Israel's Third-largest Bank to Pay $195 Million Over Helping Clients Evade Taxes

Bank engaged in schemes to hide clients’ funds so they could avoid paying U.S. income taxes between 2002 and 2012, according to Justice Department

File photo: Mizrahi Tehafot CEO Eldad Frisher.
Tomer Appelbaum

Bank Mizrahi Tefahot announced late Tuesday night it had come to an agreement with the U.S. Department of Justice on a deferred prosecution agreement on allegations it had helped customers evade taxes.

The agreement follows a five-year process, and is similar to one that Bank Leumi signed with U.S. authorities four years ago. Leumi was the first Israeli bank to finish the U.S. authorities’ tax evasion investigation, and it paid a $400 million fine.

Mizrahi Tefahot is suspected of helping U.S. customers evade taxes in the United States, Switzerland, Britain and other places. Under the agreement, the bank will pay a fine of $195 million. This includes a $118 million direct fine, and the remainder is attributed to illicit profits the bank and its customers allegedly made by not paying taxes. Including pay for lawyers, accountants and advisors, the affair will be costing the bank $220 million to $230 million in total.

This is a large sum, but not one that will endanger the bank’s stability.

For Leumi, the total cost of the U.S. investigation was $450 million. Bank Hapoalim, which is undergoing a similar investigation, has had expenses of $750 million to date and is expect to have additional expenses.

To date, the U.S. regulators have extracted a total of $1.4 billion from the three Israeli banks, two of which - Leumi and Hapoalim - are controlled by the public.

Theoretically, Mizrahi Tefahot could face a fine also in the state of California, where it has a branch, although this hasn’t happened yet.

It’s not clear yet whether Mizrahi Tefahot will face an investigation in Israel as well, as happened to Leumi.

The U.S. regulator’s outsize power

Is this agreement an accomplishment for Mizrahi Tefahot or for the U.S. regulators? Contrary to expectations within the Israeli financial and legal establishment, U.S. President Donald Trump’s administration has not let up on the tax evasion investigations of its predecessor, the Obama administration; in fact, it is continuing with the Obama administration’s stringent enforcement and proceeding full-speed with fining foreign banks that helped U.S. citizens evade taxes.

A reflection of the U.S. regulator’s outside power came in the August 2018 demand by Department of Justice officials that Mizrahi Tefahot pay a $342 million fine - a disproportionate sum given the degree to which Mizrahi was allegedly involved in tax evasion.

Even while Mizrahi is ultimately paying much less than the initial demand, the $195 million fine could still be considered a significant accomplishment for the U.S. authorities.

The Bank of Israel stated in response that Mizrahi Tefahot’s chairman and CEO presented the banks regulator with the agreement reached with the U.S. Department of Justice, which was also approved by the bank’s board. The central bank is reviewing the agreement and will set forth its own demands within a short time, it stated.

The CEO who cost $100 million

The feeling of relief inside Mizrahi Tefahot’s offices was palpable on Wednesday. After the initial August demand, analysts had said the bank was wasting its time in a futile battle against the U.S. authorities, but its decision to contest the fine did indeed reduce it by $147 million ultimately.

But Mizrahi Tefahot doesn’t have many reasons to be proud of this agreement –- it had fewer customers suspected of tax evasion by tens of percentage points compared to Leumi, which paid a $270 million fine at the end of 2014.

Based solely on the number of suspect customers, Mizrahi Tefahot should have paid a fine of only $70 million to $90 million, say banking sector sources. In practice, it will be paying $100 million more.

However, the controlling shareholders Eyal Ofer and the Wertheim family - who control some 44% of the bank’s shares together - and the board apparently felt comfortable enough with the deal to agree to it. Another 56% of the bank’s shares are owned by the public.

Notably, the agreement does not include a clause demanding that CEO Eldad Fresher step down. Fresher has been managing the bank since 2013, and prior to that - during to the years that the investigation covered - he was head of the bank’s international division and chairman of Mizrahi Switzerland. Sources close to Mizrahi say Fresher is likely to continue in his current post for several more years.

It appears likely that Mizrahi Tefahot’s battle with the Department of Justice over the exact wording of the agreement cost it a significant sum. For instance, the bank took responsibility for wrongdoing only in keeping with U.S. law, without admitting to criminal actions or misdeeds outside the United States. This specific wording seems designed to limit its risk in a potential investigation in Israel or in other countries, wrote analyst Mika Goldberg at Excellence Brokerage on Wednesday.

The agreement also says 3-4 former employees allegedly committed wrongdoing. Specifically the employees are former private bankers, customer service representatives “and other employees at that level of responsibility.”

The bank’s share price jumped 7.4% in trade on Wednesday on unusually high turnover of 100 million shekels - five times its daily average.

Bank Hapoalim’s share price rose 1.5%, as investors tried to extrapolate based on the Mizrahi Tefahot agreement what the ultimate penalty for Hapoalim would be.