The United States disputed Principal Life Insurance Company’s (Principal Life) claim of foreign tax credits associated with a complex structured financial transaction (Pritired Transaction). The deal involved the use of a tax partnership where Principal co-invested with foreign investors, with Principal attempting to claim foreign tax credits on the foreign taxes paid on a $1.2 billion portfolio of assets held by the French banks involved in the transaction. The partnership was designed to be characterized as an equity investment for US tax purposes. A key issue in dispute was whether the partnership was an equity investment by the Principal, the US investor, or should be recast as a loan thereby eliminating the US investor’s ability to claim foreign tax credits.
Retained by the United States Department of Justice as an expert in structured finance transactions, the economics of the capital markets, and the risks & rewards of capital market transactions. Finard’s report and testimony provided an expert opinion regarding how the capital markets would analyze and characterize the attributes of the $300 million investment by Principal Life in a foreign entity. Specifically, the analysis focused on the characterization of the transactional mechanisms by which the $300 million was transferred by, and returned to, Principal Life. Using the financial market techniques and approach utilized by market practitioners, CapMarket evaluated whether Principal Life’s investment had capital market attributes more similar to a loan with debt-like characteristics or the equity-like attributes of an equity investment. Finard concluded that the deal was more akin to debt than equity.
Result: Court Rules for USA (2011)
Judge Jarvey, of the US District Court for the Southern District of Iowa, ruled in favor of the United States, awarding the United States back taxes, interest, penalties, and court costs. The ruling recast Principal Life’s purported equity investment in the partnership as debt. The Court supported the decision by observing that the purported equity investment had no upside potential because the returns were capped and Principal Life intended to recover its original investment regardless of the performance of the underlying assets in the structure. Moreover, the Court ruled that the Pritired Transaction lacked a business purpose and that the deal was designed to appear as an investment in an equity partnership, but was primarily structured to generate foreign tax credits for the US taxpayer.
Judge Jarvey cited Finard’s testimony in support of the Court’s opinion:
“Lastly, Finard considered the B Shares and PCs to be debt-like for both the Return Analysis and Investment Objectives. There were floors and ceilings on the returns, thus fixing the possible range of returns for the PCs and B Shares. Likewise, there was a known return and a return of principal for both instruments and Pritired did not expect to be rewarded for any increase in the value of the SAS entity. These are very persuasive pieces of evidence that genuinely support his opinion.” (Page 41)
“The experts reached different conclusions: Finard opined that the instruments were more debt-like, whereas Carron [President of NERA retained by Principal] opined that the characteristics were more equity-like. The Court finds the analysis of Carron and Finard helpful in analyzing the risk and reward attributes of the PCs and B Shares, as well as understanding the economics of the Pritired transaction. The Court incorporates the findings of these experts in its own examination of the risk and reward attributes of these instruments. The Court finds, on balance, that the investment characteristics were like debt.” (Page 44)
US District Court Opinion (September 2011)