EBA consultation on guidelines on credit risk management practices and accounting for expected credit losses

Transcription

1 EBA consultation on guidelines on credit risk management practices and accounting for expected credit losses

2 What you need to know The EBA CP provides six questions for feedback, with the consultation period open until 26 October The finalized guidelines are scheduled to be issued by the EBA no later than Q The CP guidelines are written for ECL accounting frameworks, with the scope being all credit institutions that report under IFRS. However, competent authorities may consider applying the relevant aspects related to CRM to other reporters. The EBA principles and guidelines follow the Basel Committee on Banking Supervision (BCBS) supervisory guidance on credit risk and accounting for expected credit losses publication, commonly referred to as G-CRAECL. This serves to reinforce a number of principles. EY has noted some additional guidance, however, within both the principles and the guidelines for IFRS reporters. These relate to the definition of forbearance and to elements of the governance process. The EBA CP allows for the application of proportionality for smaller and less complex credit institutions. While it provides options to the proportionality approach the EBA could take, it does not provide further guidance on the use of proportionality. Credit institutions should indicate in their comments their views on proportionality. The consultation document does not address requirements concerning expected losses for regulatory capital purposes. Contents Introduction 1 Objective and scope 1 Comparison to issued BCBS guidance 2 Similarities with the G-CRAECL 2 Additional guidance in the EBA CP 3 Appendix: overview of EBA questions for consultation 5

3 Introduction On Wednesday, 27 July 2016, the European Banking Authority (EBA) issued a public consultation paper (the CP) providing draft guidelines on credit institutions credit risk management (CRM) practices and accounting for expected credit losses (ECL). The CP provides six questions for feedback, with the consultation period open until 26 October The finalized guidelines are scheduled to be issued by the EBA no later than Q1 2017, a concern considering the short timeframe until IFRS 9 implementation in Objective and scope The EBA CP follows the Basel Committee on Banking Supervision (BCBS) supervisory guidance on credit risk and accounting for expected credit losses publication, commonly referred to as G-CRAECL (issued in December 2015). Within the CP, the EBA states its objective for the EBA guidelines to be in line with the BCBS guidance. However, it does note a number of differences, including clarification on how to apply the EBA guidelines allowing for the principle of proportionality. The CP provides options to the proportionality approach the EBA could take. The CP is written for ECL accounting frameworks, with the scope being all credit institutions that report under IFRS on an individual, sub-consolidated and consolidated basis, as per Directive 2013/36/EU, Article 109. While the CP addresses credit institutions reporting under IFRS, the EBA comments that competent authorities may consider applying the relevant aspects related to CRM to other reporters. The EBA states its objective for the EBA guidelines to be in line with the BCBS guidance. The CP also contains three supervisory evaluation principles for competent authorities. These cover credit risk management assessment, ECL measurement assessment and capital adequacy assessment. While materially consistent with the equivalent G-CRAECL principles for supervisors, they demonstrate the mechanism through which the eight principles for credit institutions will be monitored and scrutinized by competent authorities. The EBA notes that these guidelines have been drafted to support the appropriate application of IFRS 9 and do not discuss requirements concerning expected losses for regulatory capital purposes. EBA consultation on guidelines on credit risk management practices and accounting for expected credit losses 1

4 Comparison to issued BCBS guidance S imilarities w ith th e G - C R AEC L The EBA CP is largely consistent with the G-CRAECL, with identical principles in both sets of guidance. This serves to reinforce a number of principles: The EBA general principle reinforces the G-CRAECL consideration of forwardlooking information (Section 4.1.3). This area is receiving significant ongoing attention, and the EBA consultation emphasizes the need for credit institutions to have a clear, documented, understandable and appropriate approach to forward-looking information. EBA Principle 3 provides guidance on grouping exposures based on shared credit risk characteristics when assessing expected credit losses collectively and the need to be granular enough to retain sufficient meaning (Section 4.2.3, paragraph 49 53). Credit institutions should clearly document their rationale for grouping exposures and make sure it is in line with the granularity used in business decisions, notably in relation to ICAAP and their risk appetite framework. EBA Principle 3 provides guidance on the use of temporary adjustments as per the G-CRAECL (Section 4.2.3, paragraph 54 56). As credit institutions increasingly move to the build phase of their implementation plans, the need to use more temporary adjustments may arise. Credit institutions should understand the ongoing impact of these temporary adjustments and appropriately communicate them to those charged with governance, and maintain appropriate documentation. Institutions should ensure there is consistency between adjustments applied for their capital requirements and IFRS 9, or explain and document any differences. The requirement for strong governance is contained within a number of principles, reiterating the G-CRAECL points (Principles 1, 2, 3, 5, 6). Credit institutions are increasingly evaluating the governance requirements of IFRS 9. As the implementation date moves closer, credit institutions should consider controls, sign-offs and communication to key stakeholders when planning for the parallel run. Furthermore, for documentation, credit institutions should include items as diverse as credit risk processes and systems, the rationale for methodological choices (deterioration, ECL calculation), shortcuts, assumptions, governance for backtesting and validation framework, among other items. Additionally, the emphasis on documentation is contained in a number of principles, reiterating the G-CRAECL principles (Principles 2, 3, 4, 5). This includes the requirement to have clear documentation supporting the analyses, estimates and reviews of the ECL methodology within Principle 2, and comprehensive documentation of the model validation framework and process within Principle 5. As with the G-CRAECL, the EBA confirms that the use of practical expedients available in the standard should be limited (Section 4.3.3), subject to proportionality see next page. 2 EBA consultation on guidelines on credit risk management practices and accounting for expected credit losses

