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Bankers’ fear that deemed dividend tax may hurt capital of Sri Lankan banks

Sharhan Muhseen and Raja Senanayake

Nov 21 (LBO) - A controversial tax to force Sri Lankan companies to pay dividends would undermine the health of the commercial banks by depleting their capital, a top banker has warned. The government is keen to push dividends in order to charge the dividend tax.
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But private sector officials point out that choice of paying dividends is an internal matter.

"It is an infringement of the rights of the companies to compel companies to pay so much of dividends," says Wijetilleke.

"The Board of Director should be allowed to decide how much to pay and how much to keep."

The budget proposed that companies that pay less than 25 percent of their distributable profits as dividends should be subjected to a penal tax.

"We in the banks are given a minimum capital requirement; we have to have capital adequacy to support our assets," Rienzie Wijetilleke, Chairman of Hatton National Bank told a seminar of the Sri Lanka Association of Economists.

"We have got to provide something for our future. My banks' requirement in the next five years for technology alone is 10 million dollars. Where would I get the money if I had to give all my profits to the share holders?"

Due to loose monetary policy, Sri Lanka's banks have been lending heavily and most banks need capital.

Banks are already heavily taxed through income tax, a financial value added tax and a debit tax.

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A top tax expert speaking at a Ceylon Chamber of Commerce post-budget seminar said the tax may not have the intended effect because companies may choose to retain cash by paying extra tax.

"I don't think the proposal has captured what people have been lobbying for," N R Gajendran, of Gajma and Company said.

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"Companies can choose to just pay the 15 percent and be done with it. So you don't distribute, only thing is you pay 5 percent more because normally if you distributed dividends you would have paid 10 percent.

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Lal de Mel, former Head of CIC said the tax could push up share values, because companies that pay high dividends tended to have high price earnings valuations, according to his calculations.

"Price earning ratios that is not the only criteria for the shares," Wijetilleke said.

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"People get a lot of other gains on shares. The man who bought the HNB shares in 1976 for 1000 rupees, now it is worth 3 million.


Analysts say companies that grow fast and are more profitable tend to have high earnings multiples.

Since they are profitable they naturally pay a higher level of dividends.

Analysts point out that higher profitability is the reason for the higher valuation rather than the fact that they paid dividends.

Berkshire Hathaway, the investment firm of Warren Buffet, has not paid dividends for years.

Other business leaders say the tax would hurt cash flows as most companies have problems in finding cash to pay dividends, even though accounting profits are made.

Already exporters were facing cash-flow problems because value added tax refunds was apparently delayed because the government was short of cash.

"When there is a compulsory distribution of 25 percent definitely it will be a real difficult task because the liquidity is with the government, because vat refunds are delayed.

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In spite of that, if we have been asked to distribute the profits, we can distribute the profits but not in cash but in kind."

Analysts say companies could look at paying stock dividends, which done by giving a redeemable debt instrument, which some companies have done in Sri Lanka in the past.

But companies say it is important to save money for capital formation rather than give it for consumption, especially if companies need capital.

"We have to compete with the global market," says Rajapakse.

"If we are told to distribute the profits to the shareholders, the capital formation will not take place in the first instance."

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