Lloyds TSB faces FSA capital bombshell over dividend

Lloyds TSB faces a capital "bombshell" that could put its huge dividend under threat, one of the City's leading analysts warned yesterday.

The company, which boasts the best dividend of any of Britain's major banks, could face a major hit because of a shake-up in the way the City watchdog treats banks' life insurance arms.

Currently the Financial Services Authority allows banks to treat the cash tied up in life insurance arms as "tier-one" capital - an important measure of a bank's financial strength.

However, no account is taken of the risks of owning a life insurance arm.

The FSA plans a sweeping review of the situation in the wake of new EU rules and changes to accounting standards. According to James Eden, banking analyst at Dresdner Kleinwort, this is likely to result in a much tougher treatment of the way banks account for life insurers, which could leave Lloyds TSB looking worryingly short of capital.

Mr Eden described the outcome of the review as a "potential bombshell" for Lloyds TSB. "The FSA have not even begun their review yet, leaving hundreds of unanswered questions - some of them terribly important to Lloyds TSB."

Mr Eden said Lloyds TSB currently looked like one of the strongest banks in Britain - if not the world - with a tier-one capital ratio of 7.4 per cent. However, that could fall to 3.6 per cent if the FSA imposes new rules requiring banks to take full account of the risks of running a life insurer.

Such a shake-up would also hit rival HBoS - which owns Halifax, Bank of Scotland and the insurer Clerical Medical. However, its ratio would only fall to 6.8 per cent from 8.4 per cent, a more than comfortable position.

Mr Eden said: "The FSA would probably give them a long lead time and they would be able to grow their way out of the difficulties. We take a rosy view of the economy at the moment and believe that they could do this. Let's not forget the most important reason for selling Lloyds TSB shares - they are expensive.

"But if we are wrong, then things could look very ropey for Lloyds TSB and the dividend could be at risk."

An FSA spokesman confirmed that the review was taking place and that it would be speaking to banks early in the new year. "We want to determine the most appropriate treatment for life insurance subsidiaries. The reason we are doing it now is that uncertainties that existed two years ago have been resolved," he said.

Lloyds TSB's head of communications, Mary Walsh, said: "We have an AAA credit rating which makes us one of the strongest banks in Britain if not the world."

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