IWT phased out for banks - starting in three years

Banks will, after all, receive a couple of tax sweeteners from the Australian government following the "Henry review" of the tax system. The big gain, announced in the government's budget last night, is a phasing out of interest withholding tax.  At present the tax applies to all interest payments to non-residents.

The flip side is that the phase-out will not begin until July 2013 at the earliest and a tax rate of zero will apply to only a minority of bank borrowings that are now subject to interest withholding tax.

IWT on borrowing by Australian branches of foreign banks that borrow from their head offices will fall from five per cent to 2.5 per cent in 2013/14 and to zero in 2014/15.

For other offshore borrowings by other banks, including local subsidiaries of overseas banks, the IWT rate will fall from 10 per cent to 7.5 per cent in 2013/14 and then to five per cent in 2014/15.

The government said it had an "an aspirational target of zero", but "subject to the medium-term fiscal strategy."

The IWT phase-out will not apply to interest paid on non-resident retail deposits held in Australia (with this tax measure one means of countering tax avoidance).

It will also not apply to offshore borrowings by entities that are not financial institutions.

The tax benefit to the banking sector is not as great as it may appear. The Henry review noted that the effective rate of interest withholding tax was 3.5 per cent rather than 10 per cent, given the many exemptions that apply.

The actual cost in revenue is minor at only $70 million in 2013/14, the year that the IWT rates begin to fall.