New York Times DealBook:  Distortion in Tax Code Makes Debt More Attractive to Banks, by Jesse Eisinger (ProPublica):

[B]anks pay taxes, but they pay a lot less thanks to a giant and
underappreciated distortion in our nation’s tax code. Moreover, this tax
code distortion makes the financial system and the economy more
fragile, prone to bankruptcies and runs. Banks profit, and the economy
teeters. Great bargain, huh?

It’s the tax code’s favoring of debt over equity.

For businesses, debt interest payments are tax deductible; equity
payments, like when a company pays out a dividend, are not. At the
margin, this encourages entities to take on more debt than they
otherwise would, as Steven M. Davidoff noted in a Deal Professor column earlier
this year. More debt not only makes companies more vulnerable to
bankruptcy but also makes investors more susceptible to panics, when
they withdraw their capital en masse. More equity would make the world
more stable.

“The worst thing the tax code can do,” says Victor Fleischer, a tax specialist at the University of Colorado, “is to make it harder to use a sensible capital structure.” Mr. Fleisher, a contributor to The New York Times DealBook, testified in front of Congress last year about this problem.

This distortion is well known. President Obama, in his tax reform proposal, mentioned it, though he didn’t make any
specific proposal about what to do about it. The Republican candidate,
Mitt Romney, is proposing substantial tax cuts with the loss of revenue
made up with the closing of loopholes. He has yet to specify any of
those loopholes, but corporate debt interest deductibility hasn’t been
in the conversation. …

Are there solutions to this distortion?

There are two choices: reduce or eliminate interest deductibility or introduce some deduction for equity. Neither
seems particularly feasible for some time. …Mr.
Fleischer suggests that one way to limit the distortion would be to
eliminate the deduction to the extent a financial institution exceeds a
ratio of debt-to-equity of 5 to 1. If a bank has borrowed $6 for every
$1 in stock, then it doesn’t get to deduct the interest payments on that
extra dollar of debt. That would make debt more expensive and make
banks less inclined to borrow as much.

And it would help stop banks from being moochers.