When a European bank undergoes a bail-in, the process can have significant tax implications that must be carefully considered and planned for. A bail-in, which involves the absorption of losses by the bank’s shareholders and creditors, can trigger a variety of tax consequences depending on the specific circumstances and the national tax laws in place.
Firstly, according to IFRS 9 and IAS 32, the write-down of shares and other Common Equity Tier 1 (CET1) capital should typically be tax-neutral. However, the write-down of other financial instruments might lead to a taxable profit depending on the specific provisions of the local tax law. This taxable profit arises from the difference between the carrying amount of the written-down instrument and the value of any new instruments or shares issued in the process.
When converting a bank’s own funds or liabilities into equity, the tax implications hinge on the conversion rate. If the conversion rate is 100%, the process is generally tax-neutral. However, if the conversion rate is less than 100%, this could lead to a taxable profit or a deductible loss, again depending on the differences in value and the applicable national tax laws.
The bank’s ability to carry forward tax losses (Tax Loss Carry-Forward, or TLCF) also plays a crucial role. Depending on the legal framework, these losses might either be increased, reduced, or even canceled as a result of the bail-in. Additionally, the timing of loss recognition can affect whether these losses can be deducted in the same year they occur, potentially impacting the bank’s taxable income in future periods.
Another aspect to consider is the potential unwinding or adjustment of hedges during the bail-in, which can lead to taxable profits or deductible losses. Similarly, converting liabilities from a foreign currency to the domestic currency might also have tax consequences, depending on the specifics of the instruments involved.
The playbook for managing a bail-in should include detailed references to the applicable tax laws to ensure that all potential tax effects are fully assessed and accounted for. Even in cases where the overall tax effect might seem neutral due to offsetting impacts, a thorough tax assessment and proper tax booking are necessary steps.
Furthermore, in some countries, deferred tax assets (DTAs) can be converted into enforceable claims against the State, such as tax credits (TCs). This conversion can sometimes necessitate the creation of a special equity reserve. Banks need to provide detailed background information on country-specific tax laws, how these DTAs can be converted, and the potential impact on their balance sheets.
