10-03-2023

For National Defence – Temporary Solidarity Contribution by Banks

The Ministry of Finance and the Bank of Lithuania prepared the draft law aimed to channel part of unexpected banks’ profits to finance military mobility and military transport infrastructure projects. The  initiative proposes to set impermanently the rate of 60 % for the temporary solidarity contribution on net interest income of banks and credit institutions, which is above more than 50 % increase of the average net interest income in 4 normal financial years. Following the proposed draft law, the temporary solidarity contribution would be paid for 2023 and 2024.  

“Observing unconventional profit growth of banks — we propose the temporary solidarity contribution, channelled to the unexpected part of the excessive banking performance, for strengthening national defence and security of the State. We seek the unexpected income in one sector to be channelled to the goals that have also temporarily significantly increased due to the geopolitical situation — military mobility and military transport infrastructure projects, which will ensure Lithuania’s capacity to receive allies, to expand the capacity of airports and the seaport, to reconstruct the roads needed for military transport, to build new infrastructure. The temporary solidarity contribution will allow us to prepare for the admission of allies faster than we could have done it earlier”, stated Minister of Finance Gintarė Skaistė.

“It is important that the solidarity contribution is channelled to only unexpected and significant part of excess net interest income and is temporary, without negative consequences for the financial system, its stability, competitive environment and without creating misaligned incentives. The current model of the solidarity contribution presented by the Ministry of Finance addresses these aspects”, says Chairman of the Board of the Bank of Lithuania Gediminas Šimkus.

The proposed temporary solidarity contributions are expected to generate EUR 510 million at the time of validity of the law. The war erupted by Russia in Ukraine has additionally highlighted the needs for military mobility in Lithuania, which are estimated at EUR 963 million. The temporary solidarity contribution is planned to finance the construction of the bypass necessary for military transport, development and renovation of airports and the seaport, installation of logistics and loading sites, development of national roads at Rūdninkai polygon, reconstruction of the highway at the Polish border, renovation of bridges and viaducts, construction of ramps and the implementation of other necessary projects. The difference between needs and temporary solidarity contributions is to be financed by the European Union assistance.

It is planned that the temporary solidarity contribution will only apply to the institutions, where the amount of the Lithuanian residents’ deposits and other funds was at least EUR 400 million on 31 December 2022, i.e. 1 % of the total residents’ deposits. In the absence of excess net interest income — the contribution is not applicable.

The draft law notes that the need for the temporary solidarity contribution stems from the temporary potential for a significant increase in banks’ profits, mainly due to the economic and geopolitical factors of the past two years and the response to them. During the outbreak of the coronavirus pandemic, the countries have taken economic stimulation and absorption measures by allocating the unprecedented support. This has not only increased the level of liquidity in the financial system, but also reduced the credit risk of businesses and households, as well as the loss potential for banks. In Lithuania this led to the fastest growing level of deposits in the euro area — 52 % — and the residents’ deposits accumulated were by EUR 11 billion higher than the loans. The European Central Bank (ECB) significantly increased reference interest rates as a result of the war erupted

by Russia in Ukraine and a significant increase in inflationary processes. The current excess limits banks’ incentives to raise deposit interest rates, while historically the largest liquidity excess is held by banks mainly in the central bank account. The ECB pays interest to commercial banks on these funds. As a result of the huge and unusual excess of liquid assets in such a situation, this income does not depend on business decisions taken by banks and are therefore regarded as unexpected.

The draft law prepared by the Ministry of Finance and the Bank of Lithuania states that the average income in previous 4 years shall be chosen, taking into account that this is a sufficient period of time to equalise the one-off factors, while the moving average takes into account the least distant period and may therefore provide more precise parameters for the contribution model, both in order to best respond to the situation and to provide space for further growth of the loan portfolio, without adversely affecting the resilience of credit institutions and financial stability. The rate of 60 % for the temporary solidarity contribution is set by leaving the income reserve to cover potential losses due to deterioration of the quality of loans, increased operating costs and other costs.

The draft Law on Temporary Solidarity Contribution is subject to an exception to the rule of the six-month entry into force provided for in the Legislative Framework Law due to exceptional circumstances. These exceptional circumstances were already established in 2022, which were confirmed by the National Audit Office. The proceeds of the temporary solidarity contribution are earmarked for a specific purpose — military mobility and military transport infrastructure projects, since, according to the doctrine of the Constitutional Court, by means of a temporary separate law, in exceptional cases expenditure may only be foreseen to achieve a specific, generally important objective within the period laid down by law.

Lithuania is not the first country in Europe to offer a temporary solidarity tax — a similar regulation applies also in other countries, such as Spain, the Czech Republic, which have introduced a temporary solidarity contribution to unexpected income or profits of credit institutions.

By submitting the Law on Temporary Solidarity Contribution, the Law on Corporate Income Tax is also revised.

Presentation is available here.