'Banded' bank levy would increase tax predictability for UK banks, Treasury says

It has published a consultation setting out its proposals for a new levy, announced as part of the 2014 Budget. Although it intends that the overall amount raised by the levy remain unchanged, a banded approach would address current uncertainties and the perception that the tax is damaging the UK's competitiveness, the Treasury said.

The consultation, which closes on 8 May, was published as professional services firm KPMG said that the UK's top five banks effectively paid 71.3% tax on their profits last year. The firm said that this figure was partially due to the impact of the bank levy, the burden of which is predominantly borne by the largest firms.

If the new mechanism is adopted, it would come into force for chargeable periods beginning on or after 1 January 2015. Any necessary legislation would be inserted into the 2014 Finance Bill at the report stage, according to the consultation.

"Although much will depend upon the outcome of the consultation exercise, there is enough to concern the banking industry in their proposals," said Darren Mellor-Clark of Pinsent Masons, the law firm behind Out-Law.com, who is an expert in taxation of the financial services industry.

"The consultation document contains numerous references that the measure is intended to be revenue neutral, but there are indications that this is unlikely to be the case. Initial reaction to the document suggests that some of the UK's largest banks will see considerable increases in liability under the proposed banking model. This may cast doubt in the minds of some observers as to the degree of commitment the government really has to a competitive and predictable tax regime for the UK economy - one would expect the banner of international competitiveness to be raised again as the industry responds," he said.

The bank levy was introduced as part of the 2010 Budget. It is an annual tax on the value of certain debts of UK banks. The rate of the levy was originally set at 0.075%, but has gradually increased to the current 0.156% effective from 1 January 2014. Banks are charged a percentage of their total liabilities over £20 billion minus ordinary deposits and government-backed bonds, with longer-term liabilities taxed at a lower rate.

Under the new banded approach proposed by the Treasury, banks would be allocated into different bands based on their balance sheet equity and liabilities. Each band would be taxed at a "unique and pre-determined charge" for the year, paid by every bank falling into that band. Higher charges would be allocated to bands including the largest and riskiest banks. The consultation includes a number of 'illustrative models' and tables setting out how these bands could work, based on the levy raising the government's target of £2.9bn a year.

According to the consultation paper, a redesign of the levy is necessary to address a number of concerns raised about the existing approach, which has consistently fallen short of raising its targeted amount of revenue. Taxing banks at a percentage of the value of their balance sheets means that the levy is currently "highly sensitive to changes in the economic and regulatory environment, particularly those affecting banks' capital and liquidity requirements", according to the consultation paper. Annual rate increases applied in order to meet the government's revenue targets could also be "creating uncertainty and damaging the perception of UK competitiveness", it said.

"The government considers that [the banded approach] could provide a more certain and stable model for the bank levy," the consultation paper said. "By reducing the marginal cost of the bank levy to zero at an individual transaction level, the government also believes that it could weaken some of the undesirable incentives that the bank levy may currently be giving rise to."

"It is accepted that this model would weaken the marginal incentives for banks to stabilise their funding profiles, although the ability of banks to move between bands each year would ensure the overarching policy objective was maintained. While the model would result in banks facing different effective rates of tax, the grouping of banks with similar chargeable equity and liabilities may be considered more reflective of the imprecision in measuring and differentiating risk through banks' balance sheets," it said.