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The Guardian - UK
The Guardian - UK
Business
Kalyeena Makortoff Banking correspondent

UK banks brace for ‘windfall tax’ to help plug £40bn hole in public finances

banks at canary wharf in east London
Smaller lenders will still benefit from a higher threshold. Photograph: Tolga Akmen/AFP/Getty Images

UK banks are steeling themselves for a windfall tax by stealth as the new chancellor tries to plug a £40bn hole in the public finances.

City lobbyists at UK Finance are concerned that banks will not be compensated for Jeremy Hunt’s U-turn on corporation tax, which will now mean the levy rises from 19% to 25% next year.

It is understood the lobby group is likely to push the point in a letter to the chancellor before the budget update on 31 October. UK Finance declined to comment.

The former chancellor Rishi Sunak had promised last year to cut a sector-specific tax known as the banking surcharge from 8% to 3% to make up for the increase. However, Hunt has not made any commitment to do so, despite fears that banks would now have to prepare for a headline tax rate of 33%, rather than 28% as previously promised.The move was expected to save banks £4bn over five years.

Smaller lenders including the Co-operative Bank will still benefit from a higher threshold, with the chancellor promising the surcharge will only apply to lenders earning at least £100m, rather than £25m.

A decision to maintain the surcharge at current levels could help the government raise more cash to plug the hole in public finances. A Treasury source rejected the suggestion that the move could be seen as a windfall tax by stealth but said Hunt would confirm his position on the surcharge when he gives his fiscal update.

A Treasury spokesperson said: “We can’t comment on specific speculation, however the chancellor and prime minister have been clear that difficult decisions will be required to restore economic stability and no options are off the table.”

By international standards, taxes in the UK are relatively modest. The amount taken by the state will be around 35% of national income following the decision to bring in a new health and social care levy, which puts Britain in the bottom half of the league table and well behind the 40%-plus rates in France and the Scandinavian nations.

By the UK’s own standards, however, the tax take is historically high. On a sustained basis, it is necessary to go back to the immediate aftermath of the second world war to find a time when tax as a share of gross domestic product stood at 35% – and at that time the trend was sharply down.

Carl Emmerson, the deputy director of the Institute for Fiscal Studies, said there was no comparable data for the period before the second world war but the tax take was almost certainly lower. “It was much cheaper to run an empire than a welfare state,” he said.

The tax take fell after 1945 for two reasons. Peacetime required a smaller state and the economy grew by around 3% on average. A country’s tax “burden” depends not just on whether taxes are going up or down but how fast the economy is expanding and so by the end of the 1950s the tax-to-GDP ratio was down to 27% of GDP. Higher government spending in the 10 years that followed meant higher taxes, which briefly hit 35% of GDP at the end of the 1960s, and remained only just below that level when Margaret Thatcher came to power in 1979.

There was then another 15-year decline in tax as a share of national income taking it once again below 30% by 1994. Since then, the trend has been steadily upwards, with only a few temporary dips.

Larry Elliott

It comes as UK banks prepare to announce potentially bumper third-quarter profits next week, as they reap the benefits of rising interest rates that have increased the cost of borrowing for customers.

Maintaining the surcharge would be seen as a further divergence from the City-friendly agenda of deregulation and tax cuts outlined in Kwasi Kwarteng’s mini-budget last month.

David Postings, the chief executive of UK Finance, the banking lobby group, said the industry already paid a higher overall rate of tax than any other sector, due to the banking surcharge and the smaller 0.1% bank levy, which only applied to certain parts of lenders’ UK balance sheets.

After the decision to revert to the original corporation tax increase, “we urge the government to consider the surcharge very carefully and not put at risk the competitiveness of the UK’s banking and finance industry”, Postings said.

The Conservative MP and former City minister John Glen also raised concerns about a growing tax bill for the UK banking sector. “If the rate is retained as an 8% surcharge, banks will be paying 33%, and when added to the employment costs for national insurance may have issues in terms of competitiveness,” he told MPs in the House of Commons.

Glen’s successor, Andrew Griffith, said he would stay in “very close touch with our very valued banking community” and “continue to drive the competitiveness of the United Kingdom” for the financial services sector.

However, a senior executive at one high street bank said that while they would prefer the levy to be reduced, maintaining it at current levels was much preferred to tinkering with the interest rate that banks earn from deposits held at the Bank of England. Reports emerged in recent weeks suggesting the Treasury was considering cutting the level that lenders can earn from those reserves.

The share price of some large UK banks fell on Wednesday morning, with Lloyds down nearly 3.5%, Barclays 1.4% lower and NatWest falling 2.2%.

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