Lasalle Talman Bank, F.s.b. v. United States

United States Court of Appeals for the Federal Circuit
05-5164
LASALLE TALMAN BANK, F.S.B.,
Plaintiff-Appellee,
v.
UNITED STATES,
Defendant-Appellant.
Wilber H. Boies, McDermott, Will & Emery, of Chicago, Illinois, argued for
plaintiff-appellee. With him on the brief were Marie A. Halpin and Suzanne M. Wallman.
Also on the brief was Thomas P. Steindler, of Washington, DC.
William F. Ryan, Assistant Director, Commercial Litigation Branch, Civil Division,
United States Department of Justice, of Washington, DC, argued for defendant-
appellant. With him on the brief were Stuart E. Schiffer, Deputy Assistant Attorney
General, David M. Cohen, Director, Jeanne E. Davidson, Deputy Director, Tarek Sawi
and John J. Todor, Trial Attorneys.
Appealed from: United States Court of Federal Claims
Senior Judge Eric G. Bruggink

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United States Court of Appeals for the Federal Circuit
05-5164
LASALLE TALMAN BANK, F.S.B.,
Plaintiff-Appellee,
v.
UNITED STATES,
Defendant-Appellant.
_______________________
DECIDED: August 25, 2006
_______________________
Before NEWMAN, LOURIE, and LINN, Circuit Judges.
LOURIE, Circuit Judge.
The government appeals from the decision of the United States Court of Federal
Claims (the “Claims Court”) awarding LaSalle Talman Bank, F.S.B. (“LaSalle”) $146.7
million in “cost-of-replacement-capital” damages. Because the Claims Court did not
clearly err in awarding those damages, we affirm. Moreover, because the Claims Court
did not clearly err in determining that the cost-of-replacement-capital damages award
will most likely be subject to income taxation, we affirm its decision to upwardly adjust
the damages award to reflect LaSalle’s effective tax rate of 39.5%.

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BACKGROUND
Talman Home Federal Savings and Loan Association of Illinois (“Talman”),
Appellee LaSalle’s predecessor, was formerly a stockholder-owned association. In
1982, Talman and several other Illinois thrifts were failing or had failed due to an
extreme rise in interest rates. LaSalle Talman Bank, F.S.B. v. United States, 317 F.3d
1363, 1366 (Fed. Cir. 2003) (“LaSalle I”). To sustain the savings and loan industry and
to avoid exhaustion of the Federal Savings and Loan Insurance Corporation (“FSLIC”)
insurance fund, federal authorities consolidated failing or failed thrifts into associations
that were more efficient, received closer regulatory oversight, and received significant
assistance from the government. This assistance included direct monetary
contributions, regulatory forbearances, and, of particular interest to this case,
authorization to use a purchase accounting system whereby assets and liabilities would
be revalued at market price and the ensuing net liability would be recorded as an asset
called “supervisory goodwill.” Id. at 1367. A more detailed discussion of the savings
and loan crisis of the early 1980’s is provided in United States v. Winstar Corp., 518
U.S. 839 (1996).
By utilizing supervisory goodwill and making a series of sound business
decisions, Talman reached a state of profitability in 1986. Id. at 1368. In 1988 and
1989, Talman distributed to its shareholders a total of $1.9 million and $2.4 million,
respectively, in dividends that were purportedly based on the thrift’s past and projected
future earnings. Id. After the enactment and implementation of the Financial
Institutions Reform, Recovery and Enforcement Act of 1989 (“FIRREA”), Pub. L. No.
101-73, 103 Stat. 183 (Aug. 9, 1989), however, Talman’s entitlement to account for
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supervisory goodwill was phased out, and the thrift failed to meet that statute’s new
stringent capital requirements. On the brink of federal receivership, in February 1992,
ABN AMRO, the North American subsidiary of a Netherlands bank, bailed out Talman
by purchasing all of its outstanding common stock for $97 million. Id. At that time, ABN
AMRO also infused Talman with $300 million in cash so that it could meet FIRREA’s
capital requirements. Id. Some years after the acquisition, ABN AMRO merged Talman
with LaSalle Cragin Bank and named the merged thrift LaSalle Talman Bank, F.S.B. A
more detailed discussion of the financial and regulatory arrangements made between
Talman and the government is provided in LaSalle I.
