Washington Mutual Inc and the Federal Deposit Insurance Corp have reached a global settlement that will return $7 billion to the bank's creditors, a critical step in the bankruptcy involving the biggest bank failure in U.S. history.

The FDIC said on Friday the agreement settles claims between the bankrupt bank's holding company and JPMorgan Chase, which acquired the failed bank.

The FDIC is involved because it was appointed receiver of Washington Mutual in September 2008, during the height of the financial crisis. The deal comes after the FDIC board had rejected a previous proposed settlement.

The bank holding company has been seeking a way out of 18 months of legal fights so it can begin repaying creditors.

The three parties have been fighting over deposits Washington Mutual had at its seized bank and over billions of dollars in tax refunds.

This agreement will result in substantial recoveries to the receiver and resolve potential claims that could have taken years and millions of dollars to litigate, FDIC General Counsel Michael Bradfield said in a statement.

Washington Mutual said in a statement later on Friday that settlement was filed with the full support of the FDIC, JPMorgan, and the official committee of unsecured creditors.

WMI has worked diligently over the last 20 months to maximize the value of the bankruptcy estate and is confident that the amended plan will accomplish the objective of providing substantial recoveries for WMI's creditors, Washington Mutual said.

The settlement is subject to the approval of the U.S. Bankruptcy Court for the District of Delaware. The court will hold a hearing on June 3 to consider approval, and Washington Mutual will ask the court to confirm the plan by July 20.

Under the settlement, Washington Mutual will establish a liquidating trust that will distribute about $7 billion to creditors, including about $4 billion of previously disputed funds on deposit with JPMorgan.

That $7 billion includes about $2.6 billion that will come from tax refunds. JPMorgan is expected to get about $2.4 billion in tax refunds under the settlement.

Washington Mutual said the various litigations involving it, JPMorgan, and the FDIC will be stayed or dismissed.

JPMorgan will assume certain liabilities related to benefit plans.

The settlement could clear the way for Washington Mutual to reorganize as a mortgage insurer and investment company with valuable tax breaks.

The company plans to sell shares to fund its exit from bankruptcy and reorganization.

The case is In re Washington Mutual Inc, U.S. Bankruptcy Court, District of Delaware (Wilmington), No. 08-12229.

(Reporting by Karey Wutkowski; Editing by Jerry Norton)

Citigroup