turned a profit or lost money. If they have made a profit, they must pay the appropriate taxes. On the other hand, if they have suffered a loss, they may “carry forward” that loss to reduce future tax bills.
A company that loses $100 million in one year and profits $500 million the following year will pay taxes on only $400 million of the profit, thanks to the reserved tax loss. That $100 million tax loss “carry forward” has clear monetary value: At today’s corporate tax rate of 35 percent, a company could reduce its tax bill by $35 million.
The basic concept of carrying forward past losses is an important feature of U.S. tax law, but it opens a potential loophole. A business that wishes to lower its taxes might acquire companies with enormous past losses just to minimize its tax burden. To prevent this, U.S. tax law since 1986 has limited carry-forward losses when a company changes ownership.