Procedure : 2011/0202(COD)
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Document selected : A7-0171/2012

Texts tabled :

A7-0171/2012

Debates :

PV 16/04/2013 - 4
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Texts adopted :

P7_TA(2013)0115

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12 June 2012
PE 478.506v03-00 A7-0171/2012

on the proposal for a regulation of the European Parliament and of the Council on prudential requirements for credit institutions and investment firms

(COM(2011)0452 – C7-0417/2011 – 2011/0202(COD))

Committee on Economic and Monetary Affairs

Rapporteur: Othmar Karas

AMENDMENTS
DRAFT EUROPEAN PARLIAMENT LEGISLATIVE RESOLUTION
 PROCEDURE

DRAFT EUROPEAN PARLIAMENT LEGISLATIVE RESOLUTION

on the proposal for a regulation of the European Parliament and of the Council on prudential requirements for credit institutions and investment firms

(COM(2011)0452 – C7-0417/2011 – 2011/0202(COD))

(Ordinary legislative procedure: first reading)

The European Parliament,

–   having regard to the Commission proposal to Parliament and the Council (COM(2011)0452),

–   having regard to Article 294(2) and Article 114 of the Treaty on the Functioning of the European Union, pursuant to which the Commission submitted the proposal to Parliament (C7-0417/2011),

–   having regard to Article 294(3) of the Treaty on the Functioning of the European Union,

–   having regard to the reasoned opinion submitted, within the framework of Protocol No 2 on the application of the principles of subsidiarity and proportionality, by the United Kingdom House of Commons, asserting that the draft legislative act does not comply with the principle of subsidiarity,

–   having regard to Rule 55 of its Rules of Procedure,

–   having regard to the report of the Committee on Economic and Monetary Affairs (A7-0171/2012),

1.  Adopts its position at first reading hereinafter set out;

2.  Calls on the Commission to refer the matter to Parliament again if it intends to amend its proposal substantially or replace it with another text;

3.  Instructs its President to forward its position to the Council, the Commission and the national parliaments.

AMENDMENTS BY THE EUROPEAN PARLIAMENT(1)*

to the Commission proposal

---------------------------------------------------------

REGULATION OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL

on prudential requirements for credit institutions and investment firms

THE EUROPEAN PARLIAMENT AND THE COUNCIL OF THE EUROPEAN UNION,

Having regard to the Treaty on the Functioning of the European Union, and in particular Article 114 thereof,

Having regard to the proposal from the European Commission,

After transmission of the draft legislative act to the national Parliaments,

Having regard to the opinion of the European Economic and Social Committee(2),

Acting in accordance with the ordinary legislative procedure,

Whereas:

(1)      The G20 Declaration of 2 April 2009(3) on Strengthening of the Financial System called for internationally consistent efforts that are aimed at strengthening transparency, accountability and regulation by, improving the quantity and quality of capital in the banking system once the economic recovery is assured. The declaration also called for introducing a supplementary non-risk based measure to contain the build-up of leverage in the banking system, and developing a framework for stronger liquidity buffers. In response to the mandate given by the G20, in September 2009 the Group of Central Bank Governors and Heads of Supervision (GHOS), agreed on a number of measures to strengthen the regulation of the banking sector. These measures were endorsed by the G20 leaders at their Pittsburgh Summit of 24-25 September 2009 and were set out in detail in December 2009. In July and September 2010, GHOS issued two further announcements on design and calibration of these new measures, and in December 2010, the Basel Committee on Banking Supervision (BCBS) published the final measures, that are referred to as Basel III.

(2)      The High Level Group on Financial Supervision in the EU chaired by Jacques de Larosière invited the European Union to develop a more harmonised set of financial regulation. In the context of the future European supervisory architecture, the European Council of 18 and 19 June 2009 also stressed the need to establish a 'European Single Rule Book' applicable to all credit institutions and investment firms in the Single Market.

(2a)    As stated in the de Larosière report, "a Member State should be able to adopt more stringent national regulatory measures considered to be domestically appropriate for safeguarding financial stability as long as the principles of the internal market and agreed minimum core standards are respected";

(3)      Directive 2006/48/EC of the European Parliament and of the Council of 14 June 2006(4) relating to the taking up and pursuit of the business of credit institutions and Directive 2006/49/EC of the European Parliament and of the Council of 14 June 2006(5) on the capital adequacy of investment firms and credit institutions ("institutions") have been significantly amended on several occasions. Many provisions of Directives 2006/48/EC and 2006/49/EC are applicable to both credit institutions and investment firms. Irder to ensure a coherent application of those provisions, it would be desirable to merge these provisions into new legislation applicable to both credit institutions and investment firms. For sake of clarity, the provisions of the Annexes to those Directives should be integrated into the enacting terms of this new legislation.

(4)      That new legislation should consist of two different legal instruments, a Directive and this Regulation. Together, both legal instruments should form the legal framework governing the access to the activity, the supervisory framework and the prudential rules for credit institutions and investment firms. This Regulation should therefore be read together with the Directive.

(4a)    Domestic Systemically Important Institutions (D-SIFIs) established in the Union should be subjected to the same extra requirements as G-SIFIs s after endorsement of the future criteria and the list

(5)      Directive [inserted by OP], based on Article 53 (1) TFEU, should contain the provisions concerning the access to the activity of credit institutions and investment firms as defined in this Regulation, the modalities for their governance, and their supervisory framework, such as provisions governing the authorisation of the business, the acquisition of qualifying holdings, the exercise of the freedom of establishment and of the freedom to provide services, the powers of supervisory authorities of home and host Member States in this regard and the provisions governing the initial capital and the supervisory review of credit institutions and investment firms.

(6)      This Regulation should contain the prudential requirements for credit institutions and investment firms that relate strictly to the functioning of banking and financial services markets and are meant to ensure the financial stability of the operators on these markets as well as a high level of protection of investors and depositors. This Regulation should not apply to other types of institution, such as financial institutions that do not take deposits from the public. This directly applicable legal act aims at contributing in a determining manner to the smooth functioning of the internal market and should, consequently, be based on the provisions of Article 114 TFEU, as interpreted in accordance with the consistent case-law of the Court of Justice of the European Union.

7.        Directives 2006/48/EC and 2006/49/EC, although having harmonised the rules of Member States in the area of prudential supervision to a certain degree, include a significant number of options and discretions, and Member States are still permitted to impose stricter rules than those laid down by those Directives. This results in divergences between national rules which are such as to obstruct the fundamental freedoms and thus have a direct effect on the functioning of the internal market and cause significant distortions of competition. In particular, such divergences hamper the cross-border provision of services and the establishment in other Member since each time different rules have to be assessed and complied with by operators when doing business in another Member State. In addition, credit institutions and investment firms authorized in different Member States are often subject to different requirements, leading to significant distortions of competition. Divergent development of national laws creates potential and actual obstacles to the smooth functioning of the internal market due to unequal conditions of operation and difficulties for credit institutions and investment firms operating in different juridical systems across the Union.

(7a)    International cooperation and coordination is vital in order to achieve an international level playing field and avoid regulatory arbitrage. In the context of the reluctant implementation of Basel III by the United States of America (USA), it is necessary to ensure that the economy and the banking system in the Union are not be placed at a competitive disadvantage. The Commission should therefore establish, by March 2012, which provisions in this Regulation cannot be implemented in the Union without a simultaneous implementation in the USA.

(7b)    For reasons of legal certainty and because of the need for a level playing field within the Union, a single set of regulations for all market participants is a key element for the functioning of the internal market. In order to avoid market distortions and regulatory arbitrage, Pillar 1 measures should therefore ensure maximum harmonisation. As a consequence, the transitional periods provided for in this Regulation are essential for the smooth implementation of this Regulation and to avoid uncertainty for the markets. Member States and competent authorities should avoid adopting any diverging or front-running rules that impact or weaken the principle of maximum harmonisation under Pillar 1. Competent authorities should be able to evaluate, under the applicable Pillar 2 processes, whether supervisory action is needed with regard to a certain credit institution or a group of credit institutions.

(7c)     Common global accounting standards have still to be agreed, which could lead to inconsistency in comparing global implementation of Basel requirements, especially with regard to the calculation of risk-weighted assets, the leverage ratio, liquidity coverage ratio and the definition of groups. In this respect the Commission must strive towards achieving globally consistent accounting standards and at the very least achieving global comparability for prudential regulatory purposes.

(7d)    Having regard to work of the Basel Committee of Banking Supervisors' Standards Implementation Group in monitoring and reviewing member countries' implementation of the Basel regulatory capital framework, the Commission should provide update reports on an ongoing basis, and at least following the publication of each Progress Report on Basel III implementation by the Basel Committee on Banking Supervisors, on the implementation and domestic adoption of Basel III in other major jurisdictions, including an assessment of the consistency of other countries' legislation or regulations with the international minimum standard to identify differences that could raise level playing field concerns.

(8)      In order to remove the remaining obstacles to trade and significant distortions of competition resulting from divergences between national laws and to prevent any further likely obstacles to trade and significant distortions of competition from arising, it is therefore necessary to adopt a Regulation establishing uniform rules applicable in all Member States.

(9)      Shaping prudential requirements in the form of a Regulation would ensure that those requirements will be directly applicable to them. This would ensure uniform conditions by preventing diverging national requirements as a result of the transposition of a Directive. This Regulation would entail that all credit institutions and investment firms which it defines as such follow the same rules in all the Union, which would also boost confidence in the stability of credit institutions and investment firms, especially in times of stress. A Regulation would also reduce regulatory complexity and firms' compliance costs, especially for credit institutions and investment firms operating on a cross-border basis, and contribute to eliminating competitive distortions. With regard to the peculiarity of immovable property markets which are characterised by economic developments and jurisdictional differences that are specific to Member States, regions or local areas, competent authorities should be allowed to set higher risks weights or to apply stricter criteria based on default experience and expected market developments to exposures secured by mortgages on immovable property in specific areas.

(10)    Member States should have the power to maintain or introduce national provisions where this Regulation does not provide for uniform rules provided that those national provisions are not in contradiction with Union law or do not undermine their application.

(11)    Where Member States adopt guidelines of general scope, in particular in areas where the adoption by the Commission of draft technical standards is pending, those guidelines shall neither contradict Union law nor undermine its application.

(12)    Member States are encouraged to impose, where appropriate, equivalent requirements on undertakings that do not fall within the scope of this Regulation.

(13)    The general prudential requirements set out in this Regulation are supplemented by individual arrangements that are decided by the competent authorities as a result of their ongoing supervisory review of each individual credit institution and investment firm. The range of such supervisory arrangements should be set out in a Directive since the competent authorities should be able to exert their judgment as to which arrangements should be imposed.

(14)    Competent authorities in the Member States are encouraged to impose, where appropriate, specific requirements under the supervisory review and evaluation process set out in Directive .../.../EU of the European Parliament and of the Council of ... [on the access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms] that should be tailored to the specific risk profile of credit institutions and investment firms.

(15)    Regulation (EU) No 1093/2010 of the European Parliament and of the Council of 24 November 2010 establishing a European Supervisory Authority,(6) established the European Banking Authority (EBA). That Regulation aims at upgrading the quality and consistency of national supervision and strengthening oversight of cross-border groups.

(15a)  In assessing systemic relevance of institutions EBA should have regard to size, cross-border distribution and spill over effect, taking into account branch or subsidiary structure, interconnectedness via similarity of business model, or cross-guarantee schemes, or insurance clusters of independent entities with similar business models which may have systemic collective effects.

(15b)  Given the inevitable extension of powers and tasks for EBA foreseen by this Regulation, the European Parliament, the Council and the Commission should see to it that adequate human and financial resources are made available without delay.

(16)    Regulation (EU) No 1093/2010 requires EBA to act within the scope of Directives 2006/48/EC and 2006/49/EC. EBA is also required to act in the field of activities of credit institutions and investment firms in relation to issues not directly covered in those Directives, provided that such actions are necessary to ensure the effective and consistent application of those acts. This Regulation should take into account the role and function of EBA and facilitate the exercise of EBA's powers set out in that Regulation.

(16a)  The report from the High Level Group on Financial Supervision in the European Union, chaired by Jacques de Larosière, stated that micro-prudential supervision cannot effectively safeguard financial stability without adequately taking account of macro-level developments, while macro-prudential oversight is not meaningful unless it can somehow impact on supervision at the micro level.

Close cooperation between EBA and the ESRB is essential to give full effectiveness to the functioning of the ESRB and the follow-up to its warnings and recommendations. In particular, EBA should be able to transmit to the ESRB all relevant information gathered by competent authorities in accordance with the reporting obligations set out in this Regulation.

(16b)  Considering the devastating effects of the latest financial crisis the overall objectives of this regulation are to encourage economically useful banking activities that shall serve the general interest and to discourage unsustainable financial speculation without a real added value. This implies a comprehensive reform of the ways savings are channelled into productive investments. In order to safeguard a sustainable and diverse banking environment in Europe, competent authorities should be empowered to impose significantly higher capital requirements for systemically important institutions that are able, due to their business activities, to pose a threat to the global economy.

(17)    Equivalent financial requirements for credit institutions and investment firms are necessary to ensure similar safeguards for savers and fair conditions of competition between comparable groups of credit institutions and investment firms.

(18)    Since credit institutions and investment firms in the internal market are engaged in direct competition, monitoring requirements should be equivalent throughout the Union taking into account the different risk profiles of the institutions.

(19)    Whenever in the course of supervision it is necessary to determine the amount of the consolidated own funds of a group of credit institutions and investment firms, the calculation should be effected in accordance with this Regulation.

(20)    According to this Regulation own funds requirements apply on an individual and consolidated basis, unless competent authorities disapply supervision on an individual basis where they deem this appropriate. Individual, consolidated and cross-border consolidated supervision are useful tools in overseeing credit institutions and investment firms.

(21)    In order to ensure adequate solvency of credit institutions and investment firms within a group it is essential that the capital requirements apply on the basis of the consolidated situation of these institutions in the group. In order to ensure that own funds are appropriately distributed within the group and available to protect savings where needed, the capital requirements should apply to individual credit institutions and investment firms within a group, unless this objective can be effectively otherwise achieved.

(21a)  Where the deduction of the minority interests included in consolidated Common Equity Tier 1 capital results in a disproportionate increase of capital requirement for certain types of credit institutions or investment firms, such institutions or firms should be exempted from the application of such rule.

(22)    The precise accounting technique to be used for the calculation of own funds, their adequacy for the risk to which a credit institution or investment firm is exposed, and for the assessment of the concentration of exposures should take account of the provisions of Council Directive 86/635/EEC of 8 December 1986 on the annual accounts and consolidated accounts of banks and other financial institutions(7), which incorporates certain adaptations of the provisions of Seventh Council Directive 83/349/EEC of 13 June 1983 on consolidated accounts(8) or of Regulation (EC) No 1606/2002 of the European Parliament and of the Council of 19 July 2002 on the application of international accounting standards(9), whichever governs the accounting of the credit institutions and investment firms under national law.

(23)    For the purposes of ensuring adequate solvency it is important to lay down capital requirements which weight assets and off-balance-sheet items according to the degree of risk.

(24)    On 26 June 2004 the BCBS adopted a framework agreement on the international convergence of capital measurement and capital requirements ('Basel II framework'). The provisions in Directive 2006/48/EC and 2006/49/EC that this Regulation has taken over form an equivalent to the provisions of the Basel II framework agreement. Consequently, by incorporating the supplementary elements of the Basel III this Regulation forms an equivalent to the provisions of the Basel II and III agreements.

(25)    It is essential to take account of the diversity of credit institutions and investments firms in the Union by providing alternatives approaches to the calculation of capital requirements for credit risk incorporating different degrees of sophistication. Use of external ratings and credit institutions and investment firms' own estimates of individual credit risk parameters represents a significant enhancement in the risk-sensitivity and prudential soundness of the credit risk rules. There should be appropriate incentives for credit institutions and investment firms to move towards the more risk-sensitive approaches. In producing the estimates needed to apply the approaches to credit risk of this Regulation, credit institutions and investment firms should enhance credit risk measurement and management processes of credit institutions and investment firms to make methods for determining credit institutions and investment firms' regulatory own funds requirements available that reflect the sophistication of individual credit institutions and investment firms' processes. In this regard, the processing of data in connection with the incurring and management of exposures to customers should be considered to include the development and validation of credit risk management and measurement systems. That serves not only to fulfil the legitimate interest of credit institutions and investment firms but also the purpose of this Regulation, to use better methods for risk measurement and management and also use them for regulatory own funds purposes.

(25a)  Overreliance on external credit ratings shall be reduced and all the automatic effects deriving from ratings should be gradually eliminate. Regulation should, therefore, require credit institutions and investment firms to put in place sound credit granting criteria and credit decision processes. External credit ratings may be used as one factor among others in this process but they should not rely solely or mechanistically on external ratings and these should not prevail.

(25b)  Supervisory approaches are based on a time horizon of no more than one year (calculation of value at risk, liquidity ratio), thus increasing investors’ propensity to shorten their investment horizons. The current regulatory and supervisory framework therefore needs to be revised in order to introduce provisions that will foster the long-term investment that the real economy needs.

(26)    The capital requirements should be proportionate to the risks addressed. In particular the reduction in risk levels deriving from having a large number of relatively small exposures should be reflected in the requirements.

(27)    In line with the decision of the BCBS, as endorsed by the GHOS on 10 January 2011, all Additional Tier 1 and Tier 2 instruments of an institution should be fully and permanently written down or converted fully into Common Equity Tier 1 capital at the point of non-viability of the institution.

(27a)  It is appropriate for Common Equity Tier 1 (CET1) instruments to rank below all other capital instruments as it is appropriate for Additional Tier 1 (AT1) instruments to rank below Tier 2 instruments. However, capital instruments which were issued before the cut-off date and which were included in own funds under the rules in force until 31 December 2012 could, after the entry into force of this Regulation, be included in a class of own funds that is lower than the corresponding class for which they have been eligible before. Such instruments could, due to their contractual terms, still rank below CET1 or AT1 instruments in the event of insolvency, while being included in a lower category of own funds. Since the ability of institutions to raise new capital should not be unduly limited, the rank in insolvency of those reclassified instruments should be treated as equal to the rank of instruments in the same class of own funds which are issued after the cut-off date for the purpose of the provisions on CET1 and AT1 instruments in this Regulation.

(27b)  The minority interests arising from intermediate financial holding companies that are subject to the requirements of this Regulation on a subconsolidated basis may also be eligible (within the relevant limits) to the Common Equity Tier 1 of the group on a consolidated basis, as the Common Equity Tier 1 capital of an intermediate financial holding company attributable to minority interests and the part of that same capital attributable to the parent company support both pari passu the losses of their subsidiaries when they occur.

(28)    The provisions of this Regulation respect the principle of proportionality, having regard in particular to the diversity in size and scale of operations and to the range of activities of credit institutions and investment firms. Respect of the principle of proportionality also means that the simplest possible rating procedures, even in the Internal Ratings Based Approach (‘IRB Approach’), are recognised for retail exposures.

(29)    The ‘evolutionary’ nature of this Regulation enables credit institutions and investment firms to choose amongst three approaches of varying complexity. In order to allow especially small credit institutions and investment firms to opt for the more risk-sensitive IRB Approach, the relevant provisions should be read as such that exposure classes include all exposures that are, directly or indirectly, put on a par with them throughout this Regulation. As a general rule, the competent authorities should not discriminate between the three approaches with regard to the Supervisory Review Process, i.e. credit institutions and investment firms operating according to the provisions of the Standardised Approach should not for that reason alone be supervised on a stricter basis.

(30)    Increased recognition should be given to techniques of credit risk mitigation within a framework of rules designed to ensure that solvency is not undermined by undue recognition. The relevant Member States' current customary banking collateral for mitigating credit risks should wherever possible be recognised in the Standardised Approach, but also in the other approaches.

(31)    In order to ensure that the risks and risk reductions arising from credit institutions and investment firms' securitisation activities and investments are appropriately reflected in the capital requirements of credit institutions and investment firms it is necessary to include rules providing for a risk-sensitive and prudentially sound treatment of such activities and investments.

