TARP Expires, Repayment in Limbo

by: Zacks Investment Research

After two years of functioning, the U.S. Treasury’s $700 billion Troubled Asset Relief Program (TARP) is set to expire on Sunday. However, many of the banks still did not repay the funds they had taken as part of their participation in the program.

Following the collapse of Lehman Brothers in September 2008, which was acquired by Barclays (NYSE:BCS), the U.S. government has injected billions of dollars through TARP into several national financial institutions to stabilize the financial system.

The TARP was created primarily to rescue the nation’s financial industry. The injected money was expected to help stabilize all the banks and in course of time facilitate them to raise fresh funds to repay the government. Though the fund was initially injected into large financial institutions, it gradually expanded to small institutions and a number of other programs including mortgage modification and foreclosures prevention.

Out of the $247 billion given to the banks, the majority has come back from the repayments of the nation’s healthy banks. Also, taxpayers have received decent returns on many of their financial-sector investments. Repayments under the TARP have generated about 17% annualized return from stock-warrant repurchases.

Major institutions in the financial market that have repaid the TARP loan in full include JPMorgan Chase and Co. (JPM), Bank of America Corp. (BAC), Wells Fargo & Co. (WFC), Goldman Sachs Group Inc. (GS) and Citigroup Inc. (C). Also, the Treasury has almost completed auctioning stock warrants it had acquired from the banks that received a significant portion of taxpayers’ money and have fully repaid it.

However, more than 600 banks still did not repay about $65 billion in TARP funds. Regions Financial (RF) and SunTrust Banks Inc. (STI) are among the large banks that did not manage to repay the bailout money to the government. Additionally, in August 2010, about 123 financial institutions failed to pay the compulsory dividend related to the TARP funds they had taken from the Treasury.

With the expiration of the TARP, the Treasury will now be restricted to the taxpayers’ money to help homeowners or for injecting into the banking system.

However, the White House said on Thursday that the cost of the financial bailout is now expected to be less than $50 billion compared to hundreds of billions projected previously, the Wall Street Journal reported. The major cost of the TARP is expected to be from the Home Affordable Modification Program, which is not expected to return anything to the taxpayers.

The lower projection of the TARP cost has became more likely with the latest news that the government has negotiated with the American International Group (AIG) to begin TARP repayment. The Treasury had injected $70 billion to rescue the troubled insurer two years ago.

The expected decrease in TARP costs and increasing repayments of bailout money can be viewed as signs of economic recovery. However, the overall economy is not yet out of the woods as we continue with soaring loan defaults and a high unemployment rate. These problems need to be addressed by the government before shifting gears to the growth mode.

We think most of the small banks that have not yet repaid TARP loans could face rising challenges related to dividends and repayments in the coming years. The inability to repay the TARP funds and related dividend may force these small banks to collapse or make them takeover targets of big banks.