After weathering the difficult financial circumstances that lasted from the 1980’s
to the early 1990’s, Talman, and now LaSalle, has remained a viable business. From
1993 to 1998, the Claims Court determined that ABN AMRO provided $800 million in
cash beyond the initial $300 million in 1992 so that LaSalle could continue to expand
and be profitable. Id. at 1369. During that time, LaSalle distributed dividends to ABN
AMRO totaling $417.8 million. Id. Those dividends were classified as either
“mandatory” or “special.” Mandatory dividends were payments equal to one-third of
LaSalle’s budgeted net income that ABN AMRO, the parent corporation, required
LaSalle to make. Special dividends were supplemental payments that LaSalle made to
ABN AMRO if it had excess capital and the financial wherewithal.1 Special dividends
were discretionary in that, before they could be declared, LaSalle had to obtain approval
from ABN AMRO.
1 ABN AMRO required a capital level for its subsidiary banks of 50 basis
points above well-capitalized minimums.
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In LaSalle I, we affirmed the Claims Court’s decision that the government,
through its enactment and implementation of FIRREA, breached its contract with
Talman that allowed Talman to account for supervisory goodwill. Id. at 1370. We
determined that, “[a]s discussed in Winstar, the right to account for goodwill as a capital
asset to meet regulatory requirements, and to amortize it over an extended period, was
abrogated by FIRREA.” Id. We vacated and remanded, however, that portion of the
Claims Court’s decision rejecting LaSalle’s claim for damages, except for the award of
$5,008,700 for expenses that Talman incurred in connection with its FIRREA-induced
sale to ABN AMRO. Id. at 1366. We noted that the Claims Court correctly recognized
that LaSalle could recover “cost of replacement capital” that it incurred due to the
breach, viz., the cost of substituting real capital (ABN AMRO’s $300 million cash
infusion) for supervisory goodwill that was no longer available. Id. at 1374.
Nonetheless, we concluded that the court erred in ruling that because LaSalle did not
incur a legally enforceable cost for the $300 million in replacement capital that it had
received, there were no damages under the cost-of-replacement-capital theory. Id. at
1373. We determined that “the cost of capital does not depend on whether payment is
made as debt, or out of anticipated future earnings.” Id. at 1375 (citations omitted). We
further noted that “[a]ll capital raised by a corporation has a cost, and it is well
established that the payment of dividends is a capital cost.” Id. (citations omitted).
Thus, we instructed the Claims Court to calculate on remand the cost of replacement
capital for ABN AMRO’s $300 million cash infusion attributable to the dividends that
were paid out of Talman’s and LaSalle’s earnings.2 Id.
2 In LaSalle I, we also vacated and remanded the Claims Court’s finding
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The Claims Court conducted a second trial in February 2004. In February 2005,
the court instructed the parties to calculate the cost-of-replacement-capital damages
based on certain modifications that it had made to LaSalle’s proffered model for
calculating those damages. LaSalle Talman Bank, F.S.B. v. United States, 64 Fed. Cl.
90, 107 (2005) (“LaSalle II”). The court’s modified damages model counted all
dividends that could be considered a return on ABN AMRO’s initial $300 million
investment, and identified that sum of dividends as the cost of replacement capital. Id.
In doing so, the court did not distinguish between mandatory and special dividends. Id.
at 111. As a factor mitigating the damages award, the court then required the parties to
subtract from the sum of dividends constituting a return on capital the benefits that
LaSalle derived from having $300 million in cash rather than $300 million worth of
supervisory goodwill. Id. at 107, 111-12. The court’s modified damages model further
reduced the cost-of-replacement-capital award by the amount of dividends that Talman
would have distributed to its stockholders had there been no FIRREA-induced breach.
Id. at 108, 112. According to the court, that adjustment was necessary to reflect a cost
avoided by LaSalle. Id. at 110. After applying the court’s modifications to LaSalle’s
damages model, the parties stipulated to $146.7 million in cost-of-replacement-capital
damages, which the court then entered as a final judgment.
In addition, the Claims Court agreed with LaSalle that the cost-of-replacement-
capital damages award would most likely be subject to income taxation. Id. at 116.
that there were no lost profits. Id. at 1374. In making this finding, the court considered
post-breach profits that were attributable to ABN AMRO’s $800 million cash infusion,
which we determined to be unrelated to the government’s FIRREA-induced breach. On
remand, only considering profits attributable to ABN AMRO’s initial $300 million cash
infusion, the Claims Court awarded LaSalle $3.28 million in lost profits. The
government has not appealed that lost profits award and thus we will not address it.