(31a)  Alongside supervisory surveillance aimed at ensuring financial stability, there is a need for enhancing mechanisms designed to develop an effective surveillance and prevention of potential bubbles in order to ensure optimum allocation of capital in the light of the macroeconomic challenges and objectives, in particular with respect to long term investment in the real economy.

(32)    Operational risk is a significant risk faced by credit institutions and investment firms requiring coverage by own funds. It is essential to take account of the diversity of credit institutions and investment firms in the Union by providing alternative approaches to the calculation of operational risk requirements incorporating different levels of risk-sensitivity and requiring different degrees of sophistication. There should be appropriate incentives for credit institutions and investment firms to move towards the more risk-sensitive approaches. In view of the emerging state of the art for the measurement and management of operational risk the rules should be kept under review and updated as appropriate including in relation to the charges for different business lines and the recognition of risk mitigation techniques. Particular attention should be paid in this regard to taking insurance into account in the simple approaches to calculating capital requirements for operational risk.

(33)    The monitoring and control of a credit institution's exposures should be an integral part of its supervision. Therefore, excessive concentration of exposures to a single client or group of connected clients may result in an unacceptable risk of loss. Such a situation can be considered prejudicial to the solvency of a credit institution.

(34)    In determining the existence of a group of connected clients and thus exposures constituting a single risk, it is also important to take into account risks arising from a common source of significant funding provided by the credit institution or investment firm itself, its financial group or its connected parties.

(35)    While it is desirable to base the calculation of the exposure value on that provided for the purposes of own funds requirements, it is appropriate to adopt rules for the monitoring of large exposures without applying risk weightings or degrees of risk. Moreover, the credit risk mitigation techniques applied in the solvency regime were designed with the assumption of a well-diversified credit risk. In the case of large exposures dealing with single name concentration risk, including sovereign risks, credit risk is not well-diversified. The effects of those techniques should therefore be subject to prudential safeguards. In this context, it is necessary to provide for an effective recovery of credit protection for the purposes of large exposures.

(36)    Since a loss arising from an exposure to a credit institution or an investment firm can be as severe as a loss from any other exposure, such exposures should be treated and reported in the same manner as any other exposures. However, an alternative quantitative limit has been introduced to alleviate the disproportionate impact of such an approach on smaller institutions. In addition, very short-term exposures related to money transmission including the execution of payment services, clearing, settlement and custody services to clients are exempt to facilitate the smooth functioning of financial markets and of the related infrastructure. Those services cover, for example, the execution of cash clearing and settlement and similar activities to facilitate settlement. The related exposures include exposures which might not be foreseeable and are therefore not under the full control of a credit institution, inter alia, balances on inter-bank accounts resulting from client payments, including credited or debited fees and interest, and other payments for client services, as well as collateral given or received.

(37)     CRD II introduced changes aimed at avoiding a misalignment between the interest of undertakings that ‘re-package’ loans into tradable securities and other financial instruments (originators or sponsors) and undertakings that invest in these securities or instruments (investors) ▌. It is also important that the interests of the originator or sponsor and the interests of investors be aligned. To achieve this, the originator or sponsor should retain a significant interest in the underlying assets. It is therefore important for the originators or the sponsors to retain exposure to the risk of the loans in question. More generally, securitisation transactions should not be structured in such a way as to avoid the application of the retention requirement, in particular through any fee or premium structure or both. Such retention should be applicable in all situations where the economic substance of a securitisation is applicable, whatever legal structures or instruments are used to obtain this economic substance. In particular where credit risk is transferred by securitisation, investors should make their decisions only after conducting thorough due diligence, for which they need adequate information about the securitisations. Sufficient time has passed after the introduction of the retention requirement. Therefore, the Commission should conduct an evaluation and report to the European Parliament and Council whether the framework introduced by CRD II has achieved the intended effects, such as the establishment of proper due diligence procedures and the alignment of the interests of originators, sponsors and investors. In this context it should also be evaluated whether the retention requirement is set at an appropriate level or whether an increase would be warranted. The Commission should also assess alternatives to the retention requirement such as limiting the exclusion from the calculation of risk-weighted exposure amounts and expected loss amounts.

(38)     The current framework also foresees that there should be no multiple applications of the retention requirement. For any given securitisation it suffices that only one of the originator, the sponsor or the original lender is subject to the requirement. Similarly, where securitisation transactions contain other securitisations as an underlying, the retention requirement should be applied only to the securitisation which is subject to the investment. Purchased receivables should not be subject to the retention requirement if they arise from corporate activity where they are transferred or sold at a discount to finance such activity. Competent authorities should apply the risk weight in relation to non-compliance with due diligence and risk management obligations in relation to securitisation for non-trivial breaches of policies and procedures which are relevant to the analysis of the underlying risks. The Commission should also review whether avoidance of multiple applications of the retention requirements could be conducive to practices circumventing the retention requirement and whether the rules on securitisations are enforced effectively by the supervisory authorities.

(39)    Due diligence should be used in order properly to assess the risks arising from securitisation exposures for both the trading book and the non-trading book. In addition, due diligence obligations need to be proportionate. Due diligence procedures should contribute to building greater confidence between originators, sponsors and investors. It is therefore desirable that relevant information concerning the due diligence procedures is properly disclosed.

(40)    When a credit institution or investment firm incurs an exposure to its own parent undertaking or to other subsidiaries of its parent undertaking, particular prudence is necessary. The management of exposures incurred by credit institutions and investment firms should be carried out in a fully autonomous manner, in accordance with the principles of sound management, without regard to any other considerations. In the field of large exposures, specific standards, including more stringent restrictions, should be laid down for exposures incurred by a credit institution to its own group. Such standards need not, however be applied where the parent undertaking is a financial holding company or a credit institution or where the other subsidiaries are either credit or financial institutions or undertakings offering ancillary services, provided that all such undertakings are covered by the supervision of the credit institution on a consolidated basis.

(41)    In view of the risk-sensitivity of the rules relating to capital requirements, it is desirable to keep under review whether these have significant effects on the economic cycle. The Commission, taking into account the contribution of the European Central Bank should report on these aspects to the European Parliament and to the Council.

(42)    The capital requirements for commodity dealers, including those dealers currently exempt from the requirements of Directive 2004/39/EC, should be reviewed.

(43)    The goal of liberalisation of gas and electricity markets is both economically and politically important for the Community. With this in mind, the capital requirements and other prudential rules to be applied to firms active in those markets should be proportionate and should not unduly interfere with achievement of the goal of liberalisation. This goal should, in particular, be kept in mind when reviews of this Regulation are carried out.

(44)    Credit institutions and investment firms investing in re-securitisations should exercise due diligence also with regard to the underlying securitisations and the non-securitisation exposures ultimately underlying the former. Credit institutions and investment firms should assess whether exposures in the context of asset-backed commercial paper programmes constitute re-securitisation exposures, including those in the context of programmes which acquire senior tranches of separate pools of whole loans where none of those loans is a securitisation or re-securitisation exposure, and where the first-loss protection for each investment is provided by the seller of the loans. In the latter situation, a pool- specific liquidity facility should generally not be considered a re-securitisation exposure because it represents a tranche of a single asset pool (that is, the applicable pool of whole loans) which contains no securitisation exposures. By contrast, a programme-wide credit enhancement covering only some of the losses above the seller-provided protection across the various pools generally would constitute a tranching of the risk of a pool of multiple assets containing at least one securitisation exposure, and would therefore be a re-securitisation exposure. Nevertheless, if such a programme funds itself entirely with a single class of commercial paper, and if either the programme-wide credit enhancement is not a re-securitisation or the commercial paper is fully supported by the sponsoring credit institution or investment firm, leaving the commercial paper investor effectively exposed to the default risk of the sponsor instead of the underlying pools or assets, then that commercial paper generally should not be considered a re-securitisation exposure.

(45)    The provisions on prudent valuation for the trading book should apply to all instruments measured at fair value, whether in the trading book or non- trading book of credit institutions and investment firms. It should be clarified that, where the application of prudent valuation would lead to a lower carrying value than actually recognised in the accounting, the absolute value of the difference should be deducted from own funds.

(46)    Credit institutions and investment firms should have a choice whether to apply a capital requirement to or deduct from Common Equity Tier 1 items those securitisation positions that receive a 1 250 % risk weight under this Regulation, irrespective of whether the positions are in the trading or the non-trading book.

(47)    Originator or sponsor institutions should not be able to circumvent the prohibition of implicit support by using their trading books in order to provide such support.

(48)    Directive 2006/48/EC introduced a preferential risk weight under the standardised approach for exposures to small or medium sized enterprises or natural persons and the possibility for institutions to apply internal ratings based approaches where they themselves estimate the risk weight, reflecting the soundness of their own particular underwriting criteria. The preferential risk weights should continue to be in place also under this Regulation. However, the possible merits of lowering the risk weights or expanding their application to more exposures should be reviewed within 24 months after the entry into force of this Regulation. Such review should be evidence-based and take into account reliable data on credit losses on exposures to small or medium sized enterprises or natural persons during a full economic cycle. The impact on lending to consumers should be given particular attention in the context of this review.

(48a)  Exposures to Member States' central governments and central banks denominated and funded in the domestic currency of that central government and central bank should be assigned a risk weight of 0 %, provided that the relevant Member State is in compliance with its obligations under Article 126 of TFEU, taking into account the Protocols of TFEU that relate thereto.

(48b)  By 1 January 2014 the Commission should submit a report to the European Parliament and the Council proposing if need be options to adjust that risk weight, while taking into account potentially destabilising effects of tabling such proposals during periods of market stress.

(49)    Without prejudice to the disclosures explicitly required by this Regulation, the aim of the disclosure requirements should be to provide market participants with accurate and comprehensive information regarding the risk profile of individual institutions. Credit institutions and investment firms should therefore be required to disclose additional information not explicitly listed in this Regulation where such disclosure is necessary to meet that aim.

(49a)  Whilst recognising commercial confidentiality has a role in a competitive market it should not be put above financial stability or adequacy of information for investors.

(50)    Where an external credit assessment for a securitisation position incorporates the effect of credit protection provided by the investing institution itself, the institution should not be able to benefit from the lower risk weight resulting from that protection. This should not lead to the deduction from capital of the securitisation if there are other ways to determine a risk weight in line with the actual risk of the position, not taking into account such credit protection.

(51)    Given their recent weak performance, the standards for internal models to calculate market risk capital requirements should be strengthened. In particular, their capture of risks should be completed regarding credit risks in the trading book. Furthermore, capital charges should include a component adequate to stress conditions to strengthen capital requirements in view of deteriorating market conditions and in order to reduce the potential for pro-cyclicality. Credit institutions and investment firms should also carry out reverse stress tests to examine what scenarios could challenge the viability of the institution unless they can prove that such a test is dispensable. Given the recent particular difficulties of treating securitisation positions using approaches based on internal models, the ability of credit institutions and investment firms to model securitisation risks in the trading book should be limited and a standardised capital charge for securitisation positions in the trading book should be required by default.

(52)    This Regulation lays down limited exceptions for certain correlation trading activities, in accordance with which an institution may be permitted by its supervisor to calculate a comprehensive risk capital charge subject to strict requirements. In such cases the institution should be required to subject those activities to a capital charge equal to the higher of the capital charge in accordance with that internally developed approach and 8 % of the capital charge for specific risk in accordance with the standardised measurement method. It should not be required to subject those exposures to the incremental risk charge but they should be incorporated into both the value-at-risk measures and the stressed value-at-risk measures.

(53)    In light of the nature and magnitude of unexpected losses experienced by credit institutions and investment firms during the financial and economic crisis, it is necessary to improve further the quality and harmonisation of own funds that credit institutions and investment firms are required to hold. This should include the introduction of a new definition of the core elements of capital available to absorb unexpected losses as they arise, enhancements to the definition of hybrid capital and uniform prudential adjustments to own funds. It is also necessary to raise significantly the level of own funds, including new capital ratios focusing on the core elements of own funds available to absorb losses as they arise.

(53a)  Trade finance exposures are diverse in nature but share characteristics such as being small in value and short in duration and having an identifiable source of repayment. They are underpinned by movements of goods and services that support the real economy and in most cases help small companies in their day-to-day needs, thereby creating economic growth and job opportunities. Inflows and outflows are usually matched and liquidity risk is therefore limited.

(53b)  This Regulation should not affect the ability of competent authorities to maintain pre-approval processes regarding the contracts governing Additional Tier 1 and Tier 2 capital instruments. In these cases such capital instruments may only be computed towards the institution's Additional Tier 1 capital or Tier 2 capital once they have successfully completed these approval processes.

(54)    For the purposes of strengthening market discipline and enhancing financial stability it is necessary to introduce more detailed requirements for disclosure of the form and nature of regulatory capital, prudential adjustments, repurchase agreements and secured funding made in order to ensure that investors and deposits are sufficiently well informed about the solvency of credit institutions and investment firms.

(54a)  It is further necessary for supervisors to have knowledge of the level, at least in aggregate terms, of institutions'  repurchase agreements, securities lending  and all forms of encumbrance or claw back arrangements. Such information should be reported to a trade repository or a Central Securities Depository to enable access, inter alia, by EBA, ESMA, relevant competent authorities, the ESRB and relevant central banks and the ESCB. In liquidation proceedings unregistered claw back arrangements should not have legal effect.

(55)    The new definition of capital and regulatory capital requirements should be introduced in a manner that takes account of the fact that there are different national starting points and circumstances, with initial variance around the new standards reducing over the transition period. In order to ensure the appropriate continuity in the level of own funds, existing public sector capital injections will be grandfathered for the extent of the transitional period. In addition, it cannot be excluded that similar injections of public sector capital are necessary in the future to preserve financial stability. In such a situation, competent authorities should have as many options available as possible, including capital instruments which may not fulfil all criteria of CET1 instruments issued in normal times. While full capacity to absorb losses would seem particularly relevant, it may also be appropriate to equip such instruments with, for example, fixed, preferential or enhanced distributions to compensate for the risk of crisis intervention. Permanence on the other hand may be a less relevant criterion. Considering the particular requirements of and circumstances during a crisis situation, it should be possible for EBA, upon reasoned request and in cooperation with the relevant competent authorities to consider such instruments equivalent to core Tier 1 instruments for the purpose of this Regulation.

(56)    Directive 2006/48/EC required credit institutions to provide own funds that are at least equal to specified minimum amounts until 31 December 2011. In the light of the continuing effects of the financial crisis in the banking sector and the extension of the transitional arrangements for capital requirements adopted by the BCBS, it is appropriate to reintroduce a lower limit for a limited period of time until sufficient amounts of own funds have been established in accordance with the transitional arrangements for own funds provided for in this Regulation that will be progressively phased in from 2013 to 2019. For groups which include significant banking or investment business and insurance business, Directive 2002/87/EC on Financial Conglomerates, provides specific rules to address such 'double counting' of capital. Directive 2002/87/EC is based on internationally agreed principles for dealing with risk across sectors. This proposal strengthens the way these Financial Conglomerates rules shall apply to bank and investment firm groups, ensuring their robust and consistent application. Any further changes that are necessary will be addressed in the review of Directive 2002/87/EC, due in 2012.

(56a)  As background to the introduction of the new capital framework the recommendation of EBA to require major banks in the Union to establish an exceptional and temporary buffer such that the core Tier 1 capital ratio reaches a level of 9 % by the end of June 2012 should be noted. This should be welcomed as a measure to support confidence in the stability of the Union's banking market. However, there is a need to find a coherent approach between this measure, which only applies to a group of European banks, and the overall introduction of the new capital framework. At the same time, the objective of strengthening the counter-cyclical character of the supervisory framework should be taken into account. The Commission should therefore come forward with appropriate measure to align thse measures as soon as possible and in any event [before the final adoption of this Regulation].

(57)    The financial crisis highlighted that credit institutions and investment firms massively underestimated the level of counterparty credit risk associated with over-the-counter (OTC) derivatives. This prompted the G20 Leaders, in September 2009, to call for more OTC derivatives to be cleared through a Central Counterparty (CCP). Furthermore, they asked to subject those OTC derivatives that could not be cleared centrally to higher own funds requirements in order to properly reflect the higher risks associated with them.

(57a)  In harmonising the rules governing insurance and reinsurance undertakings, Directive 2009/138/EC on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II) introduced changes intended to ensure the financial stability and fairness of such undertakings in pursuit of the fundamental goal of market stability.

Due account should be taken of the presence in the Member States of insurance undertakings with shares listed on a regulated market and subject to supervision by the competent supervisory authorities of the Member States which carry out insurance activities on the basis of a low financial risk business model involving moderate gearing (a ratio of no more than 5:1), a low propensity to take investment risks and a high percentage of profits generated by the core insurance business. Such insurance undertakings therefore have a lower risk profile than similar undertakings operating on the basis of a wide range of business models, some of which have a financial component.

In the European Union, insurance undertakings show a low systemic risk, not least as a result of a generally more conservative investment policy, and the post-2008 financial and market crisis, which drove down the profitability of financial institutions, did not have a major impact on insurance undertakings, which remained in profit, with relatively stable margins.

That stability has been reflected in, among other things, the performance over recent years of the shares of insurance undertakings listed on regulated markets in the European Union, which, compared with financial institutions and against the background of a general downward trend in the markets, have managed, to a substantial degree, to withstand the structural decline in equity values.

Non-controlling holdings in such insurance undertakings, which operate on the basis of a low financial risk business model, may accordingly be considered to be equivalent to holdings in other industrial undertakings and could therefore also be deemed to come under the specific rules on deductions from common equity items laid down for such undertakings by Member State supervisory authorities.

(58)    Following the G-20 Leaders' call, the BCBS, as part of Basel III, materially changed the counterparty credit risk regime. Basel III is expected to significantly increase the own fund requirements associated with credit institutions' and investment firms' OTC derivatives and securities financing transactions and to create important incentives for credit institutions and investment firms to use CCPs. Basel III is also expected to provide further incentives to strengthen the risk management of counterparty credit exposures and to revise the current regime for the treatment of counterparty credit risk exposures to CCPs.

(59)    Institutions should hold additional own funds due to credit valuation adjustment risk arising from OTC derivatives. Institutions should also apply a higher asset value correlation in the calculation of the own fund requirements for counterparty credit risk exposures arising from OTC derivatives and securities-financing transactions to certain financial institutions. Credit institutions and investment firms should also considerably improve measurement and management of counterparty credit risk by better addressing wrong-way risk, highly leveraged counterparties and collateral, accompanied by the corresponding enhancements in the areas of back-testing and stress testing.

(60)    Trade exposures to CCPs usually benefit from the multilateral netting and loss-sharing mechanism provided by CCPs. As a consequence, they involve a very low counterparty credit risk and should therefore be subject to a very low own funds requirement. At the same time, this requirement should be positive in order to ensure that credit institutions and investment firms track and monitor their exposures to CCPs as part of good risk management and to reflect that even trade exposures to CCPs are not risk-free.

(61)    A CCP's default fund is a mechanism that allows the sharing (mutualisation) of losses among the CCP's clearing members. It is used in case the losses incurred by the CCP following the default of a clearing member are greater than the margins and default fund contributions provided by that clearing member and any other defence the CCP may use before recurring to the default fund contributions of the remaining clearing members. In view of this, the risk of loss associated with exposures from default fund contributions is higher than the one associated with trade exposures. Therefore, this type of exposures should be subject to a higher own funds requirement.

(62)    The “hypothetical capital” of a CCP should be a variable needed to determine the own funds requirement for a clearing member’s exposures from its contributions to a CCP’s default fund. It should not be understood as anything else. In particular, it should not be understood as the amount of capital that a CCP is required to hold by its competent authority.

(63)    The review of the treatment of counterparty credit risk, and in particular putting in place higher own funds requirements for bilateral derivative contracts in order to reflect the higher risk that such contracts pose to the financial system, forms an integral part of the Commission’s efforts to ensure efficient, safe and sound derivatives markets. Consequently, this Regulation complements the Commission proposal for a Regulation on OTC derivatives, central counterparties and trade repositories, of 15 September 2010(10).

