U.S. banks, including the Big Six, reaped a windfall from the Trump tax cuts far greater than expected. A whopping $21 billion in tax savings, nearly double the IRS’s annual budget and greater than NASA’s request for 2019, has helped boost America’s largest financial institutions’ profits and stock prices, lifting the KBW Bank Index 14.4% YTD, compared to the S&P 500's 9.5% increase over the same period. Thanks to the Republican tax overhaul, banks on average saw their effective tax rates fall below 19% in 2018, compared to the approximate 28% they paid in 2016.

Four of the six largest U.S. banks paid less than expected in taxes last year. Bank of America Corp. (BAC) actually paid 18.6% in taxes, less than the 20% it expected. Meanwhile, Goldman Sachs Group (GS) paid just 16.2%, versus the 24% it expected, while Citigroup (C) paid 22.8%, versus the 25% expected, and Morgan Stanley (MS) was taxed at 23.5% versus the 20.9% initially forecasted. The tax cuts helped big banks finance $29 billion in dividends and buybacks to shareholders, and the six largest banks surpassed $120 billion in combined profits for the first time. Despite this major boost, banks still significantly reduced jobs and trimmed other expenses. Lending business growth also slowed over the period, per Bloomberg.

What the Big Six Banks Paid in Taxes

(Forecasted Tax Rate Vs. Actual Tax Rate)

  • Bank of America; 20%, 18.6%
  • Citigroup; 25%, 22.8%
  • Goldman Sachs; 24%, 16.2%
  • JPMorgan; 19%, 20.3%
  • Morgan Stanley; 23.5%, 20.9%
  • Wells Fargo; 19%, 19.8%

Source: Bloomberg

$21 Billion in Tax Savings for Finance Behemoths

Big banks, which in the past years have faced higher effective tax rates than non-financial companies, were among the biggest beneficiaries of the tax overhaul. While the companies promised to use a portion of the savings on things such as employee rewards and higher wages, community and small business support, the actual use of the tax savings is likely to spur a debate in Washington over the law’s effectiveness in boosting the broader economy.

There’s no question that tax cuts fueled dividends and buybacks for financial institutions. Bloomberg’s review, based on commentary from 23 U.S. banks and the Federal Reserve, indicated that the financial institutions increased their dividends and stock buybacks by an average of 23%. Wells Fargo increased its repurchases and dividends by $11.3 billion, trumping Morgan Stanley’s $1.8 billion increase, which was equivalent to the Veteran Association’s request for homelessness programs for FY2019.

Companies made gestures for employees, like Bank of America’s $1,000 bonuses for roughly 145,00 employees in 2018, and Wells Fargo’s new minimum wage at $15 per hour. However, the 23 banks slashed nearly 4,300 jobs, with a handful indicating thousands of additional job cuts to come. While tax cuts may ease pressure on personnel cuts due to changing industry dynamics and a shift to tech-enabled services, banks indicate that they are also spending a significant amount more on automation, per Bloomberg. 

Some expect the impact of the tax cuts to continue to boost profits for the banks. In Q4, the tax break helped Citigroup post earnings per share well above the consensus estimate, yet fell short of revenue forecasts.

Looking Ahead

Positive drivers aside, it’s important to note that the bank rally may not last. Some market watchers, including Dan Nathan of Risk Reversal, warn that this is the beginning of the end for the financial sector’s comeback, per CNBC.

"I think we were all in agreement that the underperformance for all of 2018 was a really bad tell for this group,” wrote Nathan. The analyst highlighted other warning signs including the merger of SunTrust and BB&T to create the sixth-largest bank, noting that M&A activity in the space has historically acted as a downside precursor for the markets. Further, he sees the bond market flashing warning signs, spelling bad news for the global economy at large and banking stocks in particular.