Zions Bancorp took another step this week toward repaying a $1.4 billion investment from the U.S. Treasury’s Troubled Asset Relief Program.

On Wednesday, the Salt Lake City-based regional bank company said it transferred all of the credit risks associated with a $1.16 billion portfolio of underperforming “collateralized debt obligation” securities to Deutsche Bank.

The deal is similar to insurance. It calls for Germany’s Deutsche Bank to assume all of the risk built into CDOs. In return for a $35 million payment in the first year, plus installments of $5.3 million in succeeding quarters, Deutsche Bank will make interest and principal payments to Zions whenever they come due.

“With this transaction, we have hedged our risk of a portfolio of securities, and by doing so we have enhanced our regulatory capital ratios,” James Abbott, senior vice president of investor relations at Zions, said Thursday.

He said the underlying collateral of the CDOs is bank capital. The CDOs do well when banks are healthy. Right now, with banks struggling under the weight of bad loans, a “significant percentage” of banks in the portfolio aren’t paying the interest they are obligated to, Abbott said.

Capital is a bank’s cushion against unexpected losses from loans and other investments. Regulators say the ratio of capital to risk-based assets is the strongest indicator of a bank’s safety and soundness.

Regulators say banks with Tier 1 risk-based capital ratios of 6 percent are well-capitalized. With the Deutsche Bank deal, Zions ratio jumps to 13.8 percent from 12.6 percent, Abbott said.

Adding its excess capital to its loan-loss reserve of $1.6 billion, Zions has about $5 billion of capital and reserves as a cushion against potential credit losses. With an average loss of $1 billion, the bank now has enough cash to withstand five years of credit losses, Adams said.

Brian Klock, an analyst at New York investment bank Keefe Bruyette and Woods, said Zions arranged the deal because it wants to pay back $1.4 billion in TARP funds it received from the government in 2008.

“The transaction helps them get closer to that goal by lowering the risk of one of their pool of investments,” Klock said.

“In doing so, it strengthens their capital ratios to target levels the regulators would approve of to allow them to repay TARP,” Klock said.

What those levels are isn’t clear. Abbott said the Treasury Department hasn’t spelled that out.

Nevertheless, Zions is working toward the day when it can return the money. CEO Harris Simmons has said the bank accepted TARP money mainly to avoid sending a signal that it didn’t qualify for the funds.

Zions has said in the past that it will repay the TARP money only after showing some consistent level of profitability. It also wants to see evidence the economy is healing at a steady pace.

That said, having sufficient capital “is a very critical element,” Abbott said.

“We are closer than we were yesterday,” he said.

pbeebe@sltrib.com