(64)    The years preceding the financial crisis were characterised by an excessive build up in credit institutions' and investment firms' exposures in relation to their own funds (leverage). During the financial crisis, losses and the shortage of funding forced credit institutions and investment firms to reduce significantly their leverage over a short period of time. This amplified downward pressures on asset prices, causing further losses for both credit institutions and investment firms which in turn led to further declines in their own funds. The ultimate results of this negative spiral were a reduction in the availability of credit to the real economy and a deeper and longer crisis.

(65)    Risk-based own funds requirements are essential to ensure sufficient own funds to cover unexpected losses. However, the crisis has shown that these requirements alone are not sufficient to prevent credit institutions and investment firms from taking on excessive and unsustainable leverage risk.

(66)    In September 2009, G-20 leaders committed to developing internationally-agreed rules to discourage an excessive leverage. To this end, they supported the introduction of a leverage ratio as a supplementary measure to the Basel II framework.

(67)    In December 2010, the BCBS published guidelines defining the methodology for calculating the leverage ratio. These rules foresee an observation period that will run from 1 January 2013 until 1 January 2017 during which the leverage ratio, its components and its behaviour relative to the risk-based requirement will be monitored. Based on the results of the observation period the BCBS intends to make any final adjustments to the definition and calibration of the leverage ratio in the first half of 2017, with a view to migrating to a binding requirement on 1 January 2018 based on appropriate review and calibration. ▌

(68)    A leverage ratio is a new regulatory and supervisory tool for the Union. In line with international agreements, it should be introduced first as an additional feature that can be applied on individual institutions at the discretion of supervisory authorities. Reporting obligations for institutions would allow appropriate review and calibration, with a view to migrating to a binding measure in 2018.

(69)    When reviewing the impact of the leverage ratio on different business models, particular attention should be paid to business models which are considered to entail low risk, such as mortgage lending and specialised lending with regional governments, local authorities or public sector entities.

(69a)  The counter-cyclical buffer should be focus on systemic risk that is associated with periods of excessive credit growth only. Systemic risk arising from other factors should be captured by other macro-prudential tools, which have yet to be developed.

(70)    In order to facilitate the review, credit institutions and investment firms should during an observation period monitor the level and changes in the leverage ratio as well as leverage risk as part of the internal capital adequacy assessment process (ICAAP). This monitoring should be included in the supervisory review process.

(71)    Restrictions on variable remuneration are an important element in ensuring that credit institutions and investment firms rebuild their capital levels when operating within the buffer range. Credit institutions and investment firms are already subject to the principle that awards and discretionary payments of variable remuneration to those categories of staff whose professional activities have a material impact on the risk profile of the institution have to be sustainable, having regard to the financial situation of the institution. In order to ensure that an institution restores its levels of own funds in a timely manner, it is appropriate to align the award of variable remuneration and discretionary pension benefits with the profit situation of the institution during any period in which the combined buffer requirement is not met.

(72)    Good governance structures, transparency and disclosure are essential for sound remuneration policies. In order to ensure adequate transparency to the market of their remuneration structures and the associated risk, credit institutions and investments firms should disclose detailed information on their remuneration policies, practices and, for reasons of confidentiality, aggregated amounts for those members of staff whose professional activities have a material impact on the risk profile of the credit institution or investment firm. That information should be made available to all stakeholders.

(72a)  The recognition of a Credit Rating Agency as an External Credit Assessment Institution (ECAI) should not increase the foreclosure of a market already dominated by three main undertakings. EBA and Central Banks, without making the process easier or less demanding, should provide for the recognition of more Credit Rating Agencies as ECAI as a way to open the market to other undertakings.

(73)    Directive 95/46 of the European Parliament and of the Council of 24 October 1995 on the protection of individuals with regard to the processing of personal data and on the free movement of such data(11) and Regulation (EU) No 45/2001 of the European Parliament and of the Council of 18 December 2000 on the protection of individuals with regard to the processing of personal data by the EU institutions and bodies and and on the free movement of such data(12), should be fully applicable to the processing of personal data for the purposes of this Regulation.

(74)    Credit institutions and investment firms should hold a diversified stock of liquid assets that they can use to cover liquidity needs in a short term liquidity stress, which should be reflected in the definition of the Liquidity Coverage Ratio (LCR). These requirements should not apply to institutions other than those defined in this Regulation. A concentration of assets and overreliance on market liquidity creates systemic risk to the financial sector and should be avoided. It would therefore be appropriate to promote a diversified and high quality liquidity buffer consisting of different asset categories. A broad set of quality assets should therefore be taken into consideration during the initial observation period. When making a uniform definition of liquid assets at least government bonds and covered bonds traded on transparent markets with an ongoing turnover throughout the financial markets crisis in 2007-09 would be expected to be considered assets of extremely high liquidity and credit quality. When credit institutions and investment firms use the liquidity stock, they should put in place a plan to restore their holdings of liquid assets and competent authorities should ensure the adequacy of the plan and its implementation.

(75)    The stock of liquid assets should be available at any time to meet the liquidity outflows. The level of liquidity needs in a short term liquidity stress should be determined in a standardised manner so as to ensure a uniform soundness standard and a level playing field. It should be ensured that such a standardised determination has no unintended consequences for financial markets, credit extension and economic growth, also taking into account different business and investment models and funding environments of credit institutions and investment firms across the Union. Also to this end, the liquidity coverage requirement should be subject to an observation period. Based on the observations and supported by EBA, the Commission should confirm or adjust the liquidity coverage requirement by means of a delegated act in order to allow for a timely introduction. However, if there would be a codecision proposal on this regulation or Directive [inserted by OP] in close proximity, the importance of the measure would demand that it should be included in that proposal.

(75a)  It can not be taken for granted that credit institutions or investment firms will receive liquidity support from other credit institutions or investment firms belonging to the same group when they experience difficulties to meet their payment obligations. However, subject to stringent conditions and the individual agreement of all competent authorities involved, competent authorities should be able to waive the application of the LCR to individual credit institutions or investment firms and subject those credit institutions or investment firms to a consolidated requirement, in order to allow institutions to manage their liquidity centrally at the group level or subgroup level.

(75b)  EBA in cooperation with the ESRB should issue guidance on the principles for use of liquid stock in a stress situation.

(75c)   In the same vein, where no waiver is granted, liquidity flows between two institutions belonging to the same group and which are subject to consolidated supervision, should, when the LCR becomes a binding measure, receive preferential inflow and outflow rates only in those cases where all the necessary safeguards are in place. Such specific preferential treatments should be narrowly defined and linked to the fulfilment of a number of stringent and objective conditions. The specific treatment applicable to a given intra-group flow should be obtained through a methodology using objective criteria and parameters in order to determine specific levels of inflows and outflows between the institution and the counterparty. Based on the observations and supported by the EBA report, the Commission should lay down these specific intra-group treatments, the methodology together with the objective criteria to which they are linked as well as joint decision modalities for the assessment of those criteria in a co-decision act in accordance with article 481 of this Regulation.

(76)    Apart from short-term liquidity needs, credit institutions and investment firms should also adopt funding structures that are stable at a longer term horizon. In December 2010, the BCBS agreed that the NSFR will move to a minimum standard by 1 January 2018 and that the BCBS will put in place rigorous reporting processes to monitor the ratio during a transition period and will continue to review the implications of these standards for financial markets, credit extension and economic growth, addressing unintended consequences as necessary. The BCBS thus agreed that the NSFR will be subject to an observation period and will include a review clause. In this context, EBA should, based on reporting required by this Regulation, evaluate how a stable funding requirement should be designed. Based on this evaluation, the Commission should report to Council and European Parliament together with any appropriate proposals in order to introduce such a requirement by 2018.

(76a)  Once such appropriate measures are defined, it is essential that financial institutions anticipate in a smooth and timely fashion the transition to the standards, lest any delay should increase the costs of transition and undermine financial stability. It is therefore appropriate that competent authorities are empowered to levy charges in order to encourage a smooth transition. Competent authorities should ensure that the charges are defined so as to contribute to financial stability.

(77)    Weaknesses in corporate governance in a number of credit institutions and investment firms have contributed to excessive and imprudent risk-taking in the banking sector which led to the failure of individual institutions and systemic problems.

(78)    In order to facilitate the monitoring of institutions' corporate governance practices and improve market discipline, credit institutions and investment firms should publicly disclose their corporate governance arrangements. Their management bodies should approve and publicly disclose a statement providing assurance to the public that these arrangements are adequate and efficient.

(78a)  In order to take account of the diversity of business models of financial institutions in the Single Market certain long-term structural requirements such as the Net Stable Funding Ratio and the Leverage Ratio should be examined closely with a view of promoting a variety of sound banking structures which have been and should continue to of service to the European Economy.

(78b)  For the continuous provision of financial services to households and firms a stable funding structure is necessary. Long-term funding flows in bank-based financial systems in many Member States may generally possess different characteristics than those found in other international markets. In addition, specific funding structures may have developed in Member States to provide stable financing for long-term investment, including decentralised banking structures to channel liquidity or specialised mortgage securities which trade on highly liquid markets or are a welcome investment for long-term investors. These structural factors should be carefully considered. It is essential to this purpose that, once the Basel Committee's proposals and on limits to unstable funding are finalized, EBA and the ESRB, based on reporting required by this Regulation, evaluate how a stable funding requirement should be designed fully taking into account the diversity of funding structures in the European Banking market, before specific provisions requiring institutions to maintain stable funding should be introduced from 01.01.2018. As soon as the Basel Committee's proposals are finalised on liquid reserves and on limits to unstable funding, the Commission should propose legislation to define specific standards within a year of each specific recommendation.

(78 c)  A differentiated leverage ratio is an essential tool to safeguard financial stability in the Union. In line with international agreements, it should be introduced first as an additional feature that can be applied on individual institutions at the discretion of supervisory authorities. Reporting obligations for institutions would allow appropriate review and calibration, with a view to migrating to a binding measure in 2018. The leverage ratio should be differentiated between institutions with a business model which is based on low risk activities and low profit margins which may be stable with a comparatively higher leverage , provided that they can rely on stable funding structures. On the other hand, there may be institutions with a business model which is based on riskier activities with higher returns, which should only operate with a lower degree of leverage, in particular in the case of large international banks relying on unstable wholesale funding. In addition, it may be appropriate to have a range of leverage ratios.

(79)    In order to ensure progressive convergence between the level of own funds and the prudential adjustments applied the definition of own funds across the Union and to the definition of own funds laid down in this Regulation during a transition period, the phasing in of the own funds requirements of this Regulation should occur gradually. It is vital to ensure that this phasing in is consistent with the recent enhancements made by Member States to the required levels of own funds and to the definition of own funds in place in the Member States. To that end, during the transition period the competent authorities should determine within defined lower and upper limits how rapidly to introduce the required level of own funds and prudential adjustments laid down in this Regulation.

(80)    In order to facilitate smooth transition from divergent prudential adjustments currently applied in Member States to the set of prudential adjustments laid down in this Regulation, competent authorities should be able during a transition period to continue to require institutions, to a limited extent, to make prudential adjustments to own funds that are a derogation from this Regulation.

(81)    In order to ensure that institutions have sufficient time to meet the new required levels and definition of own funds, certain capital instruments that do not comply with the definition of own funds laid down in this Regulation should be phased out between 1 January 2013 and 31 December 2021. In addition, certain state-injected instruments should be recognised fully in own funds for a limited period.

(82)    In order to ensure progressive convergence towards uniform rules on disclosure by institutions to provide market participants with accurate and comprehensive information regarding the risk profile of individual institutions, disclosure requirements should be phased in gradually.

(83)    In order to take account of market developments and experience in the application of this Regulation, the Commission should be required to submit to the European Parliament and the Council reports, as appropriate together with any legislative proposals, on the possible effect of capital requirements on the economic cycle of minimum, own funds requirements for exposures in the form of covered bonds, large exposures, liquidity requirements, leverage, exposures to transferred credit risk, counterparty credit risk and the original exposure method, retail exposures, on the definition of eligible capital, and the level of application of this regulation.

(83a)  The primary duty of the legal framework for credit institutions should be to ensure the operation of vital services to the real economy while limiting the risk of moral hazard. The structural separation of retail and investment banking activities within a banking group would be a key tool to support this objective. No provision in the current regulation should therefore prevent the introduction of measures to effect such a separation. The Commission should be required to analyse the options for achieving such separation in the Union and produce a report, accompanied by legislative proposals, to the European Parliament and Council.

(83b)  This Regulation, along with Directive 2012/.../EU of the European Parliament and of the Council [on the access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms], is a core element of the new framework for the supervision of credit institutions in the Union but should be complemented by a framework for crisis management and resolution of credit institutions. The Commission should therefore bring forward a legislative proposal to give effect to such a framework in the Union without delay.

(84)    In order to specify the requirements set out in this Regulation, the power to adopt acts in accordance with Article 290 of the TFEU should be delegated to the Commission in respect of technical adjustments to this Regulation to clarify definitions to ensure uniform application of this Regulation or to take account of developments on financial markets; to align terminology on, and frame definitions in accordance with, subsequent relevant acts; ; to adjust the provisions of that Regulation on own funds to reflect developments in accounting standards or Union legislation, or with regard to the convergence of supervisory practices; to expand the lists of exposure classes for the purposes of the Standardised Approach or the IRB Approach to take account of developments on financial markets; to adjust certain amounts relevant to those exposure classes to take into account the effects of inflation; to adjust the list and classification of off- balance sheet items; and to adjust specific provisions and technical criteria on the treatment of counterparty credit risk, the Standardised Approach and the IRB Approach, credit risk mitigation, securitisation, operational risk, market risk, liquidity, capital buffer, leverage and disclosure in order to take account of developments on financial markets or in accounting standards or Union legislation, or with regard to the convergence of supervisory practices and risk measurement and account of the outcome of the review of various matters relating to the scope of Directive 2004/39/EC.

(85)    The power to adopt acts in accordance with Article 290 of the TFEU should also be delegated to the Commission in respect of prescribing a temporary reduction in the level of own funds or risk weights specified under that Regulation in order to take account of specific circumstances; to clarify the exemption of certain exposures from the application of provisions of that Regulation on large exposures; to specify amounts relevant to the calculation of capital requirements for the trading book to take account of developments in the economic and monetary field; to adjust the categories of investment firms eligible for certain derogations to required levels of own funds to take account of developments on financial markets; to clarify the requirement that investment firms hold own funds equivalent to one quarter of their fixed overheads of the preceding year to ensure uniform application of this Regulation; to determine the elements of own funds from which deductions of an institution's holdings of the instruments of relevant entities should be made; to introduce additional transitional provisions relating to the treatment of actuarial gains and losses in measuring defined benefit pension liabilities of institutions; to temporarily increase in the level of own funds; and to specify liquidity requirements.

(86)    It is of particular importance that the Commission carry out appropriate consultations during its preparatory work, including at expert level. The Commission, when preparing and drawing up delegated acts, should ensure a simultaneous, timely and appropriate transmission of relevant documents to the European Parliament and Council.

(87)    After recommendation of the ESRB and the EBA the Commission should be empowered to adopt, by means of delegated acts, and in response to recommendations by the ESRB, modifications to risk weightings, liquidity and leverage requirements or other prudential measures in order to respond to market developments creating macro-prudential risks. The EBA, working in conjunction with the ESRB, should also issue guidelines for macro-prudential intervention by supervisors at individual Member State level, review all such measures and when appropriate advise the Commission if the measures taken are unjustified. The Commission may demand that unjustified measures be revoked. By the same way, pursuant to the principle of subsidiarity, when macro-prudential risks threaten financial stability at national level, national authorities should be equally empowered to impose the stricter prudential requirements, subject to an ex-post assessment at European level, with immediate ESRB involvement, and including the possibility by the Commission to order they Member State to abolish those measures, if it is assessed that the risks justifying the measures do not exist.

(88)    Technical standards in financial services should ensure harmonisation, uniform conditions and adequate protection of depositors, investors and consumers across the Union. As a body with highly specialised expertise, it would be efficient and appropriate to entrust EBA with the elaboration of draft regulatory and implementing technical standards which do not involve policy choices, for submission to the Commission. EBA should ensure efficient administrative and reporting processes when drafting regulatory technical standards.

(89)    The Commission should adopt the draft regulatory technical standards developed by EBA in the areas of cooperative societies, savings banks or similar institutions, certain own funds instruments, prudential adjustments, deductions from own funds, additional own funds instruments, minority interests, services ancillary to banking, the treatment of credit risk adjustment, probability of default, loss given default, corporate Governance, approaches to risk-weighting of assets, convergence of supervisory practices, liquidity, and transitional arrangements for own funds, by means of delegated acts pursuant to Article 290 TFEU and in accordance with Articles 10 to 14 of Regulation (EU) No 1093/2010. It is of particular importance that the Commission carry out appropriate consultations during its preparatory work, including at expert level. EBA and the Commission should ensure that those standards and requirements can be applied by all institutions concerned in a manner that is proportionate to the nature, scale and complexity of those institutions and their activities.

(89a)  The implementation of some delegated acts foreseen in this Regulation such as the Liquidity Coverage Ratio may potentially have a substantial impact on supervised institutions and the real economy. In addition, relevant elements of these delegated acts are still being developed at the international level. With respect to the Liquidity Coverage Ratio these include important aspects such as the mechanisms of using this buffer in times of stress, the calibration of liquidity in- and outflows and the components of the pool of liquid assets, which should be defined in a way which assures a broad range of eligible assets, as diversification should ensure liquidity under various stress scenarios. The Commission should ensure that the European Parliament and the Council are always well informed about relevant developments at international level and current thinking within the Commission already before the publication of delegated acts.

(90)    The Commission should also be empowered to adopt implementing technical standards by means of implementing acts pursuant to Article 291 TFEU and in accordance with Article 15 of Regulation (EU) No 1093/2010. EBA should be entrusted with drafting implementing technical standards for submission to the Commission with regard to consolidation, joint decisions, reporting, disclosure, exposures secured by mortgages, risk assessment, approaches to risk-weighting of assets, risk-weights and specification of certain exposures, the treatment of options and warrants, positions in equity instruments and foreign exchange, the use of internal models, leverage, and off-balance-sheet items.

(90a)  In order to ensure a high degree of legal certainty, EBA should launch consultations relating to the draft technical standards referred to in this Regulation and in particular those referred to in Article 24(3), Article 26(3), Article 49(2)(a) to (e), Article 379(8)(b), Article 403(3)(a), (b) and (c), Article 404(4), Article 408(3), Article 409(3), Article 411(3), Article 417(3), Article 461(4), and Article 465(3) as soon as possible [,and in any event as soon as this Regulation enters into force]. EBA and the Commission should also start preparing their reports on liquidity requirements and leverage, as provided for in this Regulation, as soon as possible.

(91)    In order to ensure uniform conditions for the implementation of this Regulation, implementing powers should be conferred on the Commission. Those powers should be exercised in accordance with Regulation (EU) No 182/2011 of the European Parliament and of the Council on laying down the rules and general principles concerning mechanisms for control by the Member States of the Commission's exercise of implementing powers

(91b)  In reference to Article 345 TFEU, which states that the Treaties shall in no way prejudice the rules in Member States governing the system of property ownership, the provisions of this Regulation shall neither favour nor discriminate types of ownership, which are in the scope of this Regulation.

(91c)   Among financial instruments covered bonds have played an increasingly important role since the aftermath of the financial crisis. A financial institution, which issues this bond uses a certain ratio of its assets to cover these instruments. As a consequence, in the case of insolvency, assets linked in the aforementioned way to covered bonds are not available to cover the liabilities of the institution. This point is specifically relevant for a financial institution, which on the one hand issues covered bonds to a large extent and on the other hand takes in deposits. Facing solvency problems, this institutions will use a considerable part of their assets, most likely those of the highest value, to shield its covered bonds. Under such constraints, less assets will be left to cover the remaining liabilities, such as the deposits of these institutions. Usually external deposit guarantee schemes will be drawn in to cover the deposits of the bank in trouble. Likewise, the role of deposit guarantee schemes creates an incentive, especially for financial institutions issuing covered bonds, to use the best assets to cover these financial instruments and to transfer the risk related to liabilities in the form of deposits to the respective schemes. In order to avoid such actions, it is necessary to include a structure in the framework of CRD IV, which creates a disincentive for high issuance of covered bonds, specifically for institutions, which also take deposits. Therefore, financial institutions covered by this regulation and which also issue covered bonds and take in deposits should create an internal deposit reserve. This capital cushion must adequately reflect the ratio of covered bonds issued by a financial institution, which exceeds the threshold established through Article 124(5a) of this Regulation.