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Thus, in order to put LaSalle in the same position that it would have been in had there
been no breach, the court “grossed-up” the damages award by LaSalle’s anticipated
effective tax rate. Id. According to the trial court, LaSalle sought “the cost of
replacement capital as part of a claim for expectancy damages. The dividend costs
were an expense incurred in order to put [LaSalle] back into a pre-breach position with
respect to its earning capacity. . . . [The trial court has] no reason to believe that the
Internal Revenue Service would treat the reimbursement of this cost item as a
replacement of a capital asset [, which is not taxable].” Id. The court further noted that,
“as a general proposition, amounts received as damages in litigation are taxable as
income.” Id. The court also found, relying on the testimony of Martin Eisenberg, tax
director for both ABN AMRO and LaSalle, that LaSalle’s effective tax rate for the
damages award would be 39.5%. Id. at 118.
The government timely appealed to this court. We have jurisdiction pursuant to
28 U.S.C. § 1295(a)(1).
DISCUSSION
We review the Claims Court’s legal determinations without deference and its
findings of fact for clear error. Home Sav. of Am. v. United States, 399 F.3d 1341, 1346
(Fed. Cir. 2005). We review the trial court’s methodology for calculating the cost-of-
replacement-capital damages for an abuse of discretion. Id. at 1347.
On appeal, the government argues that the trial court erred by not considering
dividends that Talman would have continued to pay but for the FIRREA-induced breach
(“but-for dividends”). According to the government, the trial court erred in accepting
LaSalle’s contention that but-for dividends were irrelevant to the damages analysis.
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Had the court properly considered but-for dividends, the government asserts, there
would have been no net damages because the but-for dividends would have been
greater than the dividends that Talman, and later LaSalle, actually paid ABN AMRO as
a return on its $300 million cash infusion.
We disagree with the government that the Claims Court failed to properly
consider dividends that the bank would have paid but for the FIRREA-induced breach.
By instructing the parties to calculate damages by prorating the total sum of the
dividends using the percentage of infused capital that the $97 million stock purchase
represented, the Claims Court did take into account but-for dividends.3 LaSalle II, 64
Fed. Cl. at 108, 112. Moreover, the trial court did not fail to account for Talman’s past
history of dividend distribution in its analysis. Based on trial testimony, the court did not
clearly err in determining that the dividends that Talman distributed in 1988 and 1989
were not an accurate indicator of how Talman would have continued to distribute
dividends in the future had there been no FIRREA-induced breach. Id. at 110.
We also conclude that the Claims Court’s methodology of accounting for but-for
dividends was not an abuse of discretion. The trial court’s methodology presumed that,
regardless of Talman’s past history of dividend distribution, some portion of the
dividends that were distributed after ABN AMRO provided the $300 million cash infusion
was necessarily a return on capital. That presumption is consistent with LaSalle I, in
which we stated that “[a]ll capital raised by a corporation has a cost.” 317 F.3d at 1375.
3 For example, in 1992, prior to any cash infusion by ABN AMRO aside from
the initial $300 million, if LaSalle had distributed a $10 dividend the court would have
considered approximately $2.44 of that dividend to be the but-for dividend (97/397)—an
avoided cost—and $7.56 of that dividend to be the cost of replacement capital
(300/397).
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Moreover, given that Talman and LaSalle did not specify what portion of its dividends
was a return on the $97 million stock purchase rather than the $300 million cash
infusion, it was reasonable for the trial court to prorate the applicable dividends using
the ratio of those investment amounts.
The government next contends that the Claims Court erred in not requiring
LaSalle to prove proximate causation between ABN AMRO’s $300 million cash infusion
and certain dividends that LaSalle claimed were a cost of replacement capital.
According to the government, the trial court improperly assumed that a portion of every
dividend that LaSalle distributed, no matter how unrelated to and remote from the $300
million cash infusion, was a return on capital. To support its position, the government
points to LaSalle’s payment of special and mandatory dividends. The government
argues that mandatory dividends were predetermined scheduled payments that ABN
AMRO required of LaSalle, and thus that they “could be justified” as a cost of
replacement capital. Special dividends, however, the government asserts, should not
have been counted as a cost of replacement capital. Citing LaSalle’s internal policy for
distribution of special dividends, the government contends that those dividends were
discretionary and that they were distributed for reasons unrelated to ABN AMRO’s $300
million cash infusion; e.g., in one instance, a special dividend was distributed because
another ABN AMRO subsidiary bank needed capital.
