Measuring commercial bank profitability: proceed with caution
The federal tax code creates challenges for comparing the profit rates of different banks on a consistent basis. The earnings of banks that elect to operate under subchapter S of the federal tax code are not subject to federal corporate income tax, but shareholders of these "S-banks" are taxed on their pro rata share of the entire earnings of the bank. The number of banks electing subchapter S tax treatment has increased rapidly, especially among small banks. The authors use estimates of the federal corporate income tax that S-banks would pay if they were subject to the tax to show that the difference in the tax treatment of S-banks and other banks has a large impact on measures of U.S. banking system profitability. Further, the article shows that adjustment of S-bank earnings by estimates of federal income taxes to make them comparable with the earnings of other banks can markedly affect conclusions of studies that use net income as a measure of performance. Finally, the article shows that S-banks (even after their earnings are reduced by estimated federal taxes) tend to out-earn their peers; S-banks also tend to have higher earnings rates than their peers in the year before they elect S-bank status.
Volume (Year): (2007)
Issue (Month): Nov ()
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- Keeton, William & Kahn, George A. & Schroeder, Linda & Weiner, Stuart E., 2003. "The role of community banks in the U.S. economy," Economic Review, Federal Reserve Bank of Kansas City, issue Q II, pages 15-43.
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Working Paper Series
WP-03-14, Federal Reserve Bank of Chicago.
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- James Harvey & Jane Padget, 2000. "Subchapter S : a new tool for enhancing the value of community banks," Financial Industry Perspectives, Federal Reserve Bank of Kansas City, issue Dec, pages 17-32.
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