           HAVE ADOPTED THIS REGULATION:

PART ONEGENERAL PROVISIONS

Title ISubject matter, scope and definitions

Article 1

Scope

This Regulation lays down uniform rules concerning general prudential requirements that all institutions supervised under Directive [inserted by OP] must meet in relation to the following items:

(a)       own funds requirements relating to entirely quantifiable, uniform and standardised elements of credit risk, market risk, and operational risk;

(b)       requirements limiting large exposures;

(c)       after the delegated act referred to in Article 444 has entered into force, liquidity requirements relating to entirely quantifiable, uniform and standardised elements of liquidity risk;

(d)       reporting requirements related to points (a) to (c) and to leverage;

(e)       publication requirements.

This Regulation also lays down uniform rules concerning reporting and publication requirements related to the risks in points (a) to (c) and to leverage.

Article 299 applies to central counterparties.

This Regulation does not govern publication requirements for competent authorities in the field of prudential regulation and supervision of institutions as set out in Directive 2012/.../EU of the European Parliament and of the Council of ... [on the access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms].

This Regulation does not specifically address systemic risk to the financial system within a Member State or across Member States, in relation to which measures may be imposed in accordance with Directive [inserted by OP].

Article 2Supervisory powers

and mediation powers of EBA

For the purposes of ensuring compliance with this Regulation, competent authorities shall have the powers and shall follow the procedures set out in Directive [inserted by OP].

Article 19 of the Regulation (EU) No 1093/2010 of the European Parliament and of the Council establishing a European Supervisory Authority (European Banking Authority) relating to the settlement of disagreements between competent authorities in cross-border situations, setting out the powers of binding mediation, shall apply to all relevant articles of this Regulation.

Given the inevitable extension of powers and tasks for EBA foreseen by this regulation, EBA shall without delay submit a revised request concerning its annual and pluriannual budgets.

Nothing in this Regulation shall prevent the ESRB from exercising its powers under Articles 16 and 17 of Regulation (EU) No 1092/2010 of the European Parliament and of the Council of 24 November 2010 on European Union macro-prudential oversight of the financial system and establishing a European Systemic Risk Board(13) or a Member State from complying.

Where this Regulation provides for competent authorities to exercise discretions, waivers or derogations, they must take into account spillover effects and any applicable international standards when considering the application of such provisions to systemic institutions.

Article 3Application of stricter requirements by institutions

This Regulation shall not prevent institutions from holding own funds and their components in excess of, or applying measures that are stricter than those required by this Regulation. It shall also not prevent competent authorities to require higher level of minimum own fund requirements from institutions registered in their jurisdiction if these meet requirements specified in Article 126 of Directive 2012/.../EU of the European Parliament and of the Council of ... [on the access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms].

Article 4Definitions

For the purposes of this Regulation, the following definitions shall apply:

(1)       ‘credit institution’ means an undertaking the business of which is to receive deposits or other repayable funds from the public and to grant credits for its own account;

(2)       ‘competent authorities’ means public authorities or bodies officially recognized by national law, which are empowered by national law to supervise credit institutions or investment firms as part of the supervisory system in operation in the Member State concerned.

(3)        ‘financial institution’ means an undertaking other than a credit institution, the principal activity of which is to acquire holdings or to pursue one or more of the activities listed in points 2 to 12 and 15 Annex I of Directive [inserted by OP];

(4)       'institution' means credit institution or investment firm.

(5)       ‘consolidating supervisor’ means the competent authority responsible for the exercise of supervision on a consolidated basis of EU parent institutions and institutions controlled by EU parent financial holding companies or EU parent mixed financial holding companies.

(6)       ‘recognised third-country investment firms’ means firms meeting all of the following conditions:

(a)       firms which, if they were established within the Union, would be covered by the definition of investment firm;

(b)       firms which are authorised in a third country;

(c)       firms which are subject to and comply with prudential rules considered by the competent authorities as at least as stringent as those laid down by this Regulation or by Directive [inserted by OP];

For the purposes of this Regulation, exposures to recognised third-country investment firms and exposures to recognised clearing houses and exchanges shall be treated as exposures to institutions, unless otherwise provided.

(7)       ‘local firm’ means a firm dealing for its own account on markets in financial futures or options or other derivatives and on cash markets for the sole purpose of hedging positions on derivatives markets, or dealing for the accounts of other members of those markets and being guaranteed by clearing members of the same markets, where responsibility for ensuring the performance of contracts entered into by such a firm is assumed by clearing members of the same markets;

(8)       ‘investment firms’ means institutions as defined in Article 4(1)(1) of Directive 2004/39/EC which are subject to the requirements imposed by that Directive, excluding the following:

(a)       credit institutions;

(b)       local firms;

(c)       firms which are only authorised to:

i)         provide the service of investment advice;

ii)       provide portfolio management without holding money or securities belonging to their clients and which for that reason may not at any time place themselves in debt with those clients; or

iii)      receive and transmit orders from investors without holding money or securities belonging to their clients and which for that reason may not at any time place themselves in debt with those clients.

(9)       ‘collective investment undertaking (CIU)’ means an Alternative Investment Fund as defined by Article 4(1)(a) of Directive 2011/61/EU of the European Parliament and the Council of 8 June 2011 on Alternative Investment Fund Managers or an undertaking for collective investment in transferable securities (UCITS) as defined in Article 1 of Directive 2009/65/EU of the European Parliament and the Council on the coordination of laws, regulations and administrative provisions relating to undertakings for collective investment in transferable securities (UCITS) including third country entities, that carry out similar activities, that are subject to supervision pursuant to EU legislation or to legislation of a third country which applies supervisory and regulatory requirements at least equivalent to those applied in the Union;

(10)     ‘authorisation’ means an instrument issued in any form by the authorities by which the right to carry on the business is granted;

(11)     ‘consolidated situation’ means the situation that results from applying requirements of this regulation in accordance with Title II Chapter 2 to one institution as if that institution formed, together with one or more other entities, one single institution;

(12)     ‘consolidated basis’ means on the basis of the consolidated situation;

(13)     ‘marking to market’ means the valuation of positions at readily available close out prices that are sourced independently, including exchange prices, screen prices, or quotes from several independent reputable brokers;

(14)     ‘marking to model’ means any valuation which has to be benchmarked, extrapolated or otherwise calculated from one or more market input;

(14a)   'marking to funding' means allocating assets into buckets of intended holding period against funding of equal maturity and using average price over holding horizon rather than current market price to calculate value.

(15)     ‘independent price verification’ means a process by which market prices or mark-to-model inputs are regularly verified for accuracy and independence.

(16)     ‘branch’ means a place of business which forms a legally dependent part of a credit institution and which carries out directly all or some of the transactions inherent in the business of credit institutions;

(18)     ‘home Member State’ means the Member State in which a credit institution has been authorised;

(19)     ‘host Member State’ means the Member State in which a credit institution has a branch or in which it provides services;

(20)     ‘control’ means the relationship between a parent undertaking and a subsidiary, as defined in Article 1 of Seventh Council Directive 83/349/EEC of 13 June 1983 based on the Article 54 (3) (g) of the Treaty on consolidated accounts(14), or a similar relationship between any natural or legal person and an undertaking;

(21)     ‘qualifying holding’ means a direct or indirect holding in an undertaking which represents 10 % or more of the capital or of the voting rights or which makes it possible to exercise a significant influence over the management of that undertaking;

(22)     ‘public sector entities’ means non-commercial administrative bodies responsible to central governments, regional governments or local authorities, or authorities that exercise the same responsibilities as regional and local authorities, or non-commercial undertakings owned by central governments or regional or local authorities that have explicit guarantee arrangements, and may include self administered bodies governed by law that are under public supervision;

(22a)   'public sector bank' means a credit institution that has been set up and is owned by a Member State's central government, regional government or local authorities and whose business model is to primarily provide funding for the local public sector, the regional public sector and providers of services of general economic interest;

(23)     ‘eligible capital’ for the purposes of Title IV of Part Two and Part Four means the sum of the following:

(a) Common Equity Tier 1 capital;

(b) Additional Tier 1 capital;

(c) Tier 2 capital that is equal to or less than 25 % of own funds;

(24)     ‘operational risk’ means the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events, and includes legal risk;

(25)     ‘central banks’ means the national central banks that are members of the European System of Central Banks and the European Central Bank, unless otherwise indicated.

(26)     ‘dilution risk’ means the risk that an amount receivable is reduced through cash or non-cash credits to the obligor;

(27)     ‘probability of default’ means the probability of default of a counterparty over a one year period;

(28)     ‘loss’, for the purposes of Part Three, Title II, means economic loss, including material discount effects, and material direct and indirect costs associated with collecting on the instrument;

(29)     ‘loss given default (LGD)’ means the ratio of the loss on an exposure due to the default of a counterparty to the amount outstanding at default;

(30)     ‘conversion factor’ means the ratio of the currently undrawn amount of a commitment that will be drawn and outstanding at default to the currently undrawn amount of the commitment, the extent of the commitment shall be determined by the advised limit, unless the unadvised limit is higher;

(31)     ‘expected loss (EL)’, for the purposes of Part Three, Title II, means the ratio of the amount expected to be lost on an exposure from a potential default of a counterparty or dilution over a one year period to the amount outstanding at default;

(32)     ‘credit risk mitigation’ means a technique used by an institution to reduce the credit risk associated with an exposure or exposures which that institution continues to hold;

(33)     ‘funded credit protection’ means a technique of credit risk mitigation where the reduction of the credit risk on the exposure of an institution derives from the right of that institution - in the event of the default of the counterparty or on the occurrence of other specified credit events relating to the counterparty - to liquidate, or to obtain transfer or appropriation of, or to retain certain assets or amounts, or to reduce the amount of the exposure to, or to replace it with, the amount of the difference between the amount of the exposure and the amount of a claim on the institution;

(34)     ‘unfunded credit protection’ means a technique of credit risk mitigation where the reduction of the credit risk on the exposure of an institution derives from the undertaking of a third party to pay an amount in the event of the default of the borrower or on the occurrence of other specified credit events;

(35)     ‘repurchase transaction’ means any transaction governed by an agreement falling within the definition of ‘repurchase agreement’ or ‘reverse repurchase agreement’

(36)     ‘cash assimilated instrument’ means a certificate of deposit, bonds including covered bonds or any other non-subordinated instrument, which has been issued by the institution, for which the institution has already received full payment and which shall be unconditionally reimbursed by the institution at its nominal value

(37)     ‘securitisation’ means a transaction or scheme, whereby the credit risk associated with an exposure or pool of exposures is tranched, having both of the following characteristics:

(a)       payments in the transaction or scheme are dependent upon the performance of the exposure or pool of exposures;

(b)       the subordination of tranches determines the distribution of losses during the ongoing life of the transaction or scheme;

(38)     ‘tranche’ means a contractually established segment of the credit risk associated with an exposure or number of exposures, where a position in the segment entails a risk of credit loss greater than or less than a position of the same amount in each other such segment, without taking account of credit protection provided by third parties directly to the holders of positions in the segment or in other segments;

(39)     ‘securitisation position’ means an exposure to a securitisation;

(40)     ‘re-securitisation‘ means securitisation where the risk associated with an underlying pool of exposures is tranched and at least one of the underlying exposures is a securitisation position;

(41)     ‘re-securitisation position‘ means an exposure to a re-securitisation;

(42)     ‘originator’ means either of the following:

(a)       an entity which, either itself or through related entities, directly or indirectly, was involved in the original agreement which created the obligations or potential obligations of the debtor or potential debtor giving rise to the exposure being securitised;

(b)       an entity which purchases a third party's exposures for its own account and then securitises them;

(43)     ‘sponsor’ means an institution other than an originator institution that establishes and manages an asset-backed commercial paper programme or other securitisation scheme that purchases exposures from third party entities;

(44)     ‘credit enhancement’ means a contractual arrangement whereby the credit quality of a position in a securitisation is improved in relation to what it would have been if the enhancement had not been provided, including the enhancement provided by more junior tranches in the securitisation and other types of credit protection;

(45)     ‘securitisation special purpose entity (SSPE)’ means a corporation trust or other entity, other than an institution, organised for carrying on a securitisation or securitisations, the activities of which are limited to those appropriate to accomplishing that objective, the structure of which is intended to isolate the obligations of the SSPE from those of the originator institution, and the holders of the beneficial interests in which have the right to pledge or exchange those interests without restriction;

(46)     ‘group of connected clients’ means any of the following:

(a)       two or more natural or legal persons who, unless it is shown otherwise, constitute a single risk because one of them, directly or indirectly, has control over the other or others unless the treatment set out in point (c) applies save that where the lending credit institution is the group's parent undertaking each subsidiary and each subsidiary group is considered a distinct group of connected clients, provided there is no legal or economic relationship between the respective subsidiaries and subsidiary groups, that constitutes a single risk;

(b)       two or more natural or legal persons between whom there is no relationship of control as described in point (a) but who are to be regarded as constituting a single risk because they are so interconnected that, if one of them were to experience financial problems, in particular funding or repayment difficulties, the other or all of the others would also be likely to encounter funding or repayment difficulties;

(c)       where a central government has control over one or more entities and exposures to this central government receive a 0 % risk weight according to Article 109 and where that central government has provided an explicit guarantee for all the obligations of such entities, this control does not lead to a group of connected clients between the central government and these entities. The same applies in cases of regional governments or local authorities where exposures to the regional governments or local authority receive a 0 % risk weight according to Article 110 and where the regional governments or local authorities provided an explicit guarantee for all the obligations of such entities.

(47)     ‘recognised exchanges’ means exchanges which meet all of the following conditions:

(a)       they are a market referred to in the list to be published by (ESMA) according to Article 47 of Directive 2004/39/EC.

(b)       they have a clearing mechanism whereby contracts listed in Annex IV are subject to daily margin requirements which, in the opinion of the competent authorities, provide appropriate protection;

(48)     ‘discretionary pension benefits’ means enhanced pension benefits granted on a discretionary basis by an institution to an employee as part of that employee’s variable remuneration package, which do not include accrued benefits granted to an employee under the terms of the company pension scheme.

(49)     ‘participation’ means participation within the meaning of the first sentence of Article 17 of Fourth Council Directive 78/660/EEC of 25 July 1978 on the annual accounts of certain types of companies(15), or the ownership, direct or indirect, of 20 % or more of the voting rights or capital of an undertaking;

(50)     ‘exposure’ for the purposes of Part Three, Title II means an asset or off-balance sheet item.

(51)     ‘mortgage lending value’ means the value of the immovable property as determined by a prudent assessment of the future marketability of the property taking into account long-term sustainable aspects of the property, the normal and local market conditions, the current use and alternative appropriate uses of the property.

(51a)   'Residential property' means a residence which is occupied or let by the owner of the residence or shares in a housing cooperative that give the owner of the shares the right of full, unlimited and exclusive use one specific apartment in a property owned by the housing cooperative.

For the purpose of this Regulation any reference to real estate or residential or commercial immovable property or mortgage on such property shall include shares in Finnish residential housing companies operating in accordance with the Finnish Housing Company Act of 1991 or subsequent equivalent legislation. Member States or their competent authorities may allow shares constituting an equivalent indirect holding of real estate to be treated as a direct holding of real estate provided that such indirect holding is specifically regulated in the national law of the Member State and, when pledged as a collateral, provides equivalent protection to creditors.

The right to inhabit an apartment in Swedish housing cooperatives are included in residential property.

(52)     ‘market value’ means for the purposes of immovable property the estimated amount for which the property should exchange on the date of valuation between a willing buyer and a willing seller in an arm's-length transaction after proper marketing wherein the parties had each acted knowledgeably, prudently and without compulsion.

(53)     ‘relevant accounting framework' means the accounting rules to which the institution is subject under Regulation (EC) No 1606/2002(16) of the European Parliament and of the Council of 19 July 2002 on the application of international accounting standards and Council Directive 86/635/EEC of 8 December 1986 on the annual accounts and consolidated accounts of banks and other financial institutions(17).

(54)     ‘one year default rate’ means the ratio between the number of defaults occurred during a period that starts from one year prior to a date T and the number of obligors assigned to this grade or pool one year prior to that date.

(55)     ‘speculative immovable property financing’ means loans for the purposes of the acquisition or development or construction of land in relation to such property, with the intention of reselling for profit.

(55a)   'trade finance' means financing connected to the exchange of goods and services through financial products of fixed short-term maturity (generally less than 1 year) without automatic rollover, such finance is generally uncommitted and requires satisfactory supporting transactional documentation for each drawdown request enabling refusal of the finance in the event of any doubt about credit-worthiness or the supporting transactional documentation; repayment of trade finance exposures is usually independent of the borrower; the funds instead coming from cash received from importers or resulting from proceeds of the sales of the underlying goods.

(56)     ‘repurchase agreement’ and ‘reverse repurchase agreement’ mean any agreement in which an institution or its counterparty transfers securities or commodities or guaranteed rights relating to either of the following:

(a)       title to securities or commodities where that guarantee is issued by a recognised exchange which holds the rights to the securities or commodities and the agreement does not allow an institution to transfer or pledge a particular security or commodity to more than one counterparty at one time, subject to a commitment to repurchase them;

(b)       substituted securities or commodities of the same description at a specified price on a future date specified, or to be specified, by the transferor, being a repurchase agreement for the institution selling the securities or commodities and a reverse repurchase agreement for the institution buying them.

(56a)   simple repurchase agreement' means a repurchase transaction of a single or similar assets as opposed to a basket of assets.

(57)     'financial instruments’ means any of the following:

(a)       a contract that gives rise to both a financial asset of one party and a financial liability or equity instrument of another party;

(b)       any instrument specified in Section C of Annex I to Directive 2004/39/EC;

(c)       derivative financial instrument;

(d)       a primary financial instrument;

(e)       a cash instrument.

The instruments referred to in points (a) to (c) are only financial instruments if their value is derived from the price of an underlying financial instrument or another underlying item, a rate, or an index.

(58)     ‘initial capital’ means the amount and types of own funds specified in Article 12 of Directive [inserted by OP] for credit institutions and in Title IV of that Directive for investment firms.

(59)     ‘positions held with trading intent’ means any of the following:

(a)       proprietary positions and positions arising from client servicing and marking making;

(b)       positions intended to be resold short term;

(c)       positions intended to benefit from actual or expected short term price differences between buying and selling prices or from other price of interest rate variations;

(60)     ‘parent undertaking’ means:

(a)       a parent undertaking as defined in Articles 1 and 2 of Directive 83/349/EEC;

(b)       for the purposes of Section II of Chapters 3 and 4 of Title VII, Title VIII of Directive [inserted by OP] and Part V of this Regulation a parent undertaking within the meaning of Article 1(1) of Directive 83/349/EEC and any undertaking which, effectively exercises a dominant influence over another undertaking;

(61)     ‘subsidiary’ means:

(a)       a subsidiary as defined in Articles 1 and 2 of Directive 83/349/EEC;

(b)       a subsidiary within the meaning of Article 1(1) of Directive 83/349/EEC and any undertaking over which, a parent undertaking effectively exercises a dominant influence;

All subsidiaries of subsidiaries shall also be considered to be subsidiaries of the undertaking that is their original parent undertaking;

(62)     ‘trading book’ means all positions in financial instruments and commodities held by an institution either with trading intent or in order to hedge positions held with trading intent;

(63)     ‘financial holding company’ means a financial institution, the subsidiaries of which are either exclusively or mainly institutions or financial institutions, at least one of such subsidiaries being an institution, and which is not a mixed financial holding company within the meaning of Article 2(15) of Directive 2002/87/EC(18);

(64)     ‘parent institution in a Member State’ means an institution which has a institution or a financial institution as a subsidiary or which holds a participation in such an institution, and which is not itself a subsidiary of another institution authorised in the same Member State, or of a financial holding company or mixed financial holding company set up in the same Member State.

