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From Banking and Finance Law Daily, April 14, 2016

Basel Committee seeks to standardize classification of problem assets

By John M. Pachkowski, J.D.

The Basel Committee on Banking Supervision is seeking comments on a consultative document that would harmonize the measurement and application of two important measures of asset quality. Comments on the consultative documents must be sent to by July 15, 2016.

The consultative document entitled “Prudential treatment of problem assets—definitions of non-performing exposures and forbearance” would address the fact that banks categorize problem loans in a variety of ways and there are no consistent international standards for categorizing problem loans. Specifically, the consultative document would provide a uniform definition for “non-performing exposures” and “forbearance.”

Non-performing exposures. The definition of “non-performing exposures” would introduce “harmonized criteria” for categorizing loans and debt securities that are centered around delinquency status—90 days past due—or the unlikeliness of repayment. It would also clarify the consideration of collateral in categorizing assets as non-performing. The definition focuses on a debtor basis but allows categorization of exposures as non-performing on a transaction basis for retail exposures. It would also introduce clear rules regarding upgrading a non-performing exposure to performing and the interaction between non-performing status and forbearance.

Forbearance. The definition of “forbearance” would provide a harmonized view on the modification or refinancing of loans and debt securities that result from a borrower’s financial difficulty. The definition would allow forborne exposures to be categorized as performing or non-performing exposures. It would also set out criteria for the discontinuation of the forbearance categorization and emphasize the need to ensure a borrower’s soundness before the discontinuation.

Varying practices. The Basel Committee developed the consultative document based on work by a task force that analyzed the regulatory frameworks and supervisory practices across jurisdictions through a literature review and a survey of 28 supervisors, as well as industry practices through a questionnaire and case studies sent to 39 banks from the 28 jurisdictions.

The analysis found varying practices across jurisdictions, as well as various layers of definitions within jurisdictions. In particular, the analysis noted differences in the definitions of terms used in the accounting and regulatory frameworks, such as the concept of impairment or the definition of default used for modelling purposes. The analysis also identified that more than half of the jurisdictions included in the survey had established local/national supervisory definitions for asset categorization different from those used in the accounting framework and/or the definition of default to achieve consistent supervisory reporting and disclosure on asset quality driven by prudential considerations.

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