PRA Issues Letter on Prudential Treatment of Legacy Instruments
Sarah Breeden of PRA published a letter to chief financial officers of UK deposit-takers regarding remediation of prudential treatment of legacy instruments before the Capital Requirements Regulation (CRR) transition period ends on December 31, 2021. In light of the EBA opinion published on October 21, 2020 on the prudential treatment of legacy instruments, PRA is requesting actions to address issues arising from the planned treatment of the affected legacy instruments of firms. Firms are requested to share an action plan with their usual supervisory contact by March 31, 2021.
PRA expects an affected firm to undertake a risk-based approach and assess appropriate remedial actions. If a firm intends to keep affected legacy instruments as non-regulatory capital and non-eligible liability instruments beyond the end of the CRR transition period, the action plan should include a reasoned analysis of any prudential risks, including concerns for resolvability or insolvency, and potential actions to mitigate those risks. A firm’s choice of remedial action may depend on a number of factors, including call options, governing law, issuing entity, and market conditions.
The letter emphasizes that PRA shares the EBA concerns on the issues of subordination provisions and flexibility of distribution payments, which contribute risks to the eligibility of firms’ own funds and eligible liabilities instruments. As explained in the supervisory statement SS7/13 on the quality of bank capital, PRA expects firms to avoid complex features and capital structures that may complicate prudential assessment and undermine the loss-absorbing properties of capital instruments and CRR compliance. PRA notes that firms are responsible for compliance with applicable regulations, such as the CRR and binding technical standards, taking into account the relevant guidance. PRA also refers firms to the BoE minimum requirement for own funds and eligible liabilities (MREL) Statement of Policy (SoP) that sets out the view that firms should consider whether having non-common equity tier 1 (CET1) own funds instruments that do not meet the relevant eligibility criteria for MREL resources could create difficulties for resolution. BoE may consider the challenges to resolvability presented by such instruments as part of assessing the resolvability of firms.
Related Link: Letter
Keywords: Europe, EU, UK, Banking, Legacy Instruments, CRR, Regulatory Capital, MREL, Basel, PRA
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