(65)     ‘EU parent institution’ means a parent institution which is not a subsidiary of another institution authorised in any Member State, or of a financial holding company or mixed financial holding company set up in any Member State;

(66)     ‘parent financial holding company in a Member State’ means a financial holding company which is not itself a subsidiary of an institution authorised in the same Member State, or of a financial holding company or mixed financial holding company set up in the same Member State;

(67)     ‘EU parent financial holding company’ means a parent financial holding company which is not a subsidiary of an institution authorised in any Member State or of another financial holding company or mixed financial holding company set up in any Member State;

(68)     ‘parent mixed financial holding company in a Member State’ means a mixed financial holding company which is not itself a subsidiary of a credit institution authorised in the same Member State, or of a financial holding company or mixed financial holding company set up in that same Member State;

(69)     ‘EU parent mixed financial holding company’ means a parent mixed financial holding company which is not a subsidiary of a credit institution authorised in any Member State or of another financial holding company or mixed financial holding company set up in any Member State;

(70)      'multilateral trading facility' has the same meaning as under Article 4(15) of Directive 2004/39/EC;

(71)     ‘mixed activity holding company’ means a parent undertaking, other than a financial holding company or an institution or a mixed financial holding company , the subsidiaries of which include at least one institution;

(72)     ‘close links’ means a situation in which two or more natural or legal persons are linked in any of the following ways:

(a)       participation in the form of ownership, direct or by way of control, of 20 % or more of the voting rights or capital of an undertaking;

(b)       control;

(c)       the fact that both or all are permanently linked to one and the same third person by a control relationship

(73)     ‘central counterparty (CCP)’ means a legal entity that interposes itself between the counterparties to a trade within one or more financial markets, becoming the buyer to every seller and the seller to every buyer;

(74)     ‘default fund’ means a fund established by a CCP the purpose of which is to mutualise the losses the CCP incurs due to the default or insolvency of one or more of its clearing members, where the margins and default fund contributions provided by those clearing members are not sufficient to cover those losses;

(75)     ‘trade exposure’ means the sum of exposures arising from assets posted to a CCP, mark-to-market exposures to a CCP and potential future exposures to a CCP;

(76)     ‘insurance undertaking’ has the same meaning as under Article 13(1) of Directive 2009/138/EC;

(77)     ‘mixed activity insurance holding company’ has the same meaning as under point (g) of Article 212(1) of Directive 2009/138/EC;

(78)     ‘reinsurance undertaking’ has the same meaning as under Article 13(4) of Directive 2009/138/EC;

(79)     ‘third country insurance undertaking’ has the same meaning as under Article 13(3) of Directive 2009/138/EC;

(80)     ‘third country reinsurance undertaking’ has the same meaning as under Article 13(6) of Directive 2009/138/EC;

(81)     ‘regulated market means a market referred to in the list to be published by the European Securities and Markets Authority (ESMA) according to Article 47 of Directive 2004/39/EC;

(82)     ‘management body’ means the governing body of an institution, comprising the supervisory and the managerial functions, which has the ultimate decision-making authority and is empowered to set the institution's strategy, objectives and overall direction. Management body shall include persons who effectively direct the business of the institution;

(83)     ‘management body in its supervisory function’ means the management body acting in its supervisory function of overseeing and monitoring management decision-making;

(84)     ‘senior management’ means those individuals who exercise executive functions within a institution and who are responsible and accountable to the management body for the day-to-day management of the institution;

(85)     mixed financial holding company’ shall mean a parent undertaking, other than a regulated entity, which together with its subsidiaries, at least one of which is a regulated entity which has its head office in the Community, and other entities, constitutes a financial conglomerate;

(86)     ‘leverage’ means the relative size of an institution's assets, off-balance sheet obligations and contingent obligations to pay or to deliver or to provide collateral, including obligations from received funding, made commitments, derivates or repurchase agreements, but excluding obligations which can only be enforced during the liquidation of an institution, compared to that institution’s own funds.

(86a)   'multilateral development bank' means an organisation that provides financial support and professional advice for economic or social development activities in recipient countries, with membership comprised, exclusively or mainly, of sovereign states.

Title II

Level of application of requirements

Chapter 1Application of requirements on an individual basis

Article 5General principles

1.        Institutions shall comply with the obligations laid down in Parts Two to Five on an individual basis.

2.        Every institution which is neither a subsidiary in the Member State where it is authorised and supervised, nor a parent undertaking, and every institution not included in the consolidation pursuant to Article 17, shall comply with the obligations laid down in Article 84 on an individual basis.

3.        Every institution which is neither a parent undertaking, nor a subsidiary, and every institution not included in the consolidation pursuant to Article 17, shall comply with the obligations laid down in Part Eight on an individual basis.

4.        Institutions other than investment firms that are not authorised to provide the investment services listed in points 3 and 6 of Section A of Annex I to Directive 2004/39/EC shall comply with the obligations laid down in Articles 401 and 403 on an individual basis.

5.        Institutions shall comply with the obligations laid down in Part Seven on an individual basis.

5a.      Member States shall ensure that the requirements laid down in this Regulation apply in a manner proportional to the nature, scale and complexity of the risks associated with an institution’s business model and activities.

The Commission shall ensure that delegated and implementing acts, regulatory technical standards and implementing technical standards are consistent with the principle of proportionality, so as to guarantee that this Regulation is applied in a proportional manner. EBA shall therefore ensure that all regulatory and implementing technical standards are drafted in such a way that they are consistent with and uphold the principle of proportionality.

Article 6Derogation to the application of prudential requirements on an individual basis

1.        Competent authorities may waive the application of Article 5(1) to any subsidiary of an institution, where both the subsidiary and the institution are subject to authorisation and supervision by the Member State concerned, and the subsidiary is included in the supervision on a consolidated basis of the institution which is the parent undertaking, and all of the following conditions are satisfied, in order to ensure that own funds are distributed adequately among the parent undertaking and the subsidiaries:

(a)       there is no current or foreseen material practical or legal impediment to the prompt transfer of own funds or repayment of liabilities by its parent undertaking;

(b)       either the parent undertaking satisfies the competent authority regarding the prudent management of the subsidiary and has declared, with the permission of the competent authority, that it guarantees the commitments entered into by the subsidiary, or the risks in the subsidiary are of negligible interest;

(c)       the risk evaluation, measurement and control procedures of the parent undertaking cover the subsidiary;

(d)       the parent undertaking holds more than 50 % of the voting rights attached to shares in the capital of the subsidiary or has the right to appoint or remove a majority of the members of the management body of the subsidiary.

2.        Competent authorities may exercise the option provided for in paragraph 1 where the parent undertaking is a financial holding company or a mixed financial holding company set up in the same Member State as the institution, provided that it is subject to the same supervision as that exercised over institutions, and in particular to the standards laid down in Article 10(1).

3.        Competent authorities may waive the application of Article 5(1) to a parent institution in a Member State where that institution is subject to authorisation and supervision by the Member State concerned, and it is included in the supervision on a consolidated basis, and all the following conditions are satisfied, in order to ensure that own funds are distributed adequately among the parent undertaking and the subsidiaries:

(a)       there is no current or foreseen material practical or legal impediment to the prompt transfer of own funds or repayment of liabilities to the parent institution in a Member State;

(b)       the risk evaluation, measurement and control procedures relevant for consolidated supervision cover the parent institution in a Member State.

The competent authority which makes use of this paragraph shall inform the competent authorities of all other Member States.

Article 7Derogation to the application of liquidity requirements on an individual basis

1.        The competent authorities may waive in full or in part the application of Article 401 to a parent institution and to all or some of its subsidiaries in the European Union as well as liquidity supervision with regard to branches of the parent institution and its subsidiaries in the European Union and supervise them as a single liquidity sub-group so long as they fulfil all of the following conditions:

(a)       The parent institution complies with the obligations laid down in Articles 401 and 403 on a consolidated basis or, where the sub-group does not include the EU parent institution, on a sub-consolidated basis;

(b)       The parent institution monitors and has oversight at all times over the liquidity positions of all institutions, including their branches, within the group or sub-group, that are subject to the waiver; and ensure a sufficient level of liquidity for all institutions;

(c)       The institutions have entered into contracts approved by the competent authorities that provide for the free movement of funds between them to enable them to meet their individual and joint obligations as they come due;

(d)       There are no current or foreseen material practical or legal impediment to the fulfilment of the contracts referred to in (c).

(da)     The parent institution guarantees injection of the funds in case one of the entities covered by the waiver suffers a temporary liquidity shortage.

(db)     There are adequate ex ante agreements regarding responsibilities and rights in place between the supervisory authorities and the central banks of the Member States concerned.

By 31 December 2012 the Commission shall report to the European Parliament and the Council on any legal obstacles which are capable of rendering impossible the application of point (c) of the first subparagraph and shall make appropriate legislative proposals by 31 December 2014 for the removal of those obstacles.

2.        Where all institutions of the single liquidity sub-group are authorised in the same Member State, paragraph 1 shall be applied by the competent authorities of that Member State.

Where institutions of the single liquidity sub-group are authorised, or branches of a single liquidity sub-group are operated, in several Member States, paragraph 1 shall only be applied after following the procedure laid down in Article 19 and only to the institutions and branches whose competent authorities agree about the following elements:

(a)       verify whether the organization and the treatment of liquidity risk meets the conditions as required by Article 84 of Directive 2012/.../EU of the European Parliament and of the Council of ... on the access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms] on an individual level and on the level of the sub-group;

(b)       the distribution of amounts, location and ownership of the required liquid assets to be held within the liquidity sub-group;

(c)       determine the minimum amounts of liquid assets to be held by institutions or branches for which the application of Article 401 has been waived;

(d)       consider the need for stricter parameters than those set out in Part Six, Title III. Competent authorities may also apply paragraph 1 and 4 also to institutions that are members of the same institutional protection scheme referred to in 108(7)(b), provided that they meet all the conditions laid down in Article 108(7). Competent authorities shall in that case determine one of the institutions subject to the waiver to meet Article 401 on the basis of the consolidated situation of all institutions of the single liquidity sub-group.

(da)     verify whether there is complete and unrestricted information sharing between supervisors and a full understanding of the implications of such a waiver.

Competent authorities may apply paragraph 1 also to institutions that are members of the same institutional protection scheme referred to in 108(7)(b), provided that they meet all the conditions laid down therein, and to other institutions linked by a relationship referred to in Article 108(6) provided that they meet all the conditions laid down therein. Competent authorities shall in that case determine one of the institutions subject to the waiver to meet Article 401 and if also waived in Article 403 on the basis of the consolidated situation of all institutions of the single liquidity sub-group.

3.        Where a waiver has been granted under paragraph 1, the competent authorities may also waive the application of Article 403.

3a.      Where a waiver has been granted under paragraph 1, the competent authorities may also apply Article 84 of Directive 2012/.../EU of the European Parliament and of the Council of ... [on the access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms], or parts thereof, at the level of the single liquidity group and waive the application of Article 84 of the same Directive, or parts thereof, on an individual basis.

Article 8Individual consolidation method

1.        Subject to paragraphs 2 and 3 of this Article and to Article 134(3) of Directive [inserted by OP], the competent authorities may permit on a case by case basis parent institutions to incorporate in the calculation of their requirement under Article 5(1) subsidiaries which meet the conditions laid down in points (c) and (d) of Article 6(1), and whose material exposures or material liabilities are to that parent institution.

2.        The treatment in paragraph 1 shall be permitted only where the parent institution demonstrates fully to the competent authorities the circumstances and arrangements, including legal arrangements, by virtue of which there is no material practical or legal impediment, and none are foreseen, to the prompt transfer of own funds, or repayment of liabilities when due by the subsidiary to its parent undertaking.

3.        Where a competent authority exercises the discretion laid down in paragraph 1, it shall on a regular basis and not less than once a year inform the competent authorities of all the other Member States of the use made of paragraph 1 and of the circumstances and arrangements referred to in paragraph 2. Where the subsidiary is in a third country, the competent authorities shall provide the same information to the competent authorities of that third country as well.

Article 9Waiver for credit institutions permanently affiliated to a central body

Competent authorities may waive the application of the requirements set out in Parts Two to Four and Six to Eight in accordance with Article 21 of the Directive 2012/.../EU of the European Parliament and of the Council of ... [on access to the activity of credit institutions and prudential supervision of credit institutions and investment firms].

Chapter 2Prudential consolidation

Section 1Application of requirements on a consolidated basis

Article 10General treatment

1.        Parent institutions in a Member State shall comply, to the extent and in the manner prescribed in Article16, with the obligations laid down in Parts Two to Four and Seven on the basis of their consolidated situation.

2.        Institutions controlled by a parent financial holding company or a parent mixed financial holding company in a Member State shall comply, to the extent and in the manner prescribed in Article 16, with the obligations laid down in Parts Two to Four and Seven on the basis of the consolidated situation of that financial holding company or mixed financial holding company.

Where more than one institution is controlled by a parent financial holding company or by a parent mixed financial holding company in a Member State, the first subparagraph shall apply only to the institution to which supervision on a consolidated basis applies in accordance with Article 106 of Directive [inserted by OP].

3.        EU parent institutions and institutions controlled by an EU parent financial holding company and institutions controlled by an EU parent mixed financial holding company shall comply with the obligations laid down in Articles 401 and 403 on the basis of the consolidated situation of that parent institution, financial holding company or mixed financial holding company, if the group comprises one or more credit institutions or investment firms that are authorised to provide the investment services listed in points 3 and 6 of Section A of Annex I to Directive 2004/39/EC.

Article 11Financial holding company or mixed financial holding company with both a subsidiary credit institution

and a subsidiary investment firm

Where a financial holding company or a mixed financial holding company has at least one credit institution and one investment firm as subsidiaries, the requirements that apply on the basis of the consolidated situation of the financial holding company or of the mixed financial holding company shall apply to the credit institution.

Article 12Application of disclosure requirements on a consolidated basis

1.        EU parent institutions shall comply with the obligations laid down in Part Eight on the basis of their consolidated situation.

Significant subsidiaries of EU parent institutions shall disclose the information specified in Article 424, 425, 435 and 436, on an individual or sub-consolidated basis.

2.        Institutions controlled by an EU parent financial holding company or EU parent mixed financial holding company shall comply with the obligations laid down in Part Eight on the basis of the consolidated situation of that financial holding company or mixed financial holding company.

Significant subsidiaries of EU parent financial holding companies or EU parent mixed holding companies shall disclose the information specified in Article 424 and 425, 435 and 436 on an individual or sub-consolidated basis.

3.        Paragraphs 1 and 2 shall not apply in full or in part to EU parent institutions, institutions controlled by an EU parent financial holding company or EU parent mixed financial holding company, to the extent that they are included within equivalent disclosures provided on a consolidated basis by a parent undertaking established in a third country.

4.        Where Article 9 is applied, the central body referred to in that Article shall comply with the requirements of Part Eight on the basis of the consolidated situation of the central body. Article 16(1) shall apply to the central body and the affiliated institutions shall be treated as the subsidiaries of the central body.

Article 13Application of requirements of Part Five on a consolidated basis

1.        Parent undertakings and their subsidiaries subject to this Regulation shall meet the obligations laid down in Part Five on a consolidated or sub-consolidated basis, to ensure that their arrangements, processes and mechanisms required by those provisions are consistent and well-integrated and that any data and information relevant to the purpose of supervision can be produced. In particular, they shall ensure that subsidiaries not subject to this Regulation implement arrangements, processes and mechanisms to ensure compliance with those provisions.

2.        Institutions shall apply an additional risk weight in accordance with Article 396 when applying Article 87 on a consolidated or sub-consolidated basis if the requirements of Articles 394 or 395 are breached at the level of an entity established in a third country included in the consolidation in accordance with Article 16 if the breach is material in relation to the overall risk profile of the group.

3.        Obligations resulting from Part Five concerning subsidiaries, not themselves subject to this Regulation, shall not apply if the EU parent institution or institutions controlled by an EU parent financial holding company or EU parent mixed financial holding company, can demonstrate to the competent authorities that the application of Part Five is unlawful under the laws of the third country where the subsidiary is established.

Article 14Derogation to the application of own funds requirements on a consolidated basis for groups of investment firms

1.        The competent authorities that supervise groups on a consolidated basis may waive, on a case-by-case basis, the application of own funds requirements on a consolidated basis provided that the following conditions exist:

(a)       each EU investment firm in such a group uses the alternative calculation of total risk exposure amount referred to in Article 90(2);

(b)       all investment firms in such a group fall within the categories in Articles 90(1) and 91(1);

(c)       each EU investment firm in such a group meets the requirements imposed in Article 90 on an individual basis and at the same time deducts from its Common Equity Tier 1 items any contingent liability in favour of investment firms, financial institutions, asset management companies and ancillary services undertakings, which would otherwise be consolidated;

(d)       any financial holding company which is the parent financial holding company in a Member State of any investment firm in such a group holds, at least as much capital, defined here as the sum of the following:

(i)        the items referred to in Articles 24(1), 48(1) and 59(1);

(ii)       as the sum of the full book value of any holdings, subordinated claims and instruments referred to in Articles 33(1)(h) and (i), 53(1)(c) and (d), and 63(1)(c) and (d) in investment firms, financial institutions, asset management companies and ancillary services undertakings which would otherwise be consolidated; and

(iii)      the total amount of any contingent liability in favour of investment firms, financial institutions, asset management companies and ancillary services undertakings which would otherwise be consolidated;

(e)       the group does not comprise credit institutions.

Where the criteria in the first subparagraph are met, each EU investment firm shall have in place systems to monitor and control the sources of capital and funding of all financial holding companies, investment firms, financial institutions, asset management companies and ancillary services undertakings within the group.

2.        The competent authorities may also apply the waiver if the financial holding companies holds a lower amount of own funds than the amount calculated under paragraph 1(d), but no lower than the sum of the own funds requirements imposed on an individual basis to investment firms, financial institutions, asset management companies and ancillary services undertakings which would otherwise be consolidated and the total amount of any contingent liability in favour of investment firms, financial institutions, asset management companies and ancillary services undertakings which would otherwise be consolidated. For the purposes of this paragraph, the own funds requirement for investment undertakings of third countries, financial institutions, asset management companies and ancillary services undertakings is a notional own funds requirement.

Article 15Supervision of investment firms waived from the application of own funds requirements on a consolidated basis

Investment firms in a group which has been granted the waiver provided for in Article 14 shall notify the competent authorities of the risks which could undermine their financial positions, including those associated with the composition and sources of their own funds, internal capital and funding.

Where the competent authorities waive the obligation of supervision on a consolidated basis as provided for in Article 14, they shall take other appropriate measures to monitor the risks, namely large exposures, of the whole group, including any undertakings not located in a Member State.

Where the competent authorities waive the application of own funds requirements on a consolidated basis as provided for in Article14, the requirements of Part Eight shall apply on an individual basis.

Section 2Methods for prudential consolidation

Article 16Methods for prudential consolidation

1.        The institutions that are required to comply with the requirements referred to in Section 1 on the basis of their consolidated situation shall carry out a full consolidation of all institutions and financial institutions that are its subsidiaries or, where relevant, the subsidiaries of the same parent financial holding company or mixed parent financial holding company. Paragraphs 2 to 8 of this Article shall not apply where Articles 401 and 403 apply on the basis of an institution's consolidated situation.

2.        However, the competent authorities may on a case-by-case basis permit proportional consolidation according to the share of capital that the parent undertaking holds in the subsidiary. Proportional consolidation may only be permitted where all of the following conditions are fulfilled:

(a)       the liability of the parent undertaking is limited to the share of capital that the parent undertaking holds in the subsidiary in view of the liability of the other shareholders or members;

(b)       the solvency of those other shareholder or members is satisfactory;

(c)       the liability of the other shareholders and members is clearly established in a legally binding way.

3.        Where undertakings are linked by a relationship within the meaning of Article 12(1) of Directive 83/349/EEC, the competent authorities shall determine how consolidation is to be carried out.

4.        The competent authorities responsible for supervision on a consolidated basis shall require the proportional consolidation according to the share of capital held of participations in institutions and financial institutions managed by an undertaking included in the consolidation together with one or more undertakings not included in the consolidation, where those undertakings' liability is limited to the share of the capital they hold.

