How American Taxpayers Could Lose $9 Billion

WASHINGTON, June 25, 2009— -- The government loaned hundreds of billions of taxpayer dollars to help struggling banks, but giving out cash is always easier than getting it back -- and now taxpayers could end up shortchanged by as much as $9 billion.

As a part of dishing out of nearly $200 billion to 623 banks from the $700 billion Troubled Asset Relief Program (TARP), the Treasury department received warrants to buy common stock in these banks. So when banks pay back the actual bailout money, the government then has to work out deals with the banks for them to buy back these warrants.

But with big money at stake here, the crucial question is: How much are these warrants worth?

To date, only a handful of smaller-sized banks have bought back the warrants from Treasury and already some critics are crying foul, warning that taxpayers are getting shortchanged.

Linus Wilson, assistant professor of finance at the University of Louisiana at Lafayette, found that taxpayers could lose up to $9 billion if Treasury makes more deals like the first one they made.

That deal was with Old National Bancorp of Evansville, Ind.

Earlier this spring, the bank spent 10 days working on a deal with Treasury. The bank initially offered $600,000. Treasury countered with a number "well north of there," the bank's CEO Bob Jones told ABC News.

Eventually the two parties settled on a price of $1.2 million.

Jones called it "a good deal."

Wilson called it "the worst deal that Treasury has made." Treasury, he calculated, only recouped about 20 cents on the dollar.

The main problem, he contended, is that Treasury has not opened up the process to third-party investors. If the government had more possible buyers for the warrants other than only Old National Bancorp, that would likely have led to a higher price – and more money back into taxpayers' pockets.

"Most homeowners don't sell their house to the previous owner. They usually find that a new buyer is willing to pay a higher price," Wilson noted. "Treasury's current approach of selling the taxpayers' warrants back to the banks who sold them in the first place has led to very bad deals for taxpayers."

Another problem, he said, is that bank CEOs like Jones are "more closely aligned" with their shareholders than Treasury's negotiators are with American taxpayers.

For his part, Jones acknowledged, "My primary role is to make sure I get the best value for my shareholders," but added that just across the negotiating table, Treasury was "very firm in their role to protect the taxpayer."

With about $11 billion worth of warrants, according to Wilson's estimates, the government had better be firm: a trio of oversight groups is already on the case.

The Government Accountability Office recently cautioned that Treasury's "limited" transparency about the valuation process has hurt taxpayers' chances of getting back a good chunk of their money from sales of the warrants. Specifically, the federal watchdog agency noted in a June report that Treasury has not revealed the initial offers made by either the department or the financial institution.

"By not being more transparent about the valuation process and the negotiations that were undertaken to establish the accepted warrant price," the GAO stated, "Treasury increases the likelihood that questions will remain about whether Treasury has best served taxpayers' interests. Given the broad-ranging risks inherent in TARP, Treasury must take steps to help ensure that its decisions are not only fair and equitable but also that they result in maximum value."

"Unless Treasury takes this type of broad-based approach," warned the non-partisan watchdog, "it may not ensure that taxpayers' interests are fully protected."

Two other government watchdogs -- the Congressional Oversight Panel and the Special Inspector General for the TARP -- have also ratcheted up their oversight of the warrant sales, calling it " critical to ensuring an appropriate return on investment for the government and, consequently, American taxpayers."

Not only are oversight panels paying close attention, but complaints can already be heard from lawmakers on Capitol Hill.

Sen. Jack Reed, D-R.I., for one, has told Treasury Secretary Tim Geithner that "taxpayers must be fairly compensated" in these warrant deals.

"If taxpayers are going to be exposed to downside risk, then they must share in the potential success of these financial institutions as they begin to recover," he said in a May 22 letter to the Treasury chief.

As more high-profile banks embark on the negotiating process, Jones worries that this sort of political pressure will lead to steeper opposition from the government, making a tough task even tougher.

"The political rhetoric out of Washington is very difficult. You've got sound bites coming out of Congress that put a lot of pressure on both Treasury and the banks," he cautioned. "There are people opining on the situation that just don't understand. They ought to let the experts do their job."

"Treasury is maybe going to become a bit more onerous in the process, particularly if they're criticized," Jones predicted. "If they get more public pressure, it may make it more difficult to buy back those warrants."

The financial industry also disputes the claim that taxpayers might lose money in this process.

"Taxpayers have already made money on the TARP deal because, one, they got the principle back and two, they received over $2 billion in dividends so far," said Scott Talbott, chief lobbyist for the Financial Services Roundtable in Washington. "Any money Treasury receives from the sale of the warrants is gravy on top of that. The warrant repayment issue is caught up in a political push/pull about protecting the taxpayer and companies leaving TARP."

The government wants to offload the warrants as quickly as possible, according to Geithner. But as he told a Senate panel in May, the aim is still to get "the best price for those warrants as possible."

Later this week, Treasury is expected to release a document that will outline the valuation process for warrants.

With 10 of the nation's biggest banks - including JPMorgan Chase, Morgan Stanley and Goldman Sachs -- about to embark on the warrant deal-making process, Wall Street will be watching closely.

Geithner has said that estimates for the values of the warrants held by these larger banks returning government funds are in "the several billion dollar range."

Wilson estimated that it could be up to $4.6 billion for these 10 banks, with the warrants issued by JP Morgan Chase alone possibly up to $1.7 billion.

So as these big banks sit down at the negotiating table with Treasury, what advice would one CEO who's been through the process give to his colleagues?

"Be transparent as hell -- and don't fight," Jones suggested. "Because it's going to be more and more difficult."

And that just makes him all the more relieved that his bank was the first to get out.

When Old National Bancorp was finally free of the government program, Jones let out a deep sigh of relief. Customers immediately came to the bank to open accounts. One even gave the bank a custom-made card congratulating them on paying back the money.

Ultimately, it was the best public relations move he has ever made, he said.

Whether it was the best move for taxpayers is another issue.