(Reuters) — American International Group Inc. has agreed to end litigation against the Federal Reserve Bank of New York over whether the insurer retained the right after its 2008 taxpayer-funded bailout to sue over losses on residential mortgage-backed securities.

In a May 28 order made public on Thursday in U.S. District Court in Manhattan, AIG and Maiden Lane II, an entity created by the New York Fed in December 2008 to buy troubled mortgage debt from the insurer, agreed to dismiss their case without prejudice.

At issue was whether AIG, as part of its since-repaid $182.3 billion federal bailout, had transferred $18 billion of litigation claims to Maiden Lane, preventing the New York-based insurer from recouping losses from banks.

The dismissal follows a May 7 decision by U.S. District Judge Mariana Pfaelzer in Los Angeles that AIG did not assign $7.3 billion of those claims, which are part of a fraud lawsuit by the insurer against Bank of America Corp and its Countrywide unit.

“In light of the recent ruling that AIG did not assign its fraud claims to ML II, we have agreed to dismiss our declaratory judgment action, without prejudice to our right to reinstitute it if necessary,” an AIG spokesman said, referring to the New York case.

A spokesman for the New York Fed, declined to comment.

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The case before Judge Pfaelzer is part of a $10 billion lawsuit in which AIG accused Bank of America, Countrywide and the bank's Merrill Lynch unit of misrepresenting the quality of more than $28 billion of residential mortgage-backed securities it bought.

A spokesman for Bank of America, on Thursday said the Charlotte, N.C.-based bank retains the right under Judge Pfaelzer's ruling to obtain more evidence to suggest that AIG assigned its litigation claims to Maiden Lane.

AIG last month won a federal appeals court ruling to move the entire case against Bank of America to the New York state court where it began. The bank has since taken steps to keep the case in federal court.

U.S. District Judge Lewis Kaplan, who signed the May 28 order, had put the case before him on hold in February, saying it was best to let the California case take its course.

He also admonished the New York Fed, saying that "on the face of it" some of its actions "perhaps are unattractive and, indeed, wrongful."

AIG separately opposes an $8.5 billion settlement between Bank of America and Countrywide investors over other mortgage debt. A hearing on that accord before Justice Barbara Kapnick of the New York State Supreme Court begins on Monday.