5.        In the case of participations or capital ties other than those referred to in paragraphs 1 and 2, the competent authorities shall determine whether and how consolidation is to be carried out. In particular, they may permit or require use of the equity method. That method shall not, however, constitute inclusion of the undertakings concerned in supervision on a consolidated basis.

6.        The competent authorities shall determine whether and how consolidation is to be carried out in the following cases:

(a)       where, in the opinion of the competent authorities, an institution exercises a significant influence over one or more institutions or financial institutions, but without holding a participation or other capital ties in these institutions; and

(b)       where two or more institutions or financial institutions are placed under single management other than pursuant to a contract or clauses of their memoranda or Articles of association.

In particular, the competent authorities may permit, or require use of, the method provided for in Article 12 of Directive 83/349/EEC. That method shall not, however, constitute inclusion of the undertakings concerned in consolidated supervision.

7.        EBA shall develop draft regulatory technical standards to specify conditions according to which consolidation shall be carried out in the cases referred to in paragraphs 2 to 6 of this Article.

EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2016.

Powers are conferred on the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

8.        Where consolidated supervision is required pursuant to Article 106 of Directive [inserted by OP], ancillary services undertakings and asset management companies as defined in Directive 2002/87/EC shall be included in consolidations in the cases, and in accordance with the methods, laid down in this Article.

Section 3Scope of prudential consolidation

Article 17Entities excluded from the scope of prudential consolidation

1.        An institution, financial institution or an ancillary services undertaking which is a subsidiary or an undertaking in which a participation is held, need not to be included in the consolidation where the total amount of assets and off-balance sheet items of the undertaking concerned is less than the smaller of the following two amounts:

(a)       EUR 10 million;

(b)       1 % of the total amount of assets and off-balance sheet items of the parent undertaking or the undertaking that holds the participation.

2.        The competent authorities responsible for exercising supervision on a consolidated basis pursuant to Article 106 of Directive [inserted by OP] may on a case-by-case basis decide in the following cases that an institution, financial institution or ancillary services undertaking which is a subsidiary or in which a participation is held need not be included in the consolidation:

(a)       where the undertaking concerned is situated in a third country where there are legal impediments to the transfer of the necessary information;

(b)       where the undertaking concerned is of negligible interest only with respect to the objectives of monitoring credit institutions;

(c)       where, in the opinion of the competent authorities responsible for exercising supervision on a consolidated basis, the consolidation of the financial situation of the undertaking concerned would be inappropriate or misleading as far as the objectives of the supervision of credit institutions are concerned.

3.        Where, in the cases referred to in paragraph 1 and point (b) of paragraph 2, several undertakings meet the above criteria set out therein, they shall nevertheless be included in the consolidation where collectively they are of non-negligible interest with respect to the specified objectives.

Article 18Joint decisions on prudential requirements

1.        The competent authorities shall work together, in full consultationin the case of applications for the permissions referred to in Articles 138(1), 146(9), 301(2), 277, 352 of Regulation [inserted by OP], respectively, submitted by an EU parent institution and its subsidiaries, or jointly by the subsidiaries of an EU parent financial holding company or EU parent mixed financial holding company, to decide whether or not to grant the permission sought and to determine the terms and conditions, if any, to which such permission should be subject.

Applications shall be submitted only to the consolidating supervisor.

The application referred to in Article 301(2), shall include a description of the methodology used for allocating operational risk capital between the different entities of the group. The application shall indicate whether and how diversification effects are intended to be factored in the risk measurement system.

2.        The competent authorities shall do everything within their power to reach a joint decision within six months on the application referred to in paragraph 1(a);

This joint decision shall be set out in a document containing the fully reasoned decision which shall be provided to the applicant by the competent authority referred to in paragraph 1.

3.        The period referred to in paragraph 2 shall begin on the date of receipt of the complete application referred to in paragraph 1(a) by the consolidating supervisor. The consolidating supervisor shall forward the complete application to the other competent authorities without delay;

4.        In the absence of a joint decision between the competent authorities within six months, the consolidating supervisor shall make its own decision on paragraph 1(a)▌The decision shall be set out in a document containing the fully reasoned decision and shall take into account the views and reservations of the other competent authorities expressed during the six months period.

The decision shall be provided to the EU parent institution, the EU parent financial holding company or to the EU parent mixed financial holding company and the other competent authorities by the consolidating supervisor.

If, at the end of the six month period, any of the competent authorities concerned has referred the matter to EBA in accordance with Article 19 of Regulation (EU) No 1093/2010, the consolidating supervisor shall defer its decision and await any decision that EBA may take in accordance with Article 19(3) of that Regulation on its decision, and shall take its decision in conformity with the decision of EBA. The six-month period shall be deemed the conciliation period within the meaning of that Regulation. EBA shall take its decision within 1 month. The matter shall not be referred to EBA after the end of the six month period or after a joint decision has been reached.

5.        Where an EU parent institution and its subsidiaries, the subsidiaries of an EU parent financial holding company or an EU parent mixed financial holding company use an Advanced Measurement Approach referred to in Article 301(2) or an IRB Approach referred to in Article 138 on a unified basis, the competent authorities shall allow the qualifying criteria set out in Article 310 and 311 or in Part Three, Chapter 3, Section 6 respectively to be met by the parent and its subsidiaries considered together, in a way that is consistent with the structure of the group and its risk management systems, processes and methodologies.

6.        The decisions referred to in paragraphs 2 and 4 shall be binding on the competent authorities in the Member States concerned.

Article 19Joint decisions on the level of application of liquidity requirements

1.        Upon application of an EU parent institution or an EU parent financial holding company or EU parent mixed financial holding company, the consolidating supervisor and the competent authorities responsible for the supervision of subsidiaries of an EU parent institution or an EU parent financial holding company or EU parent mixed financial holding company in a Member State shall do everything within their power to reach a joint decision whether the conditions of (a) to (db) of Article 7(1) are met.

This joint decision shall be reached within nine months after submission by the consolidating supervisor of a report identifying single liquidity sub-groups on the basis of the criteria laid down in Article 7. In the event of disagreement during the nine months period, the consolidating supervisor shall consult EBA at the request of any of the other competent authorities concerned. The consolidating supervisor may consult EBA on its own initiative.

The joint decision may also impose constraints on the location and ownership of liquid assets and require minimum amounts of liquid assets to be held by credit institutions that are exempt from the application of Article 401.

The joint decision shall be fully reasoned and state the reasons leading to it. The consolidating supervisor shall submit the decision including the reasons to the parent institution of the liquidity subgroup.

2.        In the absence of a joint decision within nine months, each competent authority responsible for supervision on an individual basis shall take its own decision.

However, any competent authority may during the nine months period refer to EBA the question whether the conditions of (a) to (d) of Article 7(1) are met and request its assistance in accordance with Article 19 of Regulation No (EC) 1093/2010. If at the end of the nine month period any of the competent authorities concerned has done so, all the competent authorities involved shall defer their decisions pending a decision by EBA. Such decision shall be taken within three months of the request. Once EBA has taken its decision, the competent authorities shall take their decisions concerning the conditions (a) to (d) of Article 7(1), in conformity with the decision of EBA. The matter shall not be referred to EBA after the end of the six month period or after a joint decision has been reached.

The joint decision referred to in paragraph 1 and the decision referred to in the previous subparagraph shall be binding in accordance with Article 19(3) of Regulation No (EC) 1093/2010.

3.        Any relevant competent authority may also during the nine months period consult EBA on the question whether the conditions of (a) to (d) of Article 7(2) are met. In this case, EBA may carry out its non-binding mediation in accordance with Article 31(c) of Regulation No (EC) 1093/2010. In such case, all the competent authorities involved shall defer their decisions pending the conclusion of the non-binding mediation. Where, during the mediation, no agreement has been reached by the competent authorities within 3 months, each competent authority responsible for supervision on an individual basis shall take its own decision.

4.        EBA shall develop draft implementing technical standards to specify the joint decision process referred to in this Article, with regard to the application of Article 7, with a view to facilitating joint decisions.

EBA shall submit those draft implementing technical standards to the Commission by 31 December 2016.

Powers are conferred on the Commission to adopt the implementing technical standards referred to in the first subparagraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

Article 20Sub-consolidation in cases of entities in third countries

Subsidiary institutions shall apply the requirements laid down in Part Three, Article 84 and Part V on the basis of their sub-consolidated situation if those institutions, or the parent undertaking where it is a financial holding company or mixed financial holding company, have an institution or a financial institution or an asset management company as defined in Article 2(5) of Directive 2002/87/EC as a subsidiary in a third country, or hold a participation in such an undertaking.

Article 21Undertakings in third countries

For the purposes of applying supervision on a consolidated basis in accordance with this Chapter, the terms ‘investment firm,’ 'credit institution', financial institution, and 'institution' shall also apply to undertakings established in third countries, which, were they established in the Union, would fulfil the definitions of those terms in Article 16.

PART TWO

OWN FUNDS

Title I

Definitions specific to own funds

Article 22Definitions

(1)       ‘accumulated other comprehensive income’ has the same meaning as under International Accounting Standard (IAS) 1, as applicable under Regulation (EC) No 1606/2002;

(2)       'ancillary own-fund insurance items' means own funds within the meaning of Article 89 of Directive 2009/138/EC;

(3)       ‘applicable accounting standard’ means the relevant accounting standard, applicable under Directive 86/635/EEC or under Regulation (EC) No 1606/2002, that applies to the institution;

(4)       'basic own funds' means basic own funds within the meaning of Article 88 of Directive 2009/138/EC;

(5)       'Tier 1 own-fund insurance items' means basic own-fund items of undertakings subject to the requirements of Directive 2009/138/EC where those items are classified in Tier 1 within the meaning of Directive 2009/138/EC in accordance with paragraph 1 of Article 94 of that Directive;

(6)       ‘additional Tier 1 own-fund insurance items' means basic own-fund items of undertakings subject to the requirements of Directive 2009/138/EC the items are classified as Tier 1 capital within the meaning of Directive 2009/138/EC in accordance with paragraph 1 of Article 94 of that Directive and the inclusion of those items is limited by the delegated acts adopted in accordance with Article 99 of that Directive;

(7)       'Tier 2 own-fund insurance items' means basic own-fund items of undertakings subject to the requirements of Directive 2009/138/EC where those items are classified as Tier 2 within the meaning of Directive 2009/138/EC in accordance with paragraph 2 of Article 94 of that Directive;

(8)       'Tier 3 own-fund insurance items' means basic own-fund insurance items of undertakings subject to the requirements of Directive 2009/138/EC where those items are classified as Tier 3 within the meaning of Directive 2009/138/EC in accordance with paragraph 3 of Article 94 of that Directive;

(9)       'deferred tax assets' has the same meaning as under the applicable accounting standard;

(10)     ‘deferred tax assets that rely on future profitability’ means deferred tax assets the future value of which may be realised only in the event the institution generates taxable profit in the future;

(11)     ‘deferred tax liabilities’ has the same meaning as under the applicable accounting standard;

(12)     ‘defined benefit pension fund assets’ means the assets of a defined pension fund or plan, as applicable, calculated after they have been reduced by the amount of obligations under the same fund or plan;

(13)     ‘distributions’ means the payment of dividends or interest in any form;

(14)     'financial undertaking' has the same meaning as under points (b) and (d) of Article 13(25) of Directive 2009/138/EC;

(15)     ‘funds for general banking risk’ has the same meaning as under Article 38 of Directive 86/635/EEC;

(16)     ‘goodwill’ has the same meaning as under the applicable accounting standard;

(17)     ‘indirect holding’ means an investment of an institution in a third party with an exposure to a capital instrument issued by a relevant entity, where that investment is made for the purposes of incurring an exposure to that capital instrument, or an exposure to an instrument by any other means where, in the event the instrument lost value, the loss arising from the exposure would not be materially different from the loss that would be incurred by the institution from a direct holding of the instrument;

(18)     ‘intangible assets’ has the same meaning as under the applicable accounting standard;

(19)     'mixed activity insurance holding company' has the same meaning as under point (g) of Article 212(1) of Directive 2009/138/EC;

(20)     ‘operating entity’ means a functioning entity established with the purpose of earning a profit in its own right;

(21)     ‘other capital instruments’ means capital instruments issued by relevant entities that do not qualify as Common Equity Tier 1, Additional Tier 1 or Tier 2 instruments or Tier 1 insurance own-fund items, additional Tier 1 own-fund insurance items, Tier 2 own-fund insurance items or Tier 3 own-fun insurance items;

(22)     ‘other reserves’ means reserves within the meaning of the applicable accounting standard that are required to be disclosed under that applicable accounting standard, excluding any amounts already included in accumulated other comprehensive income or retained earnings;

(23)     ‘own funds’ means the sum of Tier 1 capital and Tier 2 capital;

(24)     ‘own funds instruments’ means capital instruments issued by the institution that qualify as Common Equity Tier 1, Additional Tier 1 or Tier 2 instruments;

(25)     ‘profit’ has the same meaning as under the applicable accounting standard;

(26)      ‘reciprocal cross holding’ means a holding by an institution of the own funds instruments or other capital instruments issued by relevant entities where those entities also hold own funds instruments issued by the institution;

(27)     ‘relevant entity’ means any of the following:

(a)       another institution;

(b)       a financial institution;

(c)       an insurance undertaking;

(d)       a third country insurance undertaking;

(e)       a reinsurance undertaking;

(f)        a third country reinsurance undertaking;

(g)       a financial undertaking;

(h)       a mixed activity insurance holding company;

(i)        an undertaking excluded from the scope of Directive 2009/138/EC in accordance with the requirements laid down in Article 4 of that Directive;

(28)     ‘retained earnings’ means profits and losses brought forward as a result of the final application of profit or loss under the applicable accounting standards;

(29)     ‘share premium account’ has the same meaning as under the applicable accounting standard;

(30)     ‘temporary differences' has the same meaning as under the applicable accounting standard.

(30a)   ‘cross-guarantee scheme' means:

(a)       the institutions fall within the same institutional protection scheme as referred to in Article 108(7);

(b)       the institutions are fully consolidated according to Article 1(1)(b), (c), (d) or (2) of the Seventh Council Directive 83/349/EEC on consolidated accounts(19) and are included in the supervision on a consolidated basis of the institution which is the parent institution in a Member State according to Chapter 2 of Title II of Part One and subject to an own-funds requirement;

(c)       the parent institution in a Member State and the subsidiaries are established in the same Member State and are subject to authorisation and supervision by the same competent authority;

(d)       the parent institution in a Member State and the subsidiaries have entered into a contractual or statutory liability arrangement which protects those institutions and in particular ensures their liquidity and solvency, in order to avoid bankruptcy in the case that it becomes necessary;

(e)       arrangements are in place to ensure the prompt provision of financial means in terms of capital and liquidity if required under the contractual or statutory liability arrangement referred to in point (d);

(f)       the adequacy of the arrangements referred to in points (c) and (d) is monitored at regular basis by the competent authority;

(g)       the minimum period of notice for a voluntary exit of a subsidiary from the liability arrangement is 10 years;

(h)      the competent authority is empowered to prohibit a voluntary exit of a subsidiary from the liability arrangement.

Title II

Elements of own funds

Chapter 1Tier 1 capital

Article 23Tier 1 capital

The Tier 1 capital of an institution consists of the sum of the Common Equity Tier 1 capital and Additional Tier 1 capital of the institution.

Chapter 2Common Equity Tier 1 capital

Section 1Common Equity Tier 1 items and instruments

Article 24Common Equity Tier 1 items

1.        Common Equity Tier 1 items of institutions consist of the following:

(a)       capital instruments, provided the conditions laid down in Article 26 or in Article 27 are met;

(b)       share premium accounts related to the instruments referred to in point (a);

(c)       retained earnings;

(d)       accumulated other comprehensive income;

(e)       other reserves;

(f)        funds for general banking risk.

2.        For the purposes of point (c) of paragraph 1, institutions may include interim or year-end profits in Common Equity Tier 1 capital before the institution has taken a formal decision confirming the final profit or loss of the institution for the year only with the prior consent of the competent authority. The competent authority shall consent where the following conditions are met:

(a)       those profits have been reviewed by persons independent of the institution that are responsible for the auditing of the accounts of that institution;

(b)       the institution has demonstrated to the satisfaction of the competent authority that any foreseeable charge or dividend has been deducted from the amount of those profits.

A review of the interim or year-end profits of the institution shall provide an adequate level of assurance that those profits have been evaluated in accordance with the principles set out in the applicable accounting standard.

3.        EBA shall develop draft regulatory technical standards to specify the meaning of foreseeable when determining whether any foreseeable charge or dividend has been deducted.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

4.        EBA shall evaluate and then establish, maintain and publish a list of the forms of capital instrument in each Member State that meet the requirements of this Regulation to qualify as Common Equity Tier 1 instruments. EBA shall establish and publish this list by 1 January 2013.

Article 25Capital instruments of mutuals, cooperative societies,

saving banks or similar institutions in Common Equity Tier 1 items

1.        Common Equity Tier 1 items shall include any capital instrument issued by an institution under its statutory terms provided the following conditions are met:

(a)       the institution is of a type that is defined under applicable national law and which competent authorities consider to qualify as a mutual, cooperative society, saving banks or a similar institution for the purposes of this Part; or (ii) the institution is wholly owned by an institution as described in point (i), it has approval from the competent authorities to make use of the provisions in this Article and provided that, and for as long as, 100% of the ordinary shares in issue in the institution are held directly or indirectly by an institution described in point (i);

(b)       the conditions laid down in Articles 26 and the amending conditions in Article 27 are met;

(c)       the instrument does not possess features that could cause the condition of the institution to be weakened as a going concern during periods of market stress.

2.        EBA shall develop a draft regulatory technical standard with a view to encouraging the development of a robust and diverse banking sector in the EU with a variety of different liability structures to specify the conditions in accordance with which competent authorities may determine that a type of undertaking recognised under applicable national law qualifies as a mutual, cooperative society or similar institution for the purposes of this Part.

           ▌

EBA shall submit that draft regulatory technical standard to the Commission by 1 January 2016.

Power is delegated to the Commission to adopt the regulatory technical standard referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 26Common Equity Tier 1 instruments

1.        Capital instruments shall qualify as Common Equity Tier 1 instruments only if all the following conditions are met:

(a)       the instruments are issued directly by the institution with the prior approval of the owners of the institution or, where permitted under applicable national law, the management body of the institution;

(b)       the instruments are paid up and their purchase is not funded directly or indirectly by the institution;

(c)       the instruments meet all the following conditions as regards their classification:

(i)        they qualify as capital within the meaning of Article 22 of Directive 86/635/EEC;

(ii)       they are classified as equity within the meaning of the applicable accounting standard;

(iii)      they are classified as equity capital for the purposes of determining balance sheet insolvency, where applicable under national insolvency law;

(d)       the instruments are clearly and separately disclosed on the balance sheet in the financial statements of the institution;

(e)       the instruments are perpetual;

(f)        the principal amount of the instruments may not be reduced or repaid, except in either of the following cases:

(i)        the liquidation of the institution or administration by a resolution authority;

(ii)       discretionary repurchases of the instruments or other discretionary means of reducing capital, where the institution has received the prior consent of the competent authority in accordance with Article72;

(g)       the provisions governing the instruments do not indicate expressly or implicitly that the principal amount of the instruments would or might be reduced or repaid other than in the liquidation of the institution or administration by a resolution authority, and the institution does not otherwise provide such an indication prior to or at issuance of the instruments, except in the case of instruments referred to in Article 25 where the refusal by the institution to redeem such instruments is prohibited under applicable national law;

(h)       the instruments meet the following conditions as regards distributions:

(i)        there are no preferential distribution treatment regarding the order of distribution payments, including in relation to other Common Equity Tier 1 instruments, and the terms governing the instruments do not provide preferential rights to payment of distributions;

(ii)       distributions to holders of the instruments may be paid only out of distributable items;

(iii)      the conditions governing the instruments do not include a cap or other restriction on the maximum level of distributions, except in the case of the instruments referred to in Article 25 and a multiple of the dividend paid on ordinary shares or instruments referred to in Article 25 does not constitute preferential distribution, a cap or other restrictions on the maximum level of distributions; however, multiples of dividends which result in a disproportionate drag on capital shall not be allowed;

(iv)      the level of distributions is not determined on the basis of the amount for which the instruments were purchased at issuance, and is not otherwise determined on this basis, except in the case of the instruments referred to in Article 25;

(v)       the conditions governing the instruments do not include any obligation for the institution to make distributions to their holders and the institution is not otherwise subject to such an obligation;

(vi)      non-payment of distributions does not constitute an event of default of the institution;

(i)        compared to all the capital instruments issued by the institution, the instruments absorb the first and proportionately greatest share of losses as they occur, and each instrument absorbs losses to the same degree as all other Common Equity Tier 1 instruments;

(j)        the instruments rank below all other claims in the event of insolvency or liquidation of the institution;

(k)       the instruments entitle their owners to a claim on the residual assets of the institution, which, in the event of its liquidation and after the payment of all senior claims, is proportionate to the amount of such instruments issued and is not fixed or subject to a cap, except in the case of the capital instruments referred to in Article 25;

(l)        the instruments are not secured, or guaranteed by any of the following:

(i)        the institution or its subsidiaries;

(ii)       the parent institution or its subsidiaries;

(iii)      the parent financial holding company or its subsidiaries;

(iv)      the mixed activity holding company or its subsidiaries;

(v)       the mixed financial holding company and its subsidiaries;

(vi)      any undertaking that has close links with the entities referred to in points (i) to (v);

(m)      the instruments are not subject to any arrangement, contractual or otherwise, that enhances the seniority of claims under the instruments in insolvency or liquidation.

