Monday, 12 March 2012

Ownership of Shares - Let's not forget economic ownership

In the March 11th, 2012 edition of the NY Times Business section the following article caught my eye. .This article discussed a consolidated return filing where in 2003 a Canadian Insurance company’s U.S. group filed a consolidated corporate income tax return wherein losses were sought to offset income of a more profitable subsidiary.  The consolidated filing resulted in a $400 million tax benefit spanned over three years, 2003 to 2006.  Note to the Canadian reader – consolidated corporate income tax filings are not part of the Canadian taxation landscape.  In the U.S. the common parent files the consolidated return with consent from its subsidiaries.  The common parent must also own 80% of the vote and value of all the subsidiaries.

Although the IRS has not objected to the consolidated return filed for 2003, a complaint has been lodged with the IRS Whistleblower Office on the basis that the 2003 consolidated return was erroneous due to the fact that the common parent of the consolidated group did not have true economic ownership of the profitable Odyssey Re shares.  In 2003 Fairfax losses were offset against the profitable reinsurer Odyssey Re Holdings Corporation whose shares were acquired through a $78 million I.O.U. maturing in 2010.  The I.O.U. was made out by Fairfax to the Bank of America in the Cayman Islands.  The Bank thereupon borrowed $78 million of Odyssey Re Holdings Corporation’s shares and transferred such shares to Fairfax which reimbursed the bank for its costs.  This transaction resulted in a $400 million tax benefit to the Fairfax group for the taxation years 2003 to 2006.  A well written article which discusses economic benefit and true ownership is found in Hedge Funds, Insiders, and Empty Voting: Decoupling of Economic and Voting Ownership in Public Companies written by Henry T.C. Hu of the University of Texas Law School and Bernard Black, University of Texas, Law School and McCombs School of Businesses and can be found at .  In the article the authors illustrate how to decouple votes from economic ownership.   One way is where an investor “borrows” shares from another.    Under the shareholder loan agreement, the borrower acquires voting rights but no economic ownership, while the lender has economic ownership without voting rights.  I guess the simple days where a voting share meant just that - ownership and a vote are over and I miss those simple days.

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