South Korea's biggest banks are on pace for record profits in 2017 as they finish paying for the mistakes of the past and look forward to a long-awaited hike in benchmark interest rates.

Fueled by a widening gap between the rates they can earn on lending and what they have to pay depositors for their cash, South Korea's five largest banking groups saw first-half profit surge year over year, with one swinging from a year-ago loss and the other four rising by double-digit percentages. The two biggest, KB Financial Group Inc. and Shinhan Financial Group Co. Ltd., set company records for half-year earnings, boosted by improvements on both the revenue and cost sides.

The broader South Korean banking industry is likely to post record annual net income of 12.8 trillion won in 2017, up from 9.7 trillion won in 2016, said Choi Chung-uk, a South Korean banking industry analyst at Daishin Securities.

"Upside in both net interest income and non-interest income will continue for the rest of the year," Choi said, adding that loan loss provisions should remain constrained in the absence of big ailing corporate loans.

Based on Bank of Korea figures for lending and deposit rates, the overall net interest spread — the gap between the two — widened to 2.27% in the first half of 2017 from 2.18% a year earlier. The banking sector-wide net interest margin — the gap between interest income and interest expense — was 1.61% in the first half, up from 1.55% a year ago, according to South Korea's Financial Supervisory Service.

The primary banking units of KB and Shinhan — KB Kookmin Bank and Shinhan Bank Co. Ltd. — reported double-digit basis-point rises in both their net interest spreads and net interest margins, with the former rising to 1.92% from 1.77% at KB Kookmin Bank and to 1.78% from 1.67% at Shinhan Bank, according to company spokespeople.

And should the Bank of Korea follow market expectations by raising its benchmark rate from 1.25% in early 2018, thereby ending a string of eight quarter-point cuts since 2012, those figures "will likely improve more [for all banks], an obvious positive side for their interest income," said Won Jae-woong, a South Korean banking analyst at NH Investment & Securities.

KB Financial also posted a 40.7% rise in net fees and commission income, to 1.031 trillion won, as it reaped the benefits of recent acquisitions in the insurance and securities sectors.

As interest spreads were widening, overall loan losses were falling, according to central bank data. The trend was most pronounced at specialized banks like agriculture cooperative NongHyup Financial Group Inc., South Korea's third-biggest lender by assets, but also at commercial banks, which include the rest of the country's top five.

Loan losses were down 63.7% to 2.7 trillion won for all banks, and they fell to 1.2 trillion won from 1.6 trillion won at commercial banks, a move that included a slight uptick in the first quarter.

At NongHyup, loan loss provisions fell to 464 billion won from a record 1.353 trillion won in the first half of 2016, when it was beset by shipping and shipbuilding write-downs and made a net loss. Shinhan Financial, meanwhile, wrote back 49 billion won in provisions, largely thanks to a 360-billion-won first-quarter write-back from Shinhan Card Co. Ltd., but also owing to a 73.9% fall in Shinhan Bank's provision for credit losses, to 105.90 billion won.

Across the industry, further big corporate lending provisions are unlikely given that South Korea is close to finishing the restructuring of ailing industries, said Kang Hye-Seung, a South Korean banking analyst at Mirae Asset Daewoo.

Hana Financial Group Inc. and Woori Bank saw somewhat less pronounced rises in net interest income than their two larger commercial bank peers, but they cut operating expenses by 6.7% and 7.3%, respectively. Woori Bank expects to pay out 300 billion won in compensation for job cuts in the third quarter, but Daishin's Choi noted that the program will benefit the expense line in 2018.

Hana, meanwhile, expects a one-off income boost of 900 billion won in the second half as it closes the sale of a headquarters building in the center of Seoul.

As of Sept. 19, US$1 was equivalent to 1,129.64 South Korean won.

Click here to view SNL's profile of individual Asia-Pacific banks and view key information in tabular and graphical formats for a selected company. Click here to set real-time alerts for data-driven articles. First choose a delivery preference, then select Banking under Data Dispatch Asia-Pacific and click apply at the bottom of the page.