Paul L. Caron

Monday, September 29, 2014

WSJ: Fed Questions Banks' Use of 'Dividend Arbitrage' to Cut Hedge Funds' Tax Bills

Wall Street Journal:  Fed Questions Bank Maneuver to Reduce Hedge Funds' Dividend Taxes; 'Dividend Arbitrage' Helps Big Banks Generate More Than $1 Billion in Revenue, Draws Criticism, by Jenny Strasburg:

Large banks generate more than $1 billion a year in revenue by helping hedge funds and other clients reduce taxes through a complicated trading strategy that has drawn criticism from U.S. authorities.

Known as "dividend arbitrage," the strategy is run largely from London, where the banks temporarily transfer ownership of a client's shares to a lower-tax jurisdiction around the time when the client expects to collect a dividend on those shares, according to people familiar with the matter.

The maneuver typically enables bank clients to reduce taxes from as much as 30% of the dividend payment to 10% or so—and sometimes to zero. The savings are divided between the client, bank and entities that take ownership of the shares. The business largely involves tsocks listed in Europe and Asia.


Banks and hedge funds say dividend arbitrage is an attractive, legal way to shrink tax bills through the differences in withholding rates around the world. ... But Bank of America recently was questioned by U.S. regulators about potential legal and reputational risks from the maneuver, according to a spokesman for the Federal Reserve Bank of Richmond. ...

Last year, Bank of America estimated that trades aimed at helping clients reduce withholding taxes on stock dividends generated more than $1.2 billion for the bank from 2006 to 2012, according to people familiar with the internal estimates. The bank projected it would get $100 million in revenue from the trades in 2013, mostly from Europe, these people added.

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