The Chancellor announced in the Budget that the Government will introduce a bank levy from 1 January 2011 to encourage banks to move to less risky funding profiles.

A period of consultation on the Government's proposal ran from 13 July to the 5 October 2010, during which time a number of written representations from across the industry were received and meetings were held with key industry figures to discuss the approach.

The Government has now published draft legislation detailing the finer points of the future levy. The key aspects to note are:

  • The levy will come into effect on 1 January 2011;
  • Both UK banks and the UK operations of overseas firms will be taxed;
  • The levy will be applied to banks with liabilities of more than £20bn but only on the liabilities in excess of this figure;
  • Banks will be eligible for a deduction for high quality liquid assets held on their books;
  • Banks are exempt from the tax if at least 90% of their trading income comes from exempt activities, including insurance, asset management and related activities; and
  • If over 50% of a group's activities are non-financial, it will not be classified as a banking group for the purposes of the levy.

Once in place, the government expects the levy to generate annual revenues of around £2.5bn by 2012/2013.

The Government has yet to confirm what the actual tax rate for the levy will be. In the Budget, the Chancellor advised that the possible rate of the levy will be 0.07%, although there will be a lower rate of 0.04% in 2011. There will also be a reduced rate for wholesale funding with more than one year remaining to maturity of half the main rate (0.02% then 0.035%).

It remains to be seen how this proposal will affect the attractiveness of the UK as a base for banking operations. With Germany, France and Spain among the other European countries looking at introducing their own bank levies, concerns have been raised over how the system will work. With similar schemes being launched elsewhere, banks could be taxed in multiple jurisdictions for the same activities.

The final draft of the legislation will be published before the end of the year together with confirmation of the levy rate.