Forbearance definition, Lecture notes of Economics

Download Forbearance definition and more Lecture notes Economics in PDF only on Docsity!

Forbearance definitions and upcoming

work

Introduction

On 21 October 2013 the EBA released two definitions as amendments of the common

EU-wide IFRS Supervisory reporting framework (FINREP)

Definition of Forbearance (FBE)

Definition of Non-Performing Exposures (NPE)

In the process of being endorsed by the EU Commission (first reporting: 30/09/2014)

Definitions used on a best effort basis during the AQRs (cf EBA Recommendation and ECB 23

October Note on Comprehensive Assessment).

In parallel, the EBA has been and will be involved in other activities to promote sound

credit risk practices and appropriate implementation of accounting standards as

regards financial instruments

Basel Committee work on problem asset classification and valuation

Development and implementation of IFRS 9 Phase 2

EBA definitions of Forbearance and Non-performing exposures 2

Why developing these definitions? (2)

Following the financial and sovereign crises in the EU, concerns have arisen about

forbearance policies and non-performing exposures management across the EU

Forbearance: concerns on potential misuse to avoid recognition of impairments

Non-performing: concerns about under-recognition/lack of timely recognition due to

forbearance and optimistic valuation

Due to various national and bank definitions, lack of comparability of reported figures

for forbearance and non-performing exposures

Hindered the assessment of risks/achievement of common understanding of the issue and

implementation of solving strategies by banks/supervisors (especially for cross border groups)

Fuelled concerns in markets about asset quality in EU banks

This situation called for definitions aimed to provide convergence within the EU

around the notions of Forbearance and Non-performing exposures

PRESENTATION TITLE 4

Why developing these definitions? (3)

Call for more harmonised definitions of forbearance and non-performing exposures

ESRB: need for better and more consistent data to help supervisors ensure that forbearance is

accompanied by appropriate provisioning (September 2012)

ESMA : statement on the definition of forbearance practices, their impact on the impairment

of financial assets and disclosures on forbearance activities (December 2012) , banks should

define the notion of NPL used in their financial statements (November 2013)

Vienna Initiative : Efforts to harmonize NPL definition across jurisdictions would facilitate their

understanding and avoid misinterpretation of risk levels (March 2012)

To develop harmonised definitions, the existing accounting and regulatory

frameworks were useful starting points but had to be complemented

IFRS use neither forbearance nor non-performing (except in an implementation

guidance) and tie modifications of loans to the identification of impairment

The definitions of impairment and default are implemented differently (national

options and industry practices)

PRESENTATION TITLE 5

Overview of the definitions

EBA definitions of Forbearance and Non-performing exposures 7

Non-performing

past due more than 90 days and / or unlikely

to pay

Defaulted

Impaired

All other non-defaulted and non-impaired loans and debt

securities and off-balance sheet exposures meeting the generic

criteria

Fair value option

Fair value through other comprehensive

income

Amortised cost

Generic criteria:

off-balance sheet items:

Loan commitments given

Financial guarantees given (except derivatives)

Other commitments given

Performing

Fully perfoming

Loans and debt securities that are not past - due and

without risk of non-repayment and performing off-balance

sheet items

Performing assets past due below 90 days

Loans and debt securities between 1 - 30 days

past due

Loans and debt securities between 31 - 60 days

past due

Loans and debt securities between 61 - 90 days

past due

Performing assets that have been renegotiated

Loans and debt securities which renegotiation or refinancing did

not qualify as forbearance

Forbearance

Forborne loans and debt

securities (and eligible off-balance

sheet commitments)

performing or non-performing

Refinancing Modifications of

terms and

conditions

Other

The definitions of Forbearance and Non-performing exposures seek to ensure

harmonisation across accounting, regulatory and business practices

Definition of forbearance (1)

Forbearance measures are concessions towards a debtor facing or about to face

financial difficulties (loans, debt securities, commitments – no trading exposures )

Modification of the terms and conditions of the contract that would not have been granted

had the debtor not been in financial difficulties (judgment in identifying of financial difficulties)

• For example more favourable terms than the previous terms of the contract or than the terms of

other debtors with a similar risk profile, use of embedded forbearance clauses

Total or partial refinancing of an exposure that would not have been granted had the debtor

not been in financial difficulties

• For example total or partial repayment of a debt contract with the proceeds from another debt

contract

Safety nets : mandatory classification as forborne when

The modified/refinanced contract is or would have been non-performing without modification

or refinancing or embedded forbearance clauses are used by a non-performing debtor

Repayment is done on a non-performing contract close in time to the granting of additional

debt

Modification lead to a total or partial cancellation through write-off

The modified/refinanced contract is or would have been 30 days past-due ( rebuttable )

EBA definitions of Forbearance and Non-performing exposures 8

Definition of forbearance (3)

EBA definitions of Forbearance and Non-performing exposures 10

Definition of forbearance (4)

