JERUSALEM (Reuters) - Israel's banking regulator on Wednesday asked commercial banks to allocate up to 3 billion shekels ($841 million) through 2026 to fund relief for retail customers and to improve interest terms offered to clients hurt by the 16-month old war.

The Bank of Israel's latest proposal calls for banks to put aside 1.5 billion shekels a year in 2025 and 2026 to finance various relief measures for retail customers, saying the amount balances the need to allocate resources for substantial relief to those impacted by the war with a desire to maintain resiliency and stability in the banking system.

Since the attacks by Palestinian militant group Hamas on October 7, 2023 that triggered the war and bringing economic hardships to many families - mainly in border towns near Gaza and Lebanon - banks have adopted a number of central bank initiatives to ease loan and other conditions to those impacted.

It said the plan to help reservists, evacuees from conflict zones and families of war casualties comes in view of "current geopolitical uncertainty, the challenges it poses to economic activity, and the high profitability of banks" and could be updated if the situation changes.

"The Bank of Israel calls on the banking system to rise to the challenges of the current times and adopt the proposed program principles," it added.

In addition to setting aside funds, the central bank asks banks to reduce interest rates on negative bank balances, providing benefits on accounts with positive balances and automatically transfer funds from checking accounts to yield- bearing accounts. At the same time, the regulator has allowed banks to issue quarterly dividends of 40% of net profit.

Banks would be required to publish the extent of the actual relief provided in financial reports, which would be audited by the central bank.

Israel's banks have come under heavy criticism from the public and some lawmakers for making large profits due to higher mortgage and loan rates since 2022 while cost of living pressures burden consumers.

Banks will begin to report fourth-quarter results on Thursday.

A survey published by the Israel Democracy Institute on Tuesday showed some 20% of Israelis who were forced to evacuate their homes after the October 7, 2023 attack have lost their jobs.

Tens of thousands of Israelis were since evacuated from towns near the Gaza and Lebanese borders.

The survey showed that around a third of Israeli households have reported a fall in their incomes since the start of the war, while 72% of evacuees received some kind of relief on their housing payments.

($1 = 3.5664 shekels)