We conclude that the Claims Court did properly require LaSalle to establish the
requisite proximate causation between the dividends counted in the court’s cost-of-
replacement-capital damages award and the government’s FIRREA-induced breach.
The trial court determined that it was foreseeable that the government’s breach would
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require LaSalle to replace supervisory goodwill with tangible capital, and we noted that
“[a]ll capital has a cost.” LaSalle II, 64 Fed. Cl. at 106-07 (citing LaSalle I, 317 F.3d at
1375). We further recognized that dividends can be a form of payment for cost of
replacement capital. LaSalle I, 317 F.3d at 1375. Thus, LaSalle established proximate
causation.
Nor did the trial court abuse its discretion in counting special dividends in the
cost-of-replacement-capital damages award. The court relied on Professor Christopher
James, LaSalle’s damages expert witness, who calculated the cost-of-replacement-
capital damages based on dividends that reflected a return on capital, regardless
whether the dividends were called special or mandatory. We implicitly approved of this
approach in LaSalle I, in which we stated that “[i]n general, payment of a return on
capital reflects the cost of capital.” Id. Tellingly, in LaSalle I, we did not distinguish
between special and mandatory dividends. Thus, we conclude that the trial court did
not abuse its discretion in employing a methodology that counted all dividends, including
special dividends, that were a return on capital as part of the cost-of-replacement-
capital damages award.
Furthermore, we reject the government’s argument that special dividends were
distributed for reasons other than as a return on capital, and thus should not count as a
cost of replacement capital. As the trial court recognized, just because ABN AMRO had
a particular reason for declaring dividends, e.g., that another ABN AMRO subsidiary
bank needed additional capital, it does not mean that those dividends cannot also be
considered a return on capital. LaSalle II, 64 Fed. Cl. at 111. On the contrary, there
was testimony in the record from LaSalle’s executives that as long as dividends were
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paid out of LaSalle’s retained earnings, regardless whether they were called special or
mandatory dividends, they were considered a return on investment. The trial court did
not clearly err in crediting that testimony. Id. (stating that “the relevant criteria is the
source of the funds, not the name given to the dividend”). Moreover, the court did not
clearly err in crediting the testimony of Professor James, who conducted a “careful
review” of LaSalle’s financial record to discern both special and mandatory dividends
that were a return on capital. Id. Thus, we conclude that there was no clear error in the
court’s finding that certain special dividends were a return on ABN AMRO’s $300 million
cash infusion.
Lastly, the government assigns error to the Claims Court’s gross-up of the
damages award based on the expectation that the award would be subject to income
taxation. The government makes three arguments to support its position: (1) LaSalle
does not pay its own taxes, but rather its parent, ABN AMRO, files a consolidated
return; (2) because the cost-of-replacement-capital damages award is not intended to
increase LaSalle’s wealth, the IRS is unlikely to treat it as taxable income; and (3) the
court’s gross-up of the award does not conform to LaSalle’s historical tax rate.
We affirm the Claims Court’s decision to gross up the damages award to reflect a
39.5% tax rate. We addressed a similar issue in Home Savings, viz., whether a gross-
up of the cost-of-replacement-capital damages award was appropriate given that it was
the parent company that would pay taxes on the subsidiary thrift’s damages award. 399
F.3d at 1356. In Home Savings, we concluded that such a gross-up was appropriate.
Id. Similarly here, we discern no clear error in the court’s finding that, because the cost
of replacement capital represented a return on capital, the IRS would treat the damages
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award as a taxable item even though LaSalle’s taxes would be paid as part of a
consolidated tax return filed by ABN AMRO. In view of testimony offered at trial, we
also conclude that the Claims Court did not clearly err in determining LaSalle’s effective
tax rate to be 39.5% for the damages award.
We have considered the government’s remaining arguments, including the
argument supporting its request that we verify whether LaSalle does indeed pay taxes
on the cost-of-replacement-capital damages award, and we find them to be
unpersuasive.
CONCLUSION
We affirm the Claims Court’s decision awarding LaSalle $146.7 million in cost-of-
replacement-capital damages. We also affirm the court’s decision to increase the
damages award to account for anticipated income tax payments at a rate of 39.5%.
AFFIRMED
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