5 Additional guidance in th e EBA C P P rinciples on credit risk management practices and accounting for expected credit losses As part of Principle 1 (Management body and senior management responsibilities), the EBA guidance notes that senior management should establish and implement an effective internal control system. Furthermore, the EBA notes that if the internal audit function identifies weaknesses it should make recommendations to address these. The EBA guidance also refers to the EBA Implementing Technical Standard (ITS) on forbearance classification probation periods as part of Principle 2 (Sound ECL Methodologies). This indicates a consistent approach to forbearance probation periods may be preferred across credit institutions, aligning with the definition used in FINREP. Consideration for credit institutions that have outsourced their model validation process is made as part of Principle 5 (ECL model validation), with the EBA explaining that the credit institution retains responsibility for this area. Guidelines specific to credit institutions applying IFRS 9 D efault The EBA CP references the regulatory definition of default in accordance with Article 178(1) of Regulation (EU) 575/2013 and notes that the definition of default for accounting purposes should be guided by this article. The direction to be guided by the regulatory definition of default is consistent with the G-CRAECL, but the EBA CP clearly lays out that this should be defined as per Regulation (EU) 575/2013. Proportionality The EBA CP allows for the application of proportionality for smaller and less complex credit institutions, commenting that they may reasonably rely more on the use of practical expedients. Credit institutions should consider the need to make adjustments when using practical expedients to avoid any resulting bias as they should take into account that the objective of IFRS 9 is to estimate expected credit losses to reflect an unbiased and probability-weighted amount that is determined by evaluating a range of possible outcomes (IFRS 9, paragraph ). When compared to the G-CRAECL, this provision may facilitate the use of practical expedients for smaller institutions. Nevertheless, such shortcuts should not be applied blindly, as acceptable assumptions and their appropriateness should be justified via thorough analysis. In some cases, an adjustment may be warranted if the analysis suggests that the practical expedients would introduce a bias to the calculation of ECL (as would be the case if an entity relied only on delinquency for assessing staging see paragraph 138). EBA consultation on guidelines on credit risk management practices and accounting for expected credit losses 3

6 M The EBA CP does not provide further guidance on the use of proportionality. The draft cost-benefit analysis in the CP lists potential options on applying proportionality, in section D2: Option 2.1: application of the guidelines in a proportionate manner without defining specific criteria. Option 2.2: develop criteria on the application of the proportionality approach and exclude smaller/less complex credit institutions in certain cases. Option 2.3: develop criteria on the application of the proportionality approach and include additional requirements for systemically important and other credit institutions in certain cases. The EBA CP considers the application of proportionality for smaller and less complex credit institutions. The EBA recognizes that options 2.1 and 2.2 will depend on the ability of credit institutions and competent authorities to apply the guidelines in a proportionate manner consistently. The CP notes that a mix of options 2.1 and 2.2 is currently preferred, given the costs of 2.2 and 2.3. Credit institutions should indicate in their comments their views on proportionality. Supervisory evaluation of credit risk practices, accounting for expected credit losses and capital adequacy The EBA CP provides additional guidance that supervisors should scrutinize the use of practical expedients to determine the appropriateness of ECL in Principle 2 (ECL measurement assessment) for supervisory evaluation. However, the EBA CP has removed guidance on the supervisory response and communication contained within Principle 3 (Capital adequacy assessment), as compared to the G-CRAECL. O th er sources of information Consideration of the EBA CP may be made in light of the recent guidance issued by the Global Public Policy Committee (GPPC), which discusses what would be considered a high-quality implementation. The GPPC contains representatives of the six largest accounting networks, of which EY is a committee member. Key EY contacts T ara K engla Tel: tkengla@uk.ey.com Tony Clifford Tel: aclifford@uk.ey.com S h aun C araz z o Tel: scarazzo@uk.ey.com ich iel v an der L of Tel: michiel.van.der.lof@nl.ey.com L aure G uegan Tel: laure.guegan@fr.ey.com J ana W ä h risch Tel: jana.waehrisch@de.ey.com Y olaine K ermarrec Tel: ykermarrec1@uk.ey.com C assondra P olegri Tel: cpolegri@uk.ey.com Catriona Early Tel: cearly@uk.ey.com Aurelie T oq uet Tel: aurelie.toquet@fr.ey.com J oh n C rousse Tel: john.crousse@be.ey.com 4 EBA consultation on guidelines on credit risk management practices and accounting for expected credit losses

7 Appendix: overview of EBA questions for consultation The following is an extract from the EBA consultation paper of the six questions raised: Is the scope of application of the guidelines appropriate and sufficiently clear? Is the date of application of the guidelines of 1 January 2018 appropriate? Please provide any comments you may have on the appropriateness of the proposed proportionality approach. Do you agree with the draft guidelines which introduce the relevant BCBS Guidance in the EU regulatory framework? Are there additional issues for which the EBA Guidelines should be amended in the context of finalizing the guidelines? Do you agree with the impact assessment and its conclusions, having regard to the baseline scenario used for this impact assessment? Please provide any additional information regarding the costs and benefits from the application of these guidelines. Please provide any additional comments on the draft guidelines. EBA consultation on guidelines on credit risk management practices and accounting for expected credit losses 5

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