The condition set out in point (j) of the first subparagraph shall be deemed to be met, notwithstanding the instrument ranking pari passu with capital referred to in Article 463(3), for instruments which have been issued before 20 July 2011 and are included in Additional Tier 1 or Tier 2 in accordance with this Regulation.

2.        The conditions laid down in point (i) of paragraph 1 shall be met notwithstanding a write down on a permanent basis of the principal amount of Additional Tier 1 instruments.

3.        EBA shall develop draft regulatory technical standards to specify the following:

(a)       the applicable forms and nature of indirect funding of capital instruments;

(b)       the meaning of distributable items for the purposes of determining the amount available to be distributed to the holders of own funds instruments of an institution.

(ba)     Whether and when multiple distributions would constitute a disproportionate drag on Common Equity Tier 1 capital;

(bb)     the meaning of preferential distributions;

(bc)     the definition and implications of 'absorbing the first and proportionately greatest share of losses as they occur';

(bd)     the nature of a cap or other restriction on the maximum level of distributable items.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 27Capital instruments issued by mutuals, cooperative societies,

savings banks and similar institutions

1.        Capital instruments issued by mutuals, cooperative societies, savings banks and similar institutions shall qualify as Common Equity Tier 1 instruments only if the conditions laid down in Article 26 and amended by this Article are met.

2.        The following conditions shall be met as regards redemption of the capital instruments:

(a)       except where prohibited under applicable national law, the institution shall be able to refuse the redemption of the instruments;

(b)       where the refusal by the institution of the redemption of instruments is prohibited under applicable national law, the provisions governing the instruments shall give the institution the ability to limit their redemption;

(c)       refusal to redeem the instruments, or the limitation of the redemption of the instruments where applicable, may not constitute an event of default of the institution.

3.        The capital instruments may include a cap or restriction on the maximum level of distributions only where that cap or restriction is set out under applicable national law or the statute of the institution.

4.        Where the capital instruments provide the owner with rights to the reserves of the institution in the event of insolvency or liquidation that are limited to the nominal value of the instruments, such a limitation shall apply to the same degree to the holders of all other Common Equity Tier 1 instruments issued by that institution.

The condition laid down in the first sub-paragraph is without prejudice of the possibility for a mutual, cooperative society or a similar institution to recognize within CET1 capital instruments that do not afford voting rights to the holder and that meet both the following conditions:

(a)       the claim of the holders of the non-voting instruments in the insolvency or liquidation of the institution is proportionate to the share of the total Common Equity Tier 1 instruments that those non-voting instruments represent;

(b)       the instruments otherwise qualify as a Common Equity Tier 1 instruments.

5.        Where the capital instruments entitle their owners to a claim on the assets of the institution in the event of its insolvency or liquidation that is fixed or subject to a cap, such a limitation shall apply to the same degree to all holders of all Common Equity Tier 1 instruments issued by the institution.

5a.      Central bodies which carry out the necessary central operations of a network of affiliated institutions referred to in Article 9 may, notwithstanding Article 26(1) (h), pay higher distributions on the Core Equity Tier I instruments referred to in point (c) below than on the Core Equity Tier I instruments referred to in point (a), if the following conditions are met:

a)        according to the by-laws of the central bodies, Core Equity Tier I instruments with preferential voting rights can be issued to ensure that the affiliated undertakings maintain a dominant influence in their central body;

b)        the instruments referred to in point (a) are not traded in a regulated market;

c)        there is no preferential treatment between any other Core Equity Tier 1 instruments issued by the body

6.        EBA shall develop draft regulatory technical standards to specify the nature of the limitations on redemption necessary where the refusal by the institution of the redemption of own funds instruments is prohibited under applicable national law.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 28Consequences of the conditions for Common Equity Tier 1 instruments ceasing to be met

The following shall apply where, in the case of a Common Equity Tier 1 instrument, the conditions laid down in Article 26, and Article 27 where applicable, cease to be met:

(a)       that instrument shall cease to qualify as a Common Equity Tier 1 instrument;

(b)       the share premium accounts that relate to that instrument shall cease to qualify as Common Equity Tier 1 items.

Article 28aCapital instruments used by public authorities in crisis situations

In crisis situations and if deemed necessary for the stability of financial markets Member States may decide to inject capital into individual or a group of credit institutions. Under the particular economic and political conditions of a crisis situation, it may be appropriate for the capital instruments used for this kind of operation only to fulfil most or substantially all of the criteria set out in Articles 26 and 27, including at least Article 26, points (a) to (e) and that the instruments are able to absorb losses in a suitable way.  This shall apply where the instruments are issued between 20 July 2011 and 31 July 2016 and the capital injection complies with the state aid rules.

Upon reasoned request by and in cooperation with the relevant competent authority, EBA shall consider these capital instruments equivalent to Common Equity Tier 1 instruments for the purpose of this Regulation.

Section 2Prudential filters

Article 29Securitised assets

1.        An institution shall exclude from any element of own funds any increase in its equity under the applicable accounting standard that results from securitised assets, including the following:

(a)       such an increase associated with future margin income that results in a gain on sale for the institution;

(b)       where the institution is the originator of a securitisation, net gains that arise from the capitalisation of future income from the securitised assets that provide credit enhancement to positions in the securitisation.

2.        EBA shall develop draft regulatory technical standards to specify further the concept of a gain on sale referred to in point (a) of paragraph 1.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 30Cash flow hedges and changes in the value of own liabilities

Institutions shall not include the following items in any element of own funds:

(a)       the fair value reserves related to gains or losses on cash flow hedges of financial instruments that are not valued at fair value, including projected cash flows;

(b)       gains or losses on liabilities of the institution that are valued at fair value that result from changes in the own credit standing of the institution.

(ba)     unrealised gains or losses on asset items constituting claims on Zone A central governments measured at fair value.

Until the review of the IFRS due to eliminate the available for sale category, EBA shall draft technical standards to specify the conditions according to which point (ba) shall apply.

EBA shall develop draft regulatory technical standards to specify the conditions according to which letter ba) shall apply.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 31Additional value adjustments

1.        Institutions shall apply the requirements of Article 100 to all their assets measured at fair value when calculating the amount of their own funds and shall deduct from Common Equity Tier 1 capital the amount of any additional value adjustments necessary.

2.        EBA shall develop draft regulatory technical standards to specify the conditions according to which the requirements of Article 100 referred shall be applied for the purposes of paragraph 1.

3.        EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2013.

4.        Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 32Unrealised gains and losses measured at fair value

Except in the case of the items referred to in Article 30, institutions shall not make adjustments to remove from their own funds unrealised gains or losses on their assets or liabilities measured at fair value.

Section 3Deductions from Common Equity Tier 1 items, exemptions and alternatives

Sub-section 1Deductions from Common Equity Tier 1 items

Article 33Deductions from Common Equity Tier 1 items

1.        Institutions shall deduct the following from Common Equity Tier 1 items:

(a)       losses for the current financial year;

(b)       intangible assets;

(c)       deferred tax assets that rely on future profitability or whose monetization cannot be considered as certain;

(d)       for institutions calculating risk-weighted exposure amounts using the Internal Ratings Based Approach, negative amounts resulting from the calculation of expected loss amounts laid down in Articles 154 and 155 154;

(e)       defined benefit pension fund assets and adjustments of net pension liabilities of the institution;

(f)        direct and indirect holdings by an institution of own Common Equity Tier 1 instruments, including own Common Equity Tier 1 instruments that an institution is under an actual or contingent obligation to purchase by virtue of an existing contractual obligation;

(g)       holdings of the Common Equity Tier 1 instruments of relevant entities where those entities have a reciprocal cross holding with the institution that the competent authority considers to have been designed to inflate artificially the own funds of the institution;

(h)       the applicable amount of direct and indirect holdings by the institution of Common Equity Tier 1 instruments of relevant entities where the institution does not have a significant investment in those entities;

(i)        the applicable amount of direct and indirect holdings by the institution of the Common Equity Tier 1 instruments of relevant entities where the institution has a significant investment in those entities;

(j)        the amount of items required to be deducted from Additional Tier 1 items pursuant to Article 53 that exceeds the Additional Tier 1 capital of the institution;

(k)       the exposure amount of the following items which qualify for a risk weight of 1 250 %, where the institution deducts that exposure amount from Common Equity Tier 1 capital as an alternative to applying a risk weight of 1 250 %:

(i)        qualifying holdings outside the financial sector;

(ii)       securitisation positions, in accordance with Articles 238(1)(b), 239(1)(b) and 253;

(iii)      free deliveries, in accordance with Article 369(3);

(l)        any tax charge relating to Common Equity Tier 1 items foreseeable at the moment of its calculation, except where the institution suitably adjusts the amount of Common Equity Tier 1 items insofar as such tax charges reduce the amount up to which those items may be applied to cover risks or losses.

2.        EBA shall develop draft regulatory technical standards to specify the following:

(a)       in greater detail, the application of the deductions referred to in points (a), (c), (e) and (l) of paragraph 1;

(b)       the types of capital instrument of financial institutions, third country insurance and reinsurance undertakings, and undertakings excluded from the scope of Directive 2009/138/EC in accordance with Article 4 of that Directive that shall be deducted from the following elements of own funds:

(i)        Common Equity Tier 1 items;

(ii)       Additional Tier 1 items;

(iii)      Tier 2 items.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 34Deduction of intangible assets

Institutions shall determine the intangible assets to be deducted in accordance with the following:

(a)       the amount to be deducted shall be reduced by the amount of associated deferred tax liabilities that would be extinguished if the intangible assets became impaired or were derecognised under the relevant accounting standard;

(b)       the amount to be deducted shall include goodwill included in the valuation of significant investments of the institution.

Article 35Deduction of deferred tax assets that rely on future profitability

1.        Institutions shall determine the amount of deferred tax assets that rely on future profitability that require deduction in accordance with this Article.

2.        Except where the conditions laid down in paragraph 3 are met, the amount of deferred tax assets that rely on future profitability shall be calculated without reducing it by the amount of the associated deferred tax liabilities of the institution.

3.        The amount of deferred tax assets that rely on future profitability may be reduced by the amount of the associated deferred tax liabilities of the institution, provided the following conditions are met:

(a)       the entity has the legally enforceable right to set off current tax assets against current tax liabilities; and;

(b)       the ▌deferred tax assets and the associated deferred tax liabilities relate to income taxes levied by the same taxation authority and on the same taxable entity.

The entity shall, where appropriate, have a legal right to set off a current tax asset against a current tax liability where they relate to income taxes levied by the same tax authority and the tax authority permits the entity to make or receive a single net payment.

4.        Associated deferred tax liabilities of the institution used for the purposes of paragraph 3 may not include deferred tax liabilities that reduce the amount of intangible assets or defined benefit pension fund assets required to be deducted.

5.        The amount of associated deferred tax liabilities referred to in paragraph 4 shall be allocated between the following:

(a)       deferred tax assets that rely on future profitability and arise from temporary differences that are not deducted in accordance with Article 45(1);

(b)       all other deferred tax assets that rely on future profitability.

Institutions shall allocate the associated deferred tax liabilities according to the proportion of deferred tax assets that rely on future profitability that the items referred to in points (a) and (b) represent.

Article 36Deferred tax assets that do not rely on future profitability

1.        Institutions shall apply a risk weight in accordance with Chapter 2 or 3 of Title II of Part Three, as applicable, to deferred tax assets that do not rely on future profitability.

2.        Deferred tax assets that do not rely on future profitability shall be limited to the following:

(a)       overpayments of tax by the institution for the current year;

(b)       current year tax losses of the institution carried back to previous years that give rise to a claim on, or a receivable from, a central government, regional government or local tax authority;

(c)       deferred tax assets arising from temporary differences, where all the following conditions are met:

(i)       they are automatically and mandatorily replaced without delay with a tax credit in the event that the institution reports a loss when the annual financial statements of the institution are formally approved, or in the event of liquidation or insolvency proceedings;

(ii)      an institution shall be able under the applicable national tax law to offset a tax credit referred to in point (i) against any tax liability of the institution or any other undertaking included in the same consolidation as the institution for tax purposes under that law or any other undertaking subject to the supervision on a consolidated basis in accordance with Chapter 2 of Title II of Part One;

where the amount of tax credits referred to in point (ii) exceeds the tax liabilities referred to in that point, any such excess is replaced without delay with a direct claim on the central government of the Member State in which the institution is incorporated.

A deferred tax asset shall not rely on future profitability in so far as it is probable that taxable profits will be available as a result of the reversing of taxable temporary difference (deferred tax liabilities) relating to the same taxation authority and the same taxable entity.

Article 37Deduction of negative amounts resulting from the calculation of expected loss amounts

The amount to be deducted in accordance with point (d) of Article 33(1) shall not be reduced by a rise in the level of deferred tax assets that rely on future profitability, or other additional tax effect, that could occur if provisions were to rise to the level of expected losses referred to in Section 3 of Chapter 3 of Title II.

Article 38Deduction of defined benefit pension fund assets

1.        For the purposes of point (e) of Article 33(1), the amount of defined benefit pension fund assets to be deducted shall be reduced by the following:

(a)       the amount of any associated deferred tax liability which could be extinguished if the assets became impaired or were derecognised under the applicable accounting standard;

(b)       the amount of assets in the defined benefit pension fund which the institution has an unrestricted ability to use, provided the institution has received the prior consent of the competent authority. Those assets used to reduce the amount to be deducted shall receive a risk weight in accordance with Chapter 2 or 3 of Title II of Part Three, as applicable.

2.        EBA shall develop draft regulatory technical standards to specify the criteria according to which a competent authority shall permit an institution to reduce the amount of assets in the defined benefit pension fund as specified in point (b) of paragraph 1. EBA shall also develop draft regulatory technical standards to specify the criteria according to which a competent authority shall permit an institution to reduce the amount of net defined pension liabilities as specified in paragraph 2a.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

2a.      For the purpose of point (e) of Article 33(1):

(a)       Any reported net defined pension liability or net pension asset needs to be adjusted for temporary differences in the actual performance of the plan assets and for changes in the pension liabilities caused by movements in the discount rate. These changes should be allocated according to the average remaining time of services for the employees.

(b)       After prior consent of the competent authority the amount of defined benefit pension liabilities may be adjusted.

Article 39Deduction of holdings of own Common Equity Tier 1 instruments

For the purposes of point (f) of Article 33(1), institutions shall calculate holdings of own Common Equity Tier 1 instruments on the basis of gross long positions subject to the following exceptions:

(a)       institutions may calculate the amount of holdings of own Common Equity Tier 1 instruments in the trading book on the basis of the net long position provided the long and short positions are in the same underlying exposure and the short positions involve no counterparty risk;

(b)       institutions shall determine the amount to be deducted for indirect holdings in the trading book that take the form of holdings of index securities by calculating the underlying exposure to own Common Equity Tier 1 instruments included in the indices;

(c)       institutions may net gross long positions in own Common Equity Tier 1 instruments in the trading book resulting from holdings of index securities against short positions in own Common Equity Tier 1 instruments resulting from short positions in the underlying indices, including where those short positions involve counterparty risk.

Article 40Significant investment in a relevant entity

For the purposes of deduction, a significant investment of an institution in a relevant entity shall arise where any of the following conditions is met:

(a)       the institution owns more than 10 % of the Common Equity Tier 1 instruments issued by that entity;

(b)       the institution has close links with that entity and owns Common Equity Tier 1 instruments issued by that entity;

(c)       the institution owns Common Equity Tier 1 instruments issued by that entity and the entity is not included in consolidation pursuant to Chapter 2 of Title II of Part One but is included in the same accounting consolidation as the institution for the purposes of financial reporting under the applicable accounting standard.

Article 41Deduction of holdings of Common Equity Tier 1 instruments of relevant entities and where an institution has a reciprocal cross holding designed artificially to inflate own funds

Institutions shall make the deductions referred to in points (g), (h) and (i) of Article 33(1) in accordance with the following:

(a)       holdings of Common Equity Tier 1 instruments and other capital instruments of relevant entities shall be calculated on the basis of the gross long positions;

(b)       Tier 1 own-fund insurance items shall be treated as holdings of Common Equity Tier 1 instruments for the purposes of deduction.

Article 42Deduction of holdings of Common Equity Tier 1 instruments of relevant entities

Institutions shall make the deductions required by points (h) and (i) of Article 33(1) in accordance with the following provisions:

(a)       they may calculate holdings in the trading book of the capital instruments of relevant entities on the basis of the net long position in the same underlying exposure provided the maturity of the short position matches the maturity of the long position or has a residual maturity of at least one year;

(b)       they shall determine the amount to be deducted for indirect holdings in the trading book of the capital instruments of relevant entities that take the form of holdings of index securities by calculating the underlying exposure to the capital instruments of the relevant entities in the indices.

Article 43Deduction of holdings where an institution does not have a significant investment in a relevant entity

1.        For the purposes of point (h) of Article 33(1), institutions shall calculate the applicable amount to be deducted by multiplying the amount referred to in point (a) by the factor derived from the calculation referred to in point (b):

(a)       the aggregate amount by which the direct and indirect holdings by the institution of the Common Equity Tier 1, Additional Tier 1 and Tier 2 instruments of relevant entities which exceeds 10% of the Common Equity Tier 1 items of the institution calculated after applying the following to Common Equity Tier 1 items:

(i)        Articles 29 to 32;

(ii)       the deductions referred to in points (a) to (g) and (j) to (l) of Article 33(1), excluding the amount to be deducted for deferred tax assets that rely on future profitability and arise from temporary differences;

(iii)      Articles 41 and 42;

(b)       the amount of direct and indirect holdings by the institution of the Common Equity Tier 1 instruments of relevant entities divided by the aggregate amount of direct and indirect holdings by the institution of the own funds instruments of those relevant entities.

2.        Institutions shall exclude underwriting positions held for 5 working days or fewer from the amount referred to in point (a) of paragraph 1 and from the calculation of the factor referred to in point (b) of paragraph 1.

3.        Institutions shall determine the portion of holdings of Common Equity Tier 1 instruments that is deducted pursuant to paragraph 1 by dividing the amount specified in point (a) by the amount specified in point (b):

(a)       the amount of holdings required to be deducted pursuant to paragraph 1;

(b)       the aggregate amount of direct and indirect holdings by the institution of the own funds instruments of relevant entities in which the institution does not have a significant investment.

4.        The amount of holdings referred to in point (h) of Article 33(1) that is equal to or less than 10 % of the Common Equity Tier 1 items of the institution after applying the provisions laid down in points (a)(i) to (iii) of paragraph 1 shall not be deducted and shall be risk weighted at 100% or be subject to the applicable risk weights in accordance with Chapter 3 of Title II of Part Three and the requirements laid down in Title IV of Part Three, as applicable.

