New Rules For Failed Banks Hit ?100,000 Depositors


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EU Finance Ministers have agreed new European “bail-in” rules which will force bank losses onto investors and depositors with over €100,000 in the event a bank fails.

EU Finance Ministers have agreed new European “bail-in” rules which will force bank losses onto investors and depositors with over €100,000 in the event a bank fails.  In other words, banks will have to bail themselves out.

Back in March, when bank depositors in Cyprus lost money as part of the country’s bailout agreement with the EU, there were concerns that this would set a precedent for future bank failures.  The President of the Eurogroup said it would. The President of the European Central Bank said it would not, but it now appears that wealthy depositors will have to foot part of the bill in future.

The new protocol was agreed on 27th June 2013 and will become law after it is voted on by the European parliament, which is expected to be towards the end of this year. It will come into effect in 2018. The country in question will have to absorb 8% of a bank’s liabilities, with some leeway after that.

EU finance ministers said the reforms are an important step in demonstrating that shareholder and creditors are “liable first and foremost”.

The aim is to lift the burden of paying for bank rescues from taxpayers.  Banks have been heavily exposed to the financial crisis, and since 2008 taxpayers across Europe have extended around €1.6 trillion of support to banks.

Under the terms of the deal, when a bank fails, shareholders will be first in line to assume bank losses, followed by bondholders and large depositors.

Deposits under €100,000 will not be touched because they are ‘insured’ under EU depositor guarantee schemes.  Deposits over €100,000 are not protected and so depositors could suffer losses, though there could be exemptions for select individuals and small companies.

A minimum bail-in of 8% of the bank’s total liabilities is mandatory before resolution funds or state resources can be used to recapitalise the bank and protect other creditors.

Bonds held by certain creditors, such by other financial institutions, could be protected in defined circumstances in order to avoid financial instability.

Since the new rules will not start until 2018, it is unclear what will happen if a bank fails before then, but it is likely that investors and large depositors will be affected.

Jeroen Dijsselbloem, the chairman of the Eurogroup, believes the agreement is a major step towards a “banking union” and away from state funded aid for troubled European banks.

For the first time, we agreed on a significant bail-in to shield taxpayers, to break the vicious circle of sovereigns and banks, and to induce banks to behave more responsibly”.

He added: “If a bank gets in trouble we will now, throughout Europe, have one set of rules on who pays the bill. The financial sector itself will now to a very, very large extent become responsible for dealing with its own problems.”

Mr Dijsselbloem was criticised in March for suggesting that the heavy losses inflicted on depositors in Cyprus would be the template for future banking crises in Europe. European Central Bank’s President, Mario Draghi, at the time said that “Cyprus is no template, Cyprus is no turning point in the Euro policy area”. But as it turned out, the Cyprus solution has indeed set a precedent.

In Cyprus, the “haircut” imposed on Bank of Cyprus depositors has now been confirmed as 47.5%. 47.5% of deposits over €100,000 with the bank are being converted into shares to recapitalise the lender as part of the international bailout. Depositors in Laiki Bank have it even worse. The bank is in liquidation and uninsured deposits over €100,000 are in limbo.

Wherever you keep your money, make sure you understand to what extent you are protected in the event of institutional failure.  Investor protection varies across jurisdictions and products. For peace of mind, seek professional advice on how to obtain increased security for your savings. For example, you can look to ring-fence your assets where possible, so that there is a legal separation of your assets from the financial institution holding them.

It is also always important to diversify your investment capital, so, depending on your time frame and objectives, it is generally advisable not to keep all your money in cash but to spread it over different assets. Relying on just one asset increases risk. Again, a professional wealth manager will discuss your options and recommend a suitable strategy for you.

14 August 2013

Tax rates, scope and reliefs may change. Any statements concerning taxation are based upon our understanding of current taxation laws and practices which are subject to change. Tax information has been summarised; individuals should seek personalised advice.