Yesterday HM Treasury published the eagerly anticipated consultation document on the proposed bank levy (the levy). The levy will, the Government hopes, 'encourage banks to move away from riskier funding' and will see the banks making 'an appropriate contribution' to reflect the risks to the economy generated by them. The overall intention is to 'increase the resilience of the financial sector'.

The key pillars of the new levy are as follows:

  • It will be effective from 1 January 2011;
  • It will be imposed at 0.07%. A reduced rate of 0.04% will apply for 2011. There will also be a reduced rate for longer-maturity funding (i.e. greater than one year remaining to maturity at the operative balance sheet date) to be set at 0.02% rising to 0.035%;
  • It will be paid by those institutions which (a) constitute a UK banking group / building society or are UK subsidiaries or branches of foreign banking groups operating in the UK and (b) have relevant aggregate liabilities of £20 billion or more;
  • Liability to pay the levy will be assessed using the global consolidated balance sheet. The levy will be based on total liabilities and equity excluding: Tier 1 capital, insured retail deposits, repos secured on sovereign debt, and policyholder liabilities of retail insurance businesses within banking groups; and
  • It will be imposed and administered by HM Revenue & Customs.

Targeted anti avoidance rules will apply to the levy and will likely catch schemes, arrangements or transactions that are put in place with the main purpose or one of the main purposes of reducing or eliminating the levy payable by that bank or banking group.

The levy is expected to raise £2.5 billion each year. The levy will not be deductible for corporation tax purposes.

The consultation document in detail

Taxable entities

The levy will apply to:

  • The global consolidated balance sheet (prepared under IFRS) of UK banking groups and building societies;
  • The aggregated subsidiary and branch balance sheets of foreign banks and banking groups operating in the UK;
  • The balance sheets of UK banks in non-banking groups;

where these institutions have relevant aggregate liabilities that amount to £20 billion or more.

Specifically, the levy will largely apply to the same 'banks' and 'banking groups' that are required to pay the Bank Payroll Tax (due in August) although amendments will need to be made to reflect the fact that the levy will be based on accounting group concepts. If that model is adopted in the legislation, the following companies will be caught by the tax:

  • Those companies, who are authorised for the purposes of the Financial Services and Markets Act 2000 (FSMA) and who, in the course of a trade, carry out activities which consist wholly or mainly of certain specified activities regulated for FSMA purposes or carry out to any degree the activity of accepting deposits;
  • For a non-deposit taker, the levy will only apply to a firm which is a full scope BIPRU 730K investment firm (and whose activities consist wholly or mainly of relevant regulated activities) (a 'BIPRU 730 firm'). Such a firm is required to have a base capital requirement of €730,000; and
  • Banks in non-bank groups will pay the levy to the extent of their banking businesses and assuming the other conditions are met.

Some companies will, we expect, be expressly excluded from paying the levy including:

  • A company in a group that is not a deposit taker and is only carrying on relevant regulated activities on behalf of an insurance company in the same group;
  • A company that does not carry on any relevant regulated activities otherwise than as a manager of a pension scheme;
  • A company whose activities consist wholly or mainly in acting as the operator of a collective investment scheme (within the meaning of Part 17 of the Financial Services and Markets Act 2000);
  • An exempt BIPRU commodities firm;
  • Prime brokers who are BIPRU 730 firms;
  • Insurance companies;
  • Investment trusts; and
  • Companies in what HM Revenue & Customs refers to as 'non-banking financial service groups' that are characterised as 'banking groups' because the group structure includes a company with banking activity, even though that is a minor activity within the group as a whole. In this case, the 'banking' arm will remain within the rules but the non-banking companies within the group will be excluded.

Specific rules will apply to enable UK branches of foreign banks to calculate their liabilities. It will track OECD methodologies.

If the bank payroll tax model is adopted, we can expect that the levy will not apply to non-banking companies outside of banking groups such as asset managers and stock brokers. This is welcome news for the investment funds sector.

Asset managers and investment funds within banking groups will, however, need to be vigilant as it is possible that they may fall within the charge because any liabilities (including equity) of the asset manager will not (at least at this stage) be excluded from the total liabilities and equities of the banking group for the purposes of the levy.

The Government has specifically sought input as to whether there is a better way to define "UK bank" and "banking group" for the purposes of the levy.

