Income tax hitting small banks

Coop Panga juhatuse esimees Margus Rink.

PHOTO: Mailiis Ollino/Pärnu Postimees

The advance income tax for credit institutions is rubbing smaller Estonian banks the wrong way as it basically constitutes restored corporate income tax for the sector.

One of the first major tax ideas of Jüri Ratas’ government was to lay down a banking tax on deposits. Bankers shot down the plan and Erkki Raasuke even threatened to move the headquarters of Luminor out of Estonia.

The government took a step back and replaced the banking tax with advance income tax for credit providers that was largely developed in the offices of the Estonian Banking Association. Yesterday marked the first due date of the tax.

Advance income tax means that banks have to pay quarterly income tax of 14 percent on profits. When the bank pays dividends, the advance is taken into account and the dividend will not be double taxed. The money will remain in state revenues until the bank distributes profits. The bill was said to render tax revenue from banks more stable.

Harder for new and small banks

Even though the proposal came from the banking association, smaller domestic credit institutions are not happy with the new tax. “It’s harebrained,” said Margus Rink, CEO of Coop Bank that opened its doors one year ago.

Rink described the tax as restored corporate income tax for the banking sector the abolition of which in 2000 has been considered one of the pillars of Estonia’s economic success. “Will we go after the telecom sector and do it to them next?” Rink asked rhetorically.

The CEO’s criticism is understandable. Advance income tax payments do not constitute a problem for mature banks, like SEB and Swedbank. They are well capitalized and pay their Scandinavian parents considerable annual dividends, generating considerable tax revenue for Estonia. In other words, the advance income tax system is redundant in their case.

Things are different for smaller and younger banks. Even though they have been doing well and are turning a profit, they need every euro to grow and develop, Rink said. “We will likely not be paying our owners dividends in the next five years. Every euro we make goes into generating new business,” the CEO explained Coop’s position.

Instead, they have to pay 14 percent income tax which they will not be getting back, unlike major banks. “Because we’re short on capital as a developing bank, it obviously hinders our progress,” Rink admitted.

Let it be said that Coop’s income tax would not remain in state revenue forever. Should the bank decide to pay dividends in its sixth year, the advance would be taken into account. But not until then.

Twenty borrowers turned down

CEO of LHV Bank Erki Kilu also said that the state has singled out a sector and restored corporate income tax. He added that the banking sector is already among the largest taxpayers in Estonia, contributing more than €100 million in income tax, VAT and labor taxes every year.

Kilu said he is bothered by the fact that the capacity of young banks based on local capital to grow and bring money into the Estonian economy is reduced. He provided the following explanation: a bank needs equity capital to issue loans, while the new tax takes a bite out of it. For example, LHV will not be issuing €20 million worth of loans a year because of the tax. “Considering that the average loan amount in corporate banking is a million euros, 20 Estonian companies will miss financing in just one bank,” Kilu explained.

Kilu, who is also chairman of the board of the Estonian Banking Association, added that they have already proposed changing the system. The banks would like to exempt credit institutions the profit of which falls short of €5 million from the tax. Today, banks have to pay the tax on every euro made.

Kilu said that banks have not translated the tax burden into prices yet: interest rates have remained unchanged both for long-term business loans and home loans during the past year. “This means that the cost of advance income tax has been covered exclusively by banks.”

Founder and owner of Inbank AS Priit Põldoja also considers the new tax to be discriminating. He said it presents a peculiar situation where major foreign banks get away clean while their smaller counterparts suffer. He said that capital is the most important tool of rapidly developing banks. “It is not as easy for us to distribute profit as dividends,” he said.

The experienced banker sees no other purpose for the tax than patching holes in the state budget. Like Rink and Kilu, Põldoja also described the instrument as corporate income tax reincarnate. “When I say I don’t like the banking tax as a banker, it sounds funny. However, taxing a single sector is peculiar,” he said and asked which sector will be targeted next.

If CEO of LHV Bank Erki Kilu said the new tax has not reached clients, Põldoja believes they will have to pay for it eventually. “Services will become more expensive. It will just be a strain on our economy in the end,” he found.