Karachi, July 10, 2023 (PPI-OT): Banks: FY24 budgetary measures and their impacts
Amongst the budgetary measures announced in FY24 Federal Budget, the widest impact for the banking sector comes from Super Tax imposition at 10%, increasing from 4%. This leads to earnings impact of ~13%, with 2QCY23's effective tax rate increasing from previous estimates' 43% to now 62% - to account for retrospective application on 1QCY23 earnings.
Other measures include additional tax up to 50% on unexpected gains. While details are awaited and legal options will likely be exercised by corporates; market widely expects this tax to be levied in some shape or form on FX income of banks.
Assuming effective rate of 39% is scaled up to the stated 50% on FX income for last three years, it will trim CY23E earnings by 7%. We do not incorporate the same in our base case till further clarity emerges.
While no additional taxes on government securities might bode well for near term earnings expectations, it will keep the space open for speculation on potential domestic debt restructuring and cause a potential overhang on valuations.
Budgetary measures for banks
Given government’s challenging situation at present, running fiscal slippages with delayed IMF tranches, the banking sector has once again been marred with higher taxes via 10% Super Tax in the Federal Budget FY24. This year however, the Super tax levied on banks is equal to what is being charged to other income earning sectors as well.
Other than that, tax on cash withdrawal has been reinstated in the Budget as well, while higher allocation of fiscal financing budgeted from Sukuks in FY24 bodes well from Islamic banking industry.
10% Super Tax continues for CY23 and beyond
The government has increased CY23’s Super Tax of 4% to 10%, keeping it unchanged beyond CY23 as well. A retrospective increase in super tax rates (for 2 quarters) while make it recurring and progressive on a prospective basis will trim current and future earnings for the sector - but the development was expected to some extent.
As 1QCY23 earnings have already been posted, with present sensitivity on CY23E earnings of Super Tax increasing to 10% for this year leads to earnings impact of ~13%. Moreover, this would also result in 2QCY23’s effective tax rate to increase from previous estimates’ 43% to now 62%. To recall, the sector was charged 10% Super Tax for Tax Year 2023 (CY22), declining to 4% from Tax Year 2024 onward
(CY23 onward).
Additional tax on unexpected gains
Other measures impacting banks include additional tax up to 50% on any gains that have arisen during any of the preceding three tax years from tax year 2023 and onwards due to any economic factor that resulted in unexpected income. While the measure is broad based, the initial impression is that FX gains made by banks are the primary target. The open-ended wording of the clause could however be interpreted to include any macro variable such as interest rates moving favourably for any bank.
Assuming effective rate of 39% is scaled up to the stated 50% on FX income for last three years (CY20 - CY22), it will trim CY23E earnings by 7%. We expect the measure to be contested in courts, however do not rule out a modified version of the measure on a prospective basis. We do not incorporate the same into our base case as much clarity is yet required.
Valuations remain compelling
While no additional taxes on government securities might bode well for near term earnings expectations, it will keep the space open for speculation of potential domestic debt restructuring and cause overhang on valuations. However, revised earnings still reflect P/Es that are attractive for CY23E/CY24F as they average sub 2.5x, with ROEs at 21%.