OSFI to Recognize Limited Recourse Capital Notes as Regulatory Capital
OSFI published a letter and capital ruling that explains its considerations in determining that the Limited Recourse Capital Notes can qualify as Additional Tier 1 regulatory capital by the requesting bank and other federally regulated financial institutions, subject to certain limitations and disclosure requirements. A Canadian bank is now marketing this new financial instrument called a Limited Recourse Capital Note or LRCN. The bank had sought a ruling from OSFI regarding the regulatory capital treatment of the LRCNs. According to OSFI, the LRCN structure meets all of the criteria to be recognized as Additional Tier 1 regulatory capital by the bank and other federally regulated financial institutions.
As per the capital ruling, recognition of the LRCNs as Additional Tier 1 capital (or AT1) will be subject to certain limitations. OSFI may add to, amend, or delete these limitations at any time. Limitations may also vary by issuer and/or issuance. The LRCNs can only be issued to institutional investors. The LRCNs and preferred shares must have a minimum par or stated value of $1,000 and be traded on institutional desks (that is, not exchange-listed). The LRCNs must have an initial term to maturity of at least 60 years. Unless the instrument has been replaced with an instrument of higher capital quality (that is, CET1-qualifying common shares or retained earnings), the issuer will only be permitted to redeem the LRCNs or preferred shares where the carrying cost of the LRCNs or preferred shares exceeds the cost of replacement capital of equivalent quality (that is, AT1). The LRCN issuance will be subject to a cap of 0.75% of risk-weighted assets (that is, 50% of the AT1 bucket) as measured on the date of issuance. In calculating this limit, the issuer should compare the aggregate of its outstanding and proposed issuance of LRCNs on the date of issuance to 0.75% of the risk-weighted assets. The limit should consider the issuer's capital at the last reporting date with adjustments for subsequent transactions, including issuance, redemptions, buybacks, and acquisitions. Furthermore, OSFI specifies that the disclosure and marketing of the LRCNs to investors must clearly disclose how the LRCNs' risks are equivalent to the risks of investing in directly issued Tier 1-qualifying Non-Viability Contingent Capital (NVCC) preferred shares.
OSFI routinely assesses the quantity and quality of financial instruments that federally regulated financial institutions issue as regulatory capital and/or total loss absorbing capacity (TLAC). This is done to ensure that institutions maintain adequate capital and loss-absorbing capacity as required by their governing statutes and the OSFI guidance. OSFI has reviewed the quality of this structure relative to the eligibility criteria set out in Chapter 2 of the OSFI Capital Adequacy Requirements Guideline, with emphasis on economic substance over legal form. OSFI also considered the potential behavior and impact of the structure on financial stability, particularly in periods of stress.
Related Links
Keywords: Americas, Canada, Banking, Regulatory Capital, Limited Recourse Capital Notes, LRCN, Additional Tier 1 Capital, Basel, Disclosures, CAR Guideline, OSFI
Featured Experts
María Cañamero
Skilled market researcher; growth strategist; successful go-to-market campaign developer
Nicolas Degruson
Works with financial institutions, regulatory experts, business analysts, product managers, and software engineers to drive regulatory solutions across the globe.
Pierre-Etienne Chabanel
Brings expertise in technology and software solutions around banking regulation, whether deployed on-premises or in the cloud.
Related Articles
BCBS Consults on Principles for Operational Risk and Resilience
BCBS is consulting on the principles for operational resilience and the revisions to the principles for sound management of operational risk for banks.
FSI Note Discusses Challenges Associated with COVID Relief Measures
The Financial Stability Institute (FSI) of BIS published a brief note that examines the supervisory challenges associated with certain temporary regulatory relief measures introduced by BCBS and prudential authorities in response to the COVID-19 pandemic.
HKMA Announces Repayment Deferment Under Payment Holiday Scheme
HKMA, together with the Banking Sector Small and Medium-Size Enterprise (SME) Lending Coordination Mechanism, announced a ninety-day repayment deferment for trade facilities under the Pre-approved Principal Payment Holiday Scheme.
ESRB Paper Presents Alternative Approach to EBA Stress Test Proposal
The Advisory Scientific Committee of ESRB published a response, in the form of an Insights Paper, to the EBA proposals for reforms to the stress testing framework in EU.
MAS Announces Key Initiatives to Support Adoption of SORA
MAS announced several initiatives to support adoption of the Singapore Overnight Rate Average (SORA), which is administered by MAS.
BoE Updates Template and Definitions for Form ER
BoE updated the reporting template for Form ER as well as the Form ER definitions, which contain guidance on the methodology to be used in calculating annualized interest rates.
PRA to Extend Temporary High Balance Coverage Amid COVID Crisis
PRA published the policy statement PS19/20 on the final policy for extending coverage under the Financial Services Compensation Scheme (FSCS) for Temporary High Balance.
EBA Publishes Standards on Disclosure and Reporting of MREL and TLAC
EBA published the final draft implementing technical standards for disclosures and reporting on the minimum requirements for own funds and eligible liabilities (MREL) and the total loss-absorbing capacity (TLAC) requirements in EU.
EBA Releases Erratum for Phase 2 Package on Reporting Framework 2.10
EBA published an erratum for the phase 2 of technical package on the reporting framework 2.10.
EC Sets Out Updated Technical Information for Solvency II Calculations
EC published the Implementing Regulation 2020/1145, which lays down technical information for calculation of technical provisions and basic own funds.
