Magic, the fairy-tale characters on the ABC hit Once Upon a Time were fond of reminding each other in the show’s early seasons, always comes with a price. And many of them showed themselves willing to pay, even when the cost proved unexpectedly high.
A similar attitude prevails on Wall Street, where megabanks spent years pushing Washington for the elixir of tax reform that they said would drive lending growth and economic expansion, only to find themselves confronting massive payouts to cover arcane provisions that subsidized a reduction of the top corporate rate to 21 percent from 35 percent.
Ultimately, the bill cost the five largest banks a combined $32.7 billion in the last three months of the year, forcing two of them — Citigroup and Goldman Sachs — to post a net loss. None of the CEOs, however, were complaining. Instead, they pointed to significantly lower tax rates in the future that they said would boost spending by their clients and potentially enable them to increase stock buybacks and invest in growth.
“On balance, tax reform is a clear net positive,” Citi CEO Michael Corbat told investors, even though the reduction lowered the value of his company’s tax breaks from losses in previous years. That, combined with a one-time levy on overseas holdings, led to a $22 billion charge that caused the New York-based bank to lose $18.3 billion in the last three months of 2017.
Still, the tax code changes, which also lowered rates for many individual payers, “could change the sentiment among those making investment decisions from optimism to confidence and become the boost the U.S. economy needs to drive growth higher,” Corbat said. Consumers, who account for more than two-thirds of the U.S. economy, will be able to use higher take-home pay to buy more or to settle debts they already owe, he added.
Major lenders tracked by Swiss bank UBS will likely see tax rates drop an average of 10 to 12 percentage points, explained analyst Steve Winoker. Many will boost the amount of capital they return to shareholders through buybacks and dividends, and some “may selectively increase technology investments, but not sufficiently to place a sizeable dent in profitability,” he said.
Ultimately, 65 percent to 75 percent of the benefit may fall to banks’ bottom lines, Goldman Sachs analyst Richard Ramsden said in a report.
Charlotte, N.C.-based Bank of America, which saw its credit for previous tax losses curbed by $1.9 billion, said two fundamental drivers will from the tax bill will nonetheless bolster the bank’s performance. First, the lower effective tax rate will offer significant savings to the company’s largest customers, giving them more money to invest.
Second, the tax act “levels the playing field for America because an important barrier to investing in the U.S. relative to other jurisdictions has been reduced,” said CFO Paul Donofrio. “As one of the largest banks in America, we benefit.”
Because of the change, Bank of America’s effective tax rate will likely be 20 percent in 2018, down from an expected 29 percent previously. That will allow the bank to return more to shareholders through dividends and stock buybacks, provided regulators approve, CEO Brian Moynihan said.
At Morgan Stanley, CEO James Gorman highlighted a corporate tax rate that may drop as low as 22 percent next year from a previous level of 31 percent. It was, perhaps, easier for him be upbeat, considering that his firm’s profit was crimped by just $990 million, less than any of its rivals.
“We’ve sort of labored under a pretty high global tax rate,” Gorman added. “There aren’t many institutions that are operating with 32 percent or above global tax rates. Certainly, there aren’t many U.S. institutions. So, we are a clear beneficiary of this.”
Ditto for JPMorgan, which was affiliated with Morgan Stanley prior to a Depression-era law separating investment and commercial banks. Its tax rate will be about 19 percent this year compared with 29.6 percent previously, and the New York-based lender plans to invest some of the extra cash it will now have in pay raises for lower-level employees, expansion of its branch network and increasing loans to small businesses.
“We’re a bank,” said CEO Jamie Dimon. “We’re supposed to help support and grow communities, and it will enhance our growth in the future, too, by the way. So, this isn’t like a giveaway.”
