Treasury sets aside $816m for failures

The Treasury is bracing itself to pay out $816 million to investors under the Retail Deposit Guarantee within the next 12 months, having identified entities that are "more likely than not" to fail or otherwise trigger demands on the guarantee.

In commentary included with the Crown Financial Statements released yesterday, the Treasury said it saw the chances of demands from entities that hold more than $5 billion in deposits - ie, the major banks - as being remote and it had made no provisions for them.

However: "For other entities within the scheme, a provision has been made both when guarantees have been triggered and to provide for losses that are more likely than not to occur".

The Treasury has already paid out $34 million to depositors in Mascot Finance and Strata Finance.

It said it "continually updates the likelihood of further default actions triggering the guarantee" and assesses the expected loss. Any subsequent recoveries from affected institutions which would offset the losses are excluded from the calculations.

"Based on these assessments, the Crown has provided for $816 million as at 30 June 2009 for future payments under this scheme."

The Treasury said the provision had been made applying the assumption that the scheme would finish in October next year.

The timing of a decision to amend and extend the scheme for a further 14 months beyond that date had not led to an amendment of the provision.

"This decision would however be unlikely to significantly impact the amount of the provision."

Many commentators were surprised in October last year when the beleaguered finance company sector was included in the scheme's initial coverage.

Introduced to allay fears of potential bank runs during the worst of the credit crisis, the guarantee was successful in restoring investor confidence in finance companies.

However, there has been considerable speculation many smaller companies would choose to "hand the keys" to the Treasury, trigger the guarantee and let the Government pick up the tab before the initial scheme expired, in the belief that without it their businesses may not be viable and they may not be able to meet their commitments to investors.

While the extension, announced in August, has provided some certainty to the market, new requirements for qualifying entities to have at least a BB credit rating appears likely to exclude many smaller and medium-sized finance companies.

New Zealand's two largest locally owned finance companies, South Canterbury and Marac, recently had their credit ratings downgraded, although at BB+ both remain a notch above the minimum level required by the new scheme.

The Crown Financial Statements also reveal the Treasury has booked a $1.4 billion gain relating to the Inland Revenue Department's amended assessments of the major bank's tax liability around their controversial "structured finance" transactions.

The sum excludes interest and penalties and the Treasury has also booked a corresponding contingent liability to allow for the possibility the banks will eventually prevail in their legal challenges against the IRD.

Both BNZ and Westpac have failed in their initial High Court cases against the IRD this year. BNZ has said it will appeal and Westpac is expected to follow suit.

The total amount being sought by IRD from the four major banks is around $2.4 billion.

RETAIL DEPOSIT GUARANTEE
* Introduced in October 2008.
* Covers $124.2 billion in deposits held by 73 financial institutions including banks, finance companies and building societies.
* Participating institutions have contributed $74 million in fees under the scheme.
* It has been drawn on twice, paying out $34 million to investors in Mascot Finance and Strata Finance.
* The existing scheme expires in October next year to but will be extended for a further 14 months, but with more stringent conditions.