Rachel Reeves Faces £5.5bn Black Hole Amidst Car Loan Scandal

Chancellor Rachel Reeves' fiscal targets face a significant challenge due to the potential impact of the car loan mis-selling scandal.

£5.5bn Hole in Corporation Tax Receipts

Analysis suggests the Treasury could lose up to £5.5bn in corporation tax receipts as a result of legal loopholes that allow financial institutions to offset compensation payments for mis-sold loans against their tax bills.

Impact on Fiscal Balancing

This potential hole in tax revenues would further complicate Reeves' efforts to balance the books, adding to her challenges amid weak growth and increasing borrowing costs.

Legal Loophole

The loophole stems from a Supreme Court ruling blocking Reeves' intervention in a landmark car finance case. If upheld, the ruling could trigger a wave of mis-selling payouts on par with the PPI scandal. Financial services companies currently deduct compensation payments as expenses for corporation tax purposes. However, the legislation governing this deduction is complex, leaving room for interpretation.

Wide-Ranging Market Exposure

Unlike PPI, which was predominantly sold by high street lenders, car finance products are offered by a diverse range of institutions. This could result in varying outcomes for lenders' compensation liability.

Treasury's Risk Exposure

Treasury officials estimate that car finance firms owned by banks may not be able to offset compensation payments, but the bulk of outstanding car loans (7 million) are held by "non-bank" lenders. RBC Capital estimates a £33bn compensation bill for the car finance industry, with two-thirds of loans issued by non-banks. This could lead to a £5bn loss for the Treasury if all losses are offset.

Potential Economic Impact

The Treasury has argued that allowing such compensation payments could harm the UK's business reputation and economic growth. However, blocking offsetting for non-banks could also impact the economy and limit borrowing options for families.

Lloyds Bank's Provision

Lloyds Bank has increased its compensation provision to £1.2bn, reflecting the potential costs of mis-sold car loans. The bank's provision is based on various scenarios, including the outcome of court and regulatory rulings.

Supreme Court Judgment Expected

The Supreme Court is expected to issue a final judgment on the matter in April, determining the scope of financial institutions' liability for compensation payments.

Treasury's Response

The Treasury has stated that it respects the court's decision to deny its application for intervention and will allow the appeals process to proceed.