Bankers' Group Raises Concerns With Proposed Mark-to-Market Regulation

I am looking forward to your address next Monday at the Economic Club luncheon. In that connection, I wanted to share some concerns that have been expressed regarding the need to remove regulatory impediments to New York maintaining its preeminent stature as an international financial center.

One example of such a regulatory impediment that is within the Treasury Department's purview is the proposed tax regulation containing a much-needed safe harbor (the "book/tax conformity safe harbor") for valuing securities that are subject to the mark-to-market rules of Internal Revenue Code section 475. However, this proposed regulation excludes from its ambit nearly all internationally headquartered (i.e., non-U.S.) financial institutions because, as proposed, the safe harbor is limited to those financial institutions that prepare U.S. GAAP financial statements.

For over a year, we have been urging the Treasury Department and IRS officials who are responsible for this regulation project to eliminate the disparate treatment of U.S. and internationally headquartered financial institutions by accepting the mark-to-market valuations under International Financial Reporting Standards ("IFRS") and other non-U.S. GAAP financial reporting standards that have been reconciled to U.S. GAAP in SEC filings. We believe that this approach is appropriate because the fair value of mark-to-market securities under these non-U.S. financial reporting standards is almost invariably the same as the fair value of those securities under U.S. GAAP, given that the definition of, and methodology for determining, fair value for these purposes are substantially equivalent to those under U.S. GAAP. Enclosed is a copy of our June 30^th letter to Under Secretary Randy Quarles outlining our position.

While this example is just one manifestation of the broader problem of regulatory barriers to making the United States more attractive to internationally headquartered financial institutions, we wanted to bring it to your attention because a solution seems so achievable.

Please let me know if the Institute can provide further assistance concerning this matter.

Dear Randy:

Thank you for meeting with us last week to discuss our concerns that the proposed tax regulation under section 475 containing a much- needed safe harbor (the "book/tax conformity safe harbor") for valuing securities that are subject to the mark-to-market rules of Internal Revenue Code section 475 excludes from its ambit nearly all internationally headquartered financial institutions. As discussed, this unfortunate differential treatment arises because, as proposed, the safe harbor is limited to those financial institutions that prepare U.S. GAAP financial statements.

Since last summer, we have been urging the Treasury and IRS officials who are responsible for this regulation project to address this problem in a manner that fully implements the policy objectives of section 475 and the book/tax conformity safe harbor. We have sought to allay the concerns expressed by some Treasury and IRS officials that they might need to undertake an extensive and time-consuming review of non-U.S. GAAP financial standards in order to ascertain whether they are sufficiently consistent with the requirements of the mark-to-market methodology used under section 475 and whether such standards are sufficiently rigorous and reliable so as to be accepted by the IRS. We believe that the information and expertise needed to evaluate our proposal is available within the Government -- in particular, within the Securities and Exchange Commission ("SEC"), and we stand ready to provide any additional assistance that might be useful in evaluating our proposal.

Essentially, we have proposed that benefits of the safe harbor be made available to those non-U.S. financial institutions that prepare financial statements in accordance with International Financial Reporting Standards ("IFRS") or those non-U.S. GAAP financial reporting standards for which financial institutions file annual reports with the SEC containing a reconciliation to U.S. GAAP, so long as the valuations otherwise meet the requirements of the safe harbor. We believe that this approach is appropriate because the fair value of mark-to-market securities under these non-U.S. financial reporting standards is almost invariably the same as the fair value of those securities under U.S. GAAP, given that the definition of, and methodology for determining, fair value for these purposes are substantially equivalent to those under U.S. GAAP. Indeed, we are not aware of any situation in which an adjustment of any consequence in this regard was deemed necessary by the accountants or the SEC for those internationally headquartered financial institutions that are SEC registrants and that prepare a reconciliation from their financial statements to U.S. GAAP. Moreover, these SEC filings have a very high degree of reliability given the severe legal and commercial penalties for filing misleading statements and the careful and multi-layered review of those statements by internal control departments, independent auditors, governmental agencies in the financial institution's home country and the SEC.

We believe that our proposal would not require Treasury and IRS officials to undertake an extensive and time-consuming review of non-U.S. GAAP financial standards because (i) the proposed regulations already incorporate the tax law requirements for a reliable mark-to-market system as conditions and limitations on use of the safe harbor, due to the desire not to have to monitor or audit the evolution and implementation of U.S. GAAP, (ii) the SEC and accounting firms have already concluded that the fair value of mark-to-market securities under IFRS and the other non-U.S. GAAP financial reporting standards for which reconciliations are filed with the SEC is almost invariably the same as the fair value of those securities under U.S. GAAP, (iii) especially in the case of financial institutions, the financial reporting standards throughout the world are sufficiently rigorous and are relied on by government regulators, management and the capital markets in the same way and to the same extent as U.S. GAAP so as to be accepted as reliable and (iv) non-U.S. financial institutions use the same systems and methodologies to determine the fair value of mark-to-market securities of their U.S. broker-dealer subsidiaries, which are prepared in accordance with U.S. GAAP, and the fair value of mark-to-market securities that are not reported on U.S. GAAP financial statements, due to business and internal control imperatives.

We understand that the book/tax conformity safe harbor is likely to be finalized soon, without addressing the concerns that we have raised. We respectfully request, at a minimum, that (i) the Treasury Decision accompanying the release of the regulation indicate that Treasury and the IRS are considering approaches to address this issue, and (ii) Treasury and the IRS undertake to provide guidance on the issue on an expedited basis, so that non-U.S. financial institutions are not placed in a disadvantaged position compared to their U.S.-based competitors for an extended period of time.

Once again, we appreciate your efforts to address our concerns. Please let me know if we can provide further assistance regarding this matter.