11

3rd case: Extension of forbearance to an already non-performing exposure. A mandatory 1 year cure period has to pass and exit

criteria (repayment of past-due or written-offamounts) have to be met before the exposure can be reclassified to performing

forborne. Then the 2-year probation period starts running. At the end of the probation period, the exposure ceases being classified as

forborne providing the other discontinuation criteria (past-due, repayments) are met

NPE forborne

6M 1Y 1.5Y 2Y 2.5Y 3Y

Reclassificatio n as performing

forborne after one year if the exit

criteria from non-performing are

met: start of the probation period

1 year

probation

period

Discontinuation of forbearance

classification when criteria are

met

Definition of non-performing exposures (1)

A non-performing exposure is an exposure that is:

90 days past-due (material exposure) or unlikely to be repaid in full without collateral

realisation (irrespective of any past-due amount or of the number of days past-due), or

Impaired or defaulted according to the applicable accounting or regulatory frameworks.

 Linkage with impairment to be reviewed when IFRS 9 is endorsed

Classification as non-performing for the gross outstanding amount without

consideration of collateral (creditworthiness rather than incurred loss approach).

Scope: banking book loans, debt securities, loans commitments, financial guarantees

Commitment: non-performing if its use would lead to an exposure unlikely to be repaid

without collateral realisation.

Financial guarantees: non-performing when at risk of being called, in particular when the

guaranteed exposure is non-performing.

Exposure can be non-performing on an individual or debtor basis but all exposures to

a debtor are non-performing when on-balance sheet exposures more than 90 days

past-due > 20% of the on-balance sheet exposures to the debtor.

EBA definitions of Forbearance and Non-performing exposures 13

Definition of non-performing exposures (2)

Exposures are considered to have ceased being non-performing when all the following

conditions are met:

The exposure has met the exit criteria out of the impaired and defaulted categories,

An improvement in the situation of the debtor makes the full repayment according to the

original or modified conditions likely,

The debtor does not have any amount past-due by more than 90 days.

Exposures can stay non-performing even though they are not anymore considered

as impaired or defaulted.

Non-performing exposures that are extended forbearance measures cease being non-

performing (stricter for now than other non-performing forborne exposure):

When forbearance does not lead to the recognition of impairment or default,

A one-year period has passed since the extension of forbearance measures ,

There are no past-due amounts or concerns on the solvability of the debtor (the past-due or

written-off amounts have been repaid via regular payments according to the new conditions).

EBA definitions of Forbearance and Non-performing exposures 14

AQRs and the definitions of FBE and NPE (2)

The use of the EBA definitions has allowed to:

Draw the same line for all institutions between performing and non-performing exposures

Compare asset quality in a homogeneous and comparable way across EU institutions

• Will improve discussions about risks and risks tackling strategies (enhancement of provisioning for

instance) in colleges as risk assets will now be identified in a similar way

Improve starting point data of the stress tests

EBA definitions of Forbearance and Non-performing exposures 16

Upcoming work – Basel activities

The EBA takes part to the Basel Committee work on the identification of problematic

loans by banks and supervisors

“Problematic loan”: generic term to designate a loan where there is evidence of credit

deterioration so that any portion of the amounts due (principal, interests, fees, others) raise

concerns about their full collectability.

Problematic loans can be named, defined and classified differently in different jurisdictions by

supervisors and banks alike

• Supervisory classification systems inspired from the International Institute of Finance in force in

some jurisdictions (Standard, Watch, Substandard, Doubtful and Loss) but definitions of categories

vary between jurisdictions

• Other jurisdictions do not have supervisory classification systems outside default/impaired

Study about the range of practices for the definition and use of credit classification

schemes by banks and their supervisors, and the causes and consequences of

differences

Specific focus on “non-performing loan”, “loss”, “write-off” and “forbearance”

PRESENTATION TITLE 17

Upcoming work – IASB’s Impairment model

Main aspects of the IASB’s expected loss model are:

Applies to all financial instruments at amortised cost and debt instruments at fair value through

OCI

Differentiates between different stages of credit deterioration:

• For assets in stage 1 (i.e. good book): recognition of 12 month expected loss (12 month PD)
• For assets that there has been a significant increase in credit risk, i.e. stage 2 and 3 : recognition of

lifetime expected losses

Need to consider historical, current and forward-looking information

Some practical expedients: an entity may assume that credit risk has not increased significantly

for low credit risk assets (‘investment grade’). Rebuttable presumption that credit risk has

increased significantly for assets that are more than 30 days past due

PRESENTATION TITLE 19

Upcoming work – IASB’s Impairment model

The next stage is to achieve a robust and consistent implementation of the model

One of the criticism of the current IAS 39 model was the divergent practices in its application

The standard may be subjective or lead to different interpretations in some areas:

• Criteria to determine a significant increase of credit risk
• Use of forward looking information
• Definition of default

Use of practical expedients facilitates the application of the model but it may lead to a delay

in the recognition of allowances

Banks will need to start the implementation of the new “expected loss” model sufficiently in

advance

PRESENTATION TITLE 20