Don’t let the banks break the levy

George Osborne’s new tax is a milestone in financial-sector regulation. But banks may seek to use it

Back when I still cherished dreams of life among the super-rich, I had a meeting with a company called St James's Place. A representative from the firm had been pestering me about getting my tax planning in order and so, one bored April afternoon, I met him at my company's Mayfair offices. "Tax," the short, perspiring man said to me as I stepped into the room, "is optional." He proceeded to lay out a series of bewilderingly convoluted schemes by which I could reduce the amount of tax I paid on my - I imagine to him - rather meagre income. The most ridiculous of these wheezes involved establishing a pension plan for my three-month-old son. I showed him the door and ignored his calls until he found someone richer to bother.

As I pondered George Osborne's bank levy, announced along with the spending cuts on 20 October, those Byzantine tax-avoidance schemes came back to me. "How will the banks' accountants find a way around that?" I wondered, as I saw that even in the draft legislation there were anti-avoidance provisions to stop the banks employing the kind of law-bending techniques that their bankers use to dodge personal income tax. It may be that they won't bother - the levy is much less punitive than the industry had feared.

Mild thing

As the G20 finance ministers met in Gyeongju, South Korea, from 22 to 23 October, Osborne's bank tax will have been the hot topic of conversation. The levy has been criticised by trade unions and pressure groups for being too lax. The unsettlingly ubiquitous Angela Knight, chief executive of the British Bankers' Association, appeared bemused by the milder-than-expected tax. She sent out a conciliatory press release, which said: "Banks are committed to playing their part in restoring the UK economy." Banking regulators know that if Angela Knight isn't outraged, then the regulation isn't harsh enough.

The bank levy is, however, an important step in establishing a structure for the regulation of the industry that caused the crisis. Just as Gordon Brown and Alistair Darling were the architects of the initiatives that prevented a total meltdown of the global financial system in 2008, Britain seems again to be leading the way in addressing the sins of the bankers. Osborne is not the first to suggest a tax of this type (indeed, his predecessor at No 11 tried to push through something very similar before the election). Where he breaks ground is in turning the theoretically laudable idea of a liability levy into political and economic reality.

In January this year, President Obama announced a bank tax that looked very much like the British levy. Banks with more than $50bn in assets would pay a 0.15 per cent fee on a proportion of their liabilities in order to recover some of the estimated $1trn lost bailing out the industry in 2008 and 2009. The tax was due to generate some $90bn in the first decade. However, as a result of intense lobbying by bankers and as a concession to the Republicans in order to get the "Volcker Rule" through the Senate, Obama's financial team quietly dropped the levy from their plans.
The British bank levy will apply a charge of 0.07 per cent to liabilities of banks that are over £20bn in size. Excluded from the calculation will be tier-one capital and customer deposits. Debt with more than one year to maturity will be taxed at half the rate of shorter-term debt. This is a sensible move, aimed at encouraging banks to finance themselves using longer-term debt and deposits rather than the kind of risky, short-term funding that brought down Lehman Brothers. It also links the levy to the Basel III rules, which have a similar focus on ensuring systemic liquidity.

The levy will be applied to the consolidated balance sheets of British banks and the British operations of foreign banks. This means that Standard Chartered, which makes over 90 per cent of its profits abroad but happens to be headquartered in London, and HSBC, whose UK earnings are a fraction of its overseas income, will be hit every bit as hard as our high street banks. It also means that we'll be seeking to extract cash from beleaguered foreign banks: Santander - the owner of Alliance & Leicester, among others - is facing spiralling bad debts back home in Spain.

Double trouble

One area that Angela Knight is worried about is the issue of double taxation. Britain, France and Germany announced their levies with a joint press release, hoping to give the impression of a growing global consensus around bank taxes. This is not the case. Some countries already impose a bank levy; others are hesitating. Over the next few years, there will be a muddle of different levies passing through the legislative systems of the major financial centres. Banks could either be taxed twice, or attempt to avoid the levies altogether.

An example: RBS owns Citizens Financial, one of the largest banks in New England. Given that Citizens is consolidated on the RBS balance sheet, its liabilities will be charged under the British bank levy. RBS faces the prospect, if the US were then to implement its own levy, of paying two sets of taxes on Citizens's liabilities. The problem should be addressed by double-taxation relief between individual countries - the US would agree to count whatever RBS had paid in the UK when calculating how much tax Citizens should pay in the US. But the complexity of this system when applied globally will open the way for bankers to find loopholes and exemptions, providing more work for the already busy employees in the tax arbitrage departments of the major accountancy firms. We run the risk that the bank levy becomes every bit as optional as personal income taxes.

Alex Preston's column appears fortnightly. His novel "This Bleeding City" is published by Faber