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Agenda Evolution of Tax Regulatory Reporting

Where is Tax Information Reported for Regulatory Purposes?

Overview of Basel III DTA Disallowance Calculations

Tax Regulatory Reporting Process

Tax Regulatory Reporting Process – Trends

Industry Insights and Practices

M&A Due Diligence

Evolution of Tax Regulatory Reporting Background Evolution of focus of tax accounting – GAAP and regulatory 1993 – DTA limit introduced 2002 – 2007 – Sarbanes-Oxley impact 2010 – 2013 – Basel III and stress tests

Final Rule to implement Basel III capital guidelines in the U.S. was approved in July 2013 Fed instructions to compute regulatory capital under Basel III proposals for Comprehensive

Capital Analysis and Review (CCAR) and quarterly capital assessments.

Tax department outputs – inputs to regulatory compliance and capital reporting

Current Rules and Deferred Taxes Background – Current U.S. bank regulatory rules for taxes DTAs recognized as “good assets” for regulatory capital:

1. DTAs are allowed to the extent they can be netted against DTLs 2. Net DTAs are allowed if they can be carried back against taxes previously paid 3. Remaining net DTAs are allowed to the lesser of:

1. Projected tax or the 12 months following the reporting date; or 2. 10% of a bank’s Tier 1 capital

Accumulated other comprehensive income (AOCI) items are reversed Determined net of associated DTAs/DTLs, with option to also include or exclude from

limitation calculation.

Where Is Tax Information Reported? Call reports – bank call report (FR-Y-9) Capital calculations – Sch. HC-R Stress tests – DFAST/CCAR – Intend to make DFAST reporting similar to CCAR

CCAR Reporting Package FR Y-14A – CCAR annual forecast of losses , resources, balance positions,

capital composition on a quarterly basis (forecast by quarter) 14Q which collects BHC-specific data on positions and exposures apparently

has two functions: Function 1: fed will use data as input to design of supervisory stress models. Function 2: fed will use to monitor actually versus forecast on quarterly basis.

FR Y-14M – monthly data collection to provide more timely data on loan portfolios

Where Is Tax Information Reported? (cont.) Stress tests (cont.)

DFAST Reporting Package Annual Filing : FR Y-14A; modeled after FR Y-14A (only required annually, not

monthly) Mid-Cycle company run stress test (>$50B) : modeled after FR Y-14A (under

comment period) DFAST $10-$50B Results Template and Scenario Variables Template

Release for public comment pending

10K/Q footnotes

Basel III Final Rule – Adjustments to Capital & Transition Rules

Effective dates of Final Rule 1/1/14 for AA Banks 1/1/15 for Non-AA Banks

Adjustments to and deductions from GAAP equity to arrive at required capital under the Final Rule The adoption of these adjustments and deductions are generally phased in over a five-year

period. All institutions ( AA and Non-AA Banks) use same transition percentages in 2015 and

following.

2014 2015 2016 2017 2018

CET1 Deduction 20% 40% 60% 80% 100%

Carry forward DTA – Tier 1 80% 60% 40% 20% 0%

Basel III Final Rule – Summary Deferred Taxes Guidelines DTAs only netted against DTLs in the same jurisdiction and if the same character DTLs are allocated pro-rata against all DTAs

NOLs Credit carry forwards DTAs from timing differences

Net operating loss (NOL) or credit carry forward DTAs are subtracted from CET1 (net of pro-rata allocated DTLs)

Net DTAs arising from temporary differences are treated as good assets if they: Can be carried back against previously paid taxes on a jurisdictional basis Do not exceed caps set in the Threshold Deductions calculations

AOCI, except cash flow hedges, included in CET1, unless the institution “opts out” DTA/DTL netting is allowed against other regulatory adjustments subject to certain

rules

Basel III Final Rule – Adjustments to Capital Threshold Deductions: Three items are treated as good assets to the extent:

Individually less than 10% of adjusted CET1 Collectively less than 15% of CET1

DTAs Mortgage Servicing Assets (MSA) Significant Investments in Unconsolidated Financial Institution stock

Basel III Final Rule – Special Considerations Some uncertainty exists in the carryback treatment

Allowed DTAs are either: DTAs that could be realized by carryback net of DTLs DTAs that could be realized by carryback gross before allocation of DTLs

Guidance likely via individual regulatory review

Final Rule is silent on whether DTAs and DTLs are assumed to reverse at the report date No change to current treatment indicated

State Taxes – analyze treatment on jurisdiction by jurisdiction basis Utilize each jurisdiction’s tax laws for netting and carryback

Basel III Final Rule – Examples Facts CET1 = $5,000 Federal NOL DTA: $500 ALLL DTA: $1,000

Federal DTL: ($400) Taxes Paid (Current + 2 prior years) = $800 Projected 2014 Tax: $400

Analysis Current Rules Basel III – Netting before Carryback Basel III – Netting after carryback