Tax base

As highlighted above, the levy will be based on total liabilities and equity as reported in the accounts including net derivative liabilities but excluding Tier 1 capital, insured retail deposits, repos secured on sovereign debt and policy holder liabilities of retail insurance businesses within banking groups.

Intra-group liabilities of the UK part of a foreign group with its parent or other overseas entities will be treated as short-term unless it can be demonstrated by the group that it is backed by external long-term funding which means that the levy will be charged at 0.07% and not 0.035%.

Tier 1 capital is excluded so the banks are not encouraged to accumulate capital. Sovereign repos are excluded because they are considered to be relatively low risk although it remains to be seen whether the Government will exclude repos of all sovereign and supranational debt instruments or base the range of acceptable collateral on the definition of high quality assets which are currently permitted by the FSA to be included in a bank’s liquid assets buffer.

International approach

In recognition of the fact that the financial services sector operates across international borders, the Government has expressly confirmed that it will continue to seek global co-ordination in the development and implementation of the levy. The Governments of France and Germany have confirmed their intention to impose a similar levy although the form and structure are not yet known.

Avoiding double tax

If other jurisdictions impose a similar levy, the risk of double taxation remains very real. The Government has confirmed that it intends to liaise with their counterparts to alleviate this risk where possible.

Of key importance to UK banks and UK branches / subsidiaries will be how the levy interfaces with double tax treaties and in particular, whether relief will be given in the UK for similar levies or taxes paid outside the UK (and vice versa).

The levy is not an insurance policy

The Government has been very clear to reiterate that the levy is not an insurance policy against the future failure of banks and banking groups. The consultation document expressly states that 'liability for the levy does not indicate that a bank is too big to fail'. It is not the intention that the levy will fund future intervention in the sector, and wider regulatory reforms are underway to ensure that no firm is "too big to fail".

Operation

The levy will be paid for and administered by a nominated UK group member on behalf of the bank or banking group (as the case may be) but still collected through the corporation tax self assessment mechanism. The levy will be actually paid as part of its own tax return. This entity will also be responsible for submitting the relevant paperwork including the financial statements and tax computations.

As a default position, for UK banking groups, this entity will be the ultimate parent company and for foreign banks, it will be the intermediate UK parent company. It is possible to agree with HM Revenue & Customs that a different company take this role.

What next?

Draft legislation for the levy is expected in the autumn. Stakeholders will get an opportunity to comment before it is enacted.

The levy is just part of the Government's 'far reaching plans for reform' of the financial services sector. The proposed overhaul of financial services regulation in the UK and the creation of an Independent Banking Commission have been well publicised, and implementation of Recovery and Resolution Plans are proceeding.

If you would like assistance in responding to the consultation document, please contact us. Comments must be submitted by 5 October 2010.

Practical concerns

The major practical concern for readers will be the increased compliance costs that will inevitably be associated with the introduction of the levy – whether this is in the form of additional adviser fees or internal resources being absorbed to deal with adhering to and paying the levy. The Government has confirmed that it intends to keep compliance costs low but whether this can be achieved remains to be seen.

Of course, clients will also be concerned to ensure that the parameters of the levy are not pushed out from the current proposals with the effect that other entities such as funds and insurance companies end up being caught.

The fact that the levy is not deductible will also mean the levy represents a large bottom line cost to the industry.

An unwarranted focus on the financial services industry?

Readers may be forgiven for thinking that the levy is yet another attack on the financial services sector. Imposition of the levy follows the introduction of a 'voluntary' Banking Code of Conduct and the Bank Payroll Tax. Going forward, the sector faces unprecedented regulatory reform and potentially a Financial Activities Tax (possibly to be based on Bank profits or bonuses). There are also changes proposed, at EU level, to the VAT treatment of financial services which may introduce additional uncertainty. The financial services sector (including Treasury companies) must also comply with special rules as part of the UK debt cap regime and potentially, the revised controlled foreign company laws.

Also of note was the proposal, before the Whole Committee of the House of Commons that certain banks continue to pay corporation tax at the rate of 28% when the rate for other tax payers is reduced to 27%.

These changes may trigger large increases in compliance costs for banks and banking groups operating in the UK which in turn may have an adverse impact on the market.

A link to the consultation document can be found here.