Subchapter S : a new tool for enhancing the value of community banks

Beginning in 1997, many community banks became eligible to elect a new form of ownership, referred to as Subchapter S. Through June of 2000, 18 percent of the community banks in the United States had changed to this new ownership status. The Subchapter S ownership form effectively eliminates the double taxation of dividends and capital gains, which promises to significantly increase the after-tax returns to bank shareholders. This article reviews the characteristics of banks that have converted to Subchapter S status and identifies changes in their behavior or performance subsequent to conversion. Through the use of a survey, it also investigates the motivation of banks that converted and their impressions of how well conversion has met their needs. ; Banks that converted to Subchapter S status tend to be well capitalized, but slower-growing than other banks prior to conversion, and to have a history of higher levels of dividends. After conversion, dividend payout rates increased, leading to reduced levels of capital in Subchapter S banks. However, capital levels still remained strong, and no other indications of decreased performance or increased risk taking were found. Among the bankers surveyed, most have been generally satisfied with the results of conversion, and many indicated that Sub-chapter S enhanced the value of their bank and made it a more desirable investment vehicle.