10% of CET1 (5000 x 10%) 500 500 500

Net DTAs & DTLs 1,500 DTA - 400 DTL

1,100 (133) NOL (267) Temp

NOL: 367 Temp: 733 Total: 1,100

NOL: 500 Temp:1,000 Total: 1,500

Carryback: Remaining DTA:

(800) 300

Remaining Temp: Remaining NOL:

(800) 0 367

Remaining Temp: Remaining NOL:

(800) 200 500

Net DTAs & DTLs

$ (286) NOL $ (114) Temp

NOL: 214 Temp: 86 Total: 300

12 month forecast / Threshold Deduction

(400) ( 0) (500)

Total DTA Disallowance 0 367 214

Basel III – AOCI Opt-Out Most components of AOCI must be included in calculating common equity Tier 1 capital Opt-Out Election is available for Non-AA Banks

One-time election to “opt out” of the requirement to include certain AOCI items Applies to all regulated subsidiaries Must be made on the first regulatory report filed after the date the organization is

required to comply with the Final Rule In certain merger, reorganization and acquisition situations there is a possibility of a

change in election

Basel III Final Rule – Netting of Deferred Taxes Against Other Regulatory Adjustments

A High-Level Summary of Final Rule Sections relevant to Netting: Section 22(b)* – “fair value measurements or similar adjustments” Section 22(a) -- i.e., goodwill or other intangible assets Section 22(c) and (d) – i.e., MSAs and significant investments in unconsolidated subsidiaries Netting is irrevocable without prior consent of regulator

Timing of election? 22(a) DTL 22(a) DTA 22(b) DTL 22(b) DTA 22(c)/(d)

DTL 22(c)/(d)

DTA

Net Against Associated Item

May Net OR

Cannot Net

Must Net AND

Must Net AND

May Net OR

Cannot Net

DTA/DTL Included in Threshold Calculation

May include/ exclude

Must Include

May include/ exclude

May include/ exclude

May include/ exclude

Must Include

Regulatory Reporting Process – General Responsibilities – Tax & Regulatory Compliance / Treasury Quarterly capital calculations and GAAP disclosures

OCI and other tax-effected items DTA/DTL netting and allocations 10/15% threshold tests

Stress tests – CCAR / DFAST Book projections Tax projections/carry back of forecasted tax losses OCI and other tax-effected items DTA/DTL netting and allocations 10/15% threshold tests Documentation of assumptions

Tax Regulatory Reporting Process – CCAR / DFAST Overview of timing and frequency Overview of scenarios & schedules Effective rate experience in CCAR

Regulatory Reporting Process – General Tax Review of Regulatory Compliance Output Internal controls Documentation Joint Determination of Netting Elections – Transition Period and Final Internal Forecasts Frequency of DFAST/CCAR

CCAR Annual capital plan and projections Monthly/quarterly – actuals reporting

DFAST – annual for all banks and mid-cycle for >$50B banks Frequency of organization’s needs

Budgeting, changes in business model

Regulatory Reporting Process – Trends Frequency of meeting with regulatory compliance / Treasury Formalization of policy and procedures State deferred tax treatment Calculation and forecast tools Coordination with tax provision software Incorporation of Basel III reforms into CCAR and DFAST

Interim Final Rule issued Sept. 24

Sample Insights and Practices from US Bank Background Capital is King!! Understand where information is being used Communicate, communicate and communicate Review rules; confirm understanding/interpretations Install processes in line with other key financial reporting responsibilities Review final output to understand results and dynamics of calculations

Sample Insights and Practices from US Bank (cont.) Organizational Responsibilities Treasury/capital planning Management accounting Corporate tax External reporting

Regulatory reporting Financial reporting

Sample Insights and Practices from US Bank (cont.) Our Tasks Calculation of effective tax rate Calculation of estimated current taxes payable

Carryback capacity AMT/Business credit limitations

Estimation of temporary differences and impact on DTA/DTL

Calculation of estimated DTA that may be relevant for capital calculation Grossed up DTAs/DTLs Carryback analysis Carryforward identification Allocation of DTLs to various DTAs

Documentation

Considerations

Technology

Process integrity

Coordination with other reporting

Tax return/estimated taxes

GAAP reporting

Required scenarios and timing

Compliance

Coordination on transition rules

M&A Due Diligence Book goodwill and capital Deferred taxes and capital Asset purchases Stock purchases Integration with existing deferred taxes Example

M&A Due Diligence EXAMPLE

Assume no existing tax basis GWAssume BV =FV for MSR, LLR, LeasingAssume GW does not impair in the future

Stock Purchase Asset Purchase DELTANew Book Goodwill 1,000 1,000 - New Book Intangibles 2,000 2,000 - Existing Leasing DTL (3,000) - (3,000) Existing MSR DTL (4,000) - (4,000) Existing LLR 2,000 - 2,000 Tax Basis Intangible - NEW DTL (800) - (800) Component 1 GW- FUTURE DTL - (400) 400