5.        Institutions shall determine the portion of holdings of own funds instruments that is risk weighted by dividing the amount specified in point (a) by the amount specified in point (b):

(a)       the amount of holdings required to be risk weighted pursuant to paragraph 4;

(b)       aggregate amount of direct and indirect holdings by the institution of the own funds instruments of relevant entities in which the institution does not have a significant investment.

Article 44Deduction of holdings of Common Equity Tier 1 instruments where an institution has a significant investment in a relevant entity

For the purposes of point (i) of Article 33(1), the applicable amount to be deducted from Common Equity Tier 1 items shall exclude underwriting positions held for 5 working days or fewer and shall be determined in accordance with Articles 41 and 42 and Sub-Section 2.

Sub-section 2Exemptions from and alternatives to deduction from Common Equity Tier 1 items

Article 45

Threshold exemptions from deduction from Common Equity Tier 1 items

1.        In making the deductions required pursuant to points (c) and (i) of Article 33(1), institutions shall not deduct the items listed in points (a) and (b) which in aggregate are equal to or less than 15 % of Common Equity Tier 1 capital are exempt from deduction:

(a)       deferred tax assets that are dependent on future profitability and arise from temporary differences, and in aggregate are equal to or less than 10 % of the Common Equity Tier 1 items of the institution calculated after applying the following:

(i)        Articles 29 to 32;

(ii)       points (a) to (h) and (j) to (l) of Article 33(1), excluding deferred tax assets that rely on future profitability and arise from temporary differences.

(b)       where an institution has a significant investment in a relevant entity, the direct and indirect holdings of that institution of the Common Equity Tier 1 instruments of those entities that in aggregate are equal to or less than 10 % of the Common Equity Tier 1 items of the institution calculated after applying the following:

(i)        Article 29 to 32;

(ii)       points (a) to (h) and (j) to (l) of Article 33(1), excluding deferred tax assets that rely on future profitability and arise from temporary differences.

1a.      Without prejudice to paragraph 1 above and subject to the provision of the present Section 3, institutions shall deduct holdings in the Common Equity Tier 1 instruments of insurance undertakings, reinsurance undertakings and insurance holding companies in which the institution has an investment, whether significant or not, where the following conditions are met:

(a)       the shares of such undertakings are not listed in a European regulated market;

(b)       such entities do not act according to a low financial risk insurance business model;

(c)       the institution owns more than 20% of the voting rights or capital of that undertaking.

Notwithstanding the foregoing, Member States competent authorities retain the power to qualify such entities as relevant if they consider not adequate the assessment on the level of risk controls and financial analysis procedures adopted by the institution in order to supervise the investment in the undertaking.

2.        Items that are not deducted pursuant to paragraph 1 and 1a shall be risk weighted at 250 % and subject to the requirements of Title IV of Part Three, as applicable.

Article 46

Requirement for deduction where consolidation, Article 108 (7) or supplementary supervision are applied

1.        For the purposes of calculating own funds on a stand-alone basis, a subconsolidated basis and a consolidated basis, where the competent authorities require institutions to apply methods 1 or 2 of Annex I to Directive 2002/87/EC, the deduction of the holdings of own funds instruments of a relevant entity in which the parent institution, parent financial holding company or parent mixed financial holding company or institution has a significant investment is not required, provided that the conditions laid down in points (a) to (e) are met:

(a)       the relevant entity is an insurance undertaking, a re-insurance undertaking or an insurance holding company;

(b)       that insurance undertaking, re-insurance undertaking or insurance holding company is included in the same supplementary supervision under Directive 2002/87/EC as the parent institution, parent financial holding company or parent mixed financial holding company or institution that has the holding;

(c)       where an institution uses method 1 (accounting consolidation[...]), it has received the prior [...]permission of the competent [...]authorities;

(d)       prior to granting the permission referred to in point (c), and on a continuing basis, the competent authorities are satisfied that the level of integrated management, risk management and internal control regarding the entities that would be included in the scope of consolidation under method 1 is adequate[...];

(e)       the parent entity is one of the following:

(i)       the parent credit institution;

(ii)      the parent financial holding company;

(iii)     the parent mixed financial holding company;

(iv)      the institution;

(v)       a subsidiary of one of the entities referred to in points (i) to (iv) that is included in the scope of consolidation pursuant to Chapter 2 of Title II of Part One.

The method chosen shall be applied in a consistent manner over time.

1a.      Without prejudice to the provisions of this Section, institutions shall not deduct holdings in the Common Equity Tier 1, instruments of insurance undertakings, reinsurance undertakings and insurance holding companies in which the institution has an investment, whether significant or not, where the following conditions are met:

(a)       the shares of such undertakings are listed in a European regulated market;

(b)       the entities act according to a traditional insurance business model;

(c)       the institution does not own more than 15 % of the voting rights or capital of that undertaking;

(d)       following assessment by the competent authority, the competent authority is satisfied of the level of risk controls and financial analysis procedures specifically adopted by the institution in order to supervise the investment in the undertaking.

With reference to items that are not deducted pursuant to paragraph 1 as an alternative to the deduction of holdings of an institution in the Common Equity Tier 1 instruments of insurance undertakings, reinsurance undertakings and insurance holding companies in which the institution has a significant investment, competent authorities may allow institutions to apply methods 1, 2 or 3 of Annex I to Directive 2002/87/EC. The institution shall apply the method chosen in a consistent manner over time.

An institution may apply method 1 (accounting consolidation) only if it has received the prior consent of the competent authority. The competent authority may grant such consent only if it is satisfied that the level of integrated management and internal control regarding the entities that would be included in the scope of consolidation under method 1 is adequate.

2.        For the purposes of calculating own funds on an individual basis, institutions subject to supervision on a consolidated basis in accordance with Chapter 2 of Title II of Part One shall not deduct holdings referred to in points (h) and (i) of Article 33(1) in relevant entities included in the scope of consolidated supervision. Competent authorities may provide that retail institutions shall deduct holdings.

3.        Competent authorities may, for the purposes of calculating own funds on a stand-alone or sub-consolidated basis, permit institutions not to deduct holdings referred to in points (h) and (i) of Article 33(1) in the following cases:

(aa)     where holdings in respect of which deduction is not made in accordance with paragraphs 1, 2, or 3 qualify as equity exposures and are assigned a risk weight of 100% or are weighted in accordance with Chapter 3 of Title II of Part Three of Directive 2012/.../EU of the European Parliament and of the Council of ... [on the access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms];

(b)       where an institution referred to in Article 25 has a holding in another such institution, or in its central or regional credit institution, and the following conditions are met:

(i)        where the holding is in a central or regional credit institution, either the institution with that holding is associated with that central or regional credit institution in a network subject to legal or statutory or contractual provisions and for cash-clearing operations within that network or that network ensures the liquidity and solvency of the institution in accordance with Article 108(7);

(ii)       the institutions fall within the same institutional protection scheme referred to in Article 108(7);

(iii)      the competent authorities have granted the permission referred to in Article 108(7);

(iv)      the conditions laid down in Article 108(7) are satisfied;

(v)       the institution draws up the consolidated or aggregated balance sheet referred to in point (e) of Article 108(7) and demonstrates in an appropriate manner that there is neither multiple gearing of elements eligible for the calculation of own funds nor any inappropriate creation of own funds between the members of the institutional protection scheme and reports these documents to the competent authorities no less frequently than required under Article 108(7);

(c)       where a regional credit institution has a holding in its central or another regional credit institution and the conditions laid down in point (b)(i) to (v) are met.

4.        EBA, EIOPA and ESMA shall, through the Joint Committee, develop draft regulatory technical standards to specify for the purposes of this Article the conditions of application of the calculation methods listed in Annex I, Part II and Article 228(1) of Directive 2002/87/EC for the purposes of the alternatives to deduction referred to in paragraph 1 and point (a) of paragraph 3.

EBA, EIOPA and ESMA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Section 3Common Equity Tier 1 Capital

Article 47Common Equity Tier 1 capital

The Common Equity Tier 1 capital of an institution shall consist of Common Equity Tier 1 items after the application of the adjustments required by Article 29 to 32, the deductions pursuant to Article 33 and the exemptions and alternatives laid down in Article 45, 46 and 74.

Chapter 3Additional Tier 1 capital

Section 1Additional Tier 1 items and instruments

Article 48Additional Tier 1 items

Additional Tier 1 items shall consist of the following:

(a)       capital instruments, where the conditions laid down in Article 49(1) are met;

(b)       the share premium accounts related to the instruments referred to in point (a).

Article 49Additional Tier 1 instruments

1.        Capital instruments shall qualify as Additional Tier 1 instruments only if the following conditions are met:

(a)       the instruments are issued and paid up;

(b)       the instruments are not purchased by any of the following:

(i)        the institution or its subsidiaries;

(ii)       a undertaking in which the institution has participation in the form of ownership, direct or by way of control, of 20% or more of the voting rights or capital of that undertaking;

(c)       the purchase of the instruments is not funded directly or indirectly by the institution;

(d)       the instruments rank below Tier 2 instruments in the event of the insolvency of the institution;

(e)       the instruments are not secured, or guaranteed by any of the following:

(i)        the institution or its subsidiaries;

(ii)       the parent institution or its subsidiaries;

(iii)      the parent financial holding company or its subsidiaries;

(iv)      the mixed activity holding company or its subsidiaries;

(v)       the mixed financial holding company and its subsidiaries;

(vi)      any undertaking that has close links with entities referred to in points (i) to (v);

(f)        the instruments are not subject to any arrangement, contractual or otherwise, that enhances the seniority of the claim under the instruments in insolvency or liquidation;

(g)       the instruments are perpetual and the provisions governing them include no incentive for the institution to redeem them;

(h)       where the provisions governing the instruments include one or more call options, the option to call may be exercised at the sole discretion of the issuer;

(i)        the instruments may be called, redeemed or repurchased only where the conditions laid down in Article 72 are met, and not before five years after the date of issuance;

(j)        the provisions governing the instruments do not indicate explicitly or implicitly that the instruments would or might be called, redeemed or repurchased and the institution does not otherwise provide such an indication;

(k)       the institution does not indicate explicitly or implicitly that the competent authority would consent to a request to call, redeem or repurchase the instruments;

(l)        distributions under the instruments meet the following conditions:

(i)        they are paid out of distributable items;

(ii)       the level of distributions made on the instruments will not be modified based on the credit standing of the institution, its parent institution or parent financial holding company or mixed activity holding company;

(iii)      the provisions governing the instruments give the institution full discretion at all times to cancel the distributions on the instruments for an unlimited period and on a non-cumulative basis, and the institution may use such cancelled payments without restriction to meet its obligations as they fall due;

(iv)      cancellation of distributions does not constitute an event of default of the institution;

(v)       the cancellation of distributions imposes no restrictions on the institution;

(m)      the instruments do not contribute to a determination that the liabilities of an institution exceed its assets, where such a determination constitutes a test of insolvency under applicable national law;

(n)       the provisions governing the instruments require the principal amount of the instruments to be written down on a permanent or temporary basis or the instruments to be converted to Common Equity Tier 1 instruments, upon the occurrence of a trigger event and before any state aid, as defined by case law under Article 107 of the Treaty on the Functioning of the European Union, is granted to the institution concerned;

(o)       the provisions governing the instruments include no feature that could hinder the recapitalisation of the institution;

(p)       where the instruments are not issued directly by the institution or by an operating entity within the consolidation pursuant to Chapter 2 of Title II of Part One, the parent institution, the parent financial holding company, or the mixed activity holding company, the proceeds are immediately available without limitation in a form that satisfies the conditions laid down in this paragraph to any of the following:

(i)        the institution;

(ii)       an operating entity within the consolidation pursuant to Chapter 2 of Title II of Part One;

(iii)      the parent institution;

(iv)      the parent financial holding company;

(v)       the mixed activity holding company.

(pa)     the provisions governing the instruments require the principal amount of the Additional Tier 1 instruments to be either permanently written down to zero or converted into Common Equity Tier 1 instruments upon a determination by the competent authority under Article 51a(1) based on a list of criteria to be developed and monitored by EBA.

The condition set out in point (d) of the first subparagraph shall be deemed to be met notwithstanding the instrument ranking pari passu or above instruments referred to in Article 463(3) or (4) which have been issued before 20 July 2011 and which are included in Tier 2 in accordance with this Regulation.

EBA shall develop draft regulatory technical standards to specify the trigger referred to in point (pa).

EBA shall submit those draft regulatory technical standards to the Commission by 1 July 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

2.        EBA shall develop draft regulatory technical standards to specify all the following:

(a)       the procedures and timing for the following:

(b)       the form and nature of incentives to redeem; the nature of any write up of the principal amount of an Additional Tier 1 instrument following a write down of its principal amount on a temporary basis.

(c)       the nature of the write down of the principal amount;

(i)        determining that a trigger event has occurred;

(iii)      writing up the principal amount of an additional Tier 1 instrument following a write down of its principal amount on a temporary basis;

(d)       features of instruments that could hinder the recapitalisation of the institution;

(e)       the use of special purposes entities for indirect issuance of own funds instruments.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 50Restrictions on the cancellation of distributions on Additional Tier 1 instruments and features that could hinder the recapitalisation of the institution

For the purposes of points (l)(v) and (o) of Article 49(1), the provisions governing Additional Tier 1 instruments may, in particular, not include the following:

(a)       a requirement for distributions on the instruments to be made in the event of a distribution being made on an instrument issued by the institution that ranks to the same degree as, or more junior than, an Additional Tier 1 instrument, including a Common Equity Tier 1 instrument;

(b)       a requirement for the payment of distributions on Common Equity Tier 1, Additional Tier 1 or Tier 2 instruments to be cancelled in the event that distributions are not made on those Additional Tier 1 instruments;

(c)       an obligation to substitute the payment of interest or dividend by a payment in any other form. The institution shall not otherwise be subject to such an obligation.

Article 51Write down or conversion of Additional Tier 1 instruments

For the purposes of point (n) of Article 49(1), the following provisions shall apply to Additional Tier 1 instruments:

(a)       a trigger event occurs when the Common Equity Tier 1 capital ratio of the institution referred to in point (a) of Article 87 falls below either of the following:

(i)        5.125 %;

(ii)       a level higher than 5.125 %, where determined by the institution and specified in the provisions governing the instrument;

(b)       where the provisions governing the instruments require them to be converted into Common Equity Tier 1 instruments upon the occurrence of a trigger event, those provisions shall specify either of the following:

(i)        the rate of such conversion and a limit on the permitted amount of conversion;

(ii)       a range within which the instruments will convert into Common Equity Tier 1 instruments;

(c)       where the provisions governing the instruments require their principal amount to be written down upon the occurrence of a trigger event, the write down shall reduce all the following:

(i)        the claim of the holder of the instrument in the liquidation of the institution;

(ii)       the amount required to be paid in the event of the call of the instrument;

(iii)      the distributions made on the instrument.

Article 51 aWrite down or conversion of Additional Tier 1 instruments upon determination by the competent authority

1.        For the purposes of point (q) (new) of Article 49(1), the write-down or conversion shall occur when:

(a)       the competent authority makes a determination that, unless the relevant Additional Tier 1 instruments are written down or converted, the institution will no longer be viable;

(b)       a decision has been made in a Member State to provide own funds, or equivalent support, to the institution or a parent undertaking of the institution and the competent authority makes a determination that without the provision of such support the institution would no longer be viable; or

(c)       if the relevant Additional Tier 1 instruments are recognised for the purposes of meeting the own funds requirements of the institution or its parent undertaking on a consolidated basis, when the competent authority of the Member State of the consolidating supervisor has made a determination that unless those instruments are written down or converted, the consolidated group will no longer be viable.

2.        Upon a determination under point (1) the principal amount of the Additional Tier 1 instruments shall be permanently written down to zero or converted into Common Equity Tier 1 instruments.

3.        An institution issuing Additional Tier 1 instruments shall maintain at all times the necessary prior authorisation to issue the Common Equity Tier 1 instruments into which the Additional Tier 1 instruments would convert upon a determination under point (1);

4.        An institution issuing Additional Tier 1 instruments shall ensure that there are no procedural impediments to the conversion of the Additional Tier 1 instruments into Common Equity Tier 1 instruments by virtue of its instruments of incorporation or statutes.

5.        The terms of the Additional Tier 1 instruments must require any write-down or conversion to occur prior to the provision of any Member State own funds or equivalent support.

Article 52Consequences of the conditions for Additional Tier 1 instruments ceasing to be met

The following shall apply where, in the case of an Additional Tier 1 instrument, the conditions laid down in Article 49(1) cease to be met:

(a)       that instrument shall cease to qualify as an Additional Tier 1 instrument;

(b)       the part of the share premium accounts that relates to that instrument shall cease to qualify as Additional Tier 1 items.

Section 2Deductions from Additional Tier 1 items

Article 53Deductions from Additional Tier 1 items

Institutions shall deduct the following from Additional Tier 1 items:

(a)       direct and indirect holdings by an institution of own Additional Tier 1 instruments, including own Additional Tier 1 instruments that an institution could be obliged to purchase as a result of existing contractual obligations;

(b)       holdings of the Additional Tier 1 instruments of relevant entities with which the institution has reciprocal cross holdings that the competent authority considers to have been designed to inflate artificially the own funds of the institution;

(c)       the applicable amount determined in accordance with Article 57 of direct and indirect holdings of the Additional Tier 1 instruments of relevant entities, where an institution does not have a significant investment in those entities;

(d)       direct and indirect holdings by the institution of the Additional Tier 1 instruments of relevant entities where the institution has a significant investment in those entities, excluding underwriting positions held for 5 working days or fewer;

(e)       the amount of items required to be deducted from Tier 2 items pursuant to Article 63 that exceed the Tier 2 capital of the institution;

(f)        any tax charge relating to Additional Tier 1 items foreseeable at the moment of its calculation, except where the institution suitably adjusts the amount of Additional Tier 1 items insofar as such tax charges reduce the amount up to which those items may be applied to cover risks or losses.

Article 54Deductions of holdings of own Additional Tier 1 instruments

For the purposes of point (a) of Article 53, institutions shall calculate holdings of own Additional Tier 1 instruments on the basis of gross long positions subject to the following exceptions:

(a)       institutions may calculate the amount of holdings of own Additional Tier 1 instruments in the trading book on the basis of the net long position provided the long and short positions are in the same underlying exposure and the short positions involve no counterparty risk;

(b)       institutions shall determine the amount to be deducted for indirect holdings in the trading book of own Additional Tier 1 instruments that take the form of holdings of index securities by calculating the underlying exposure to own Additional Tier 1 instruments in the indices;

(c)       gross long positions in own Additional Tier 1 instruments in the trading book resulting from holdings of index securities may be netted by the institution against short positions in own Additional Tier 1 instruments resulting from short positions in the underlying indices, including where those short positions involve counterparty risk.

Article 55Deduction of holdings of Additional Tier 1 instruments of relevant entities and where an institution has a reciprocal cross holding designed artificially to inflate own funds

Institutions shall make the deductions required by points (b), (c) and (d) of Article 53 in accordance with the following:

(a)       holdings of Additional Tier 1 instruments shall be calculated on the basis of the gross long positions;

(b)       additional Tier 1 own-fund insurance items shall be treated as holdings of Additional Tier 1 instruments for the purposes of deduction.

Article 56Deduction of holdings of Additional Tier 1 instruments of relevant entities

Institutions shall make the deductions required by points (c) and (d) of Article 53 in accordance with the following:

(a)       they shall calculate holdings in the trading book of the capital instruments of relevant entities on the basis of the net long position in the same underlying exposure provided the maturity of the short position matches the maturity of the long position or has a residual maturity of at least one year;

(b)       they shall determine the amount to be deducted for indirect holdings in the trading book of the capital instruments of relevant entities that take the form of holdings of index securities by calculating the underlying exposure to the capital instruments of the relevant entities in the indices.

Article 57Deduction of holdings of Additional Tier 1 instruments where an institution does not have a significant investment in a relevant entity

1.        For the purposes of point (c) of Article 53, institutions shall calculate the applicable amount to be deducted by multiplying the amount referred to in point (a) by the factor derived from the calculation referred to in point (b):

(a)       the aggregate amount by which the direct and indirect holdings by the institution of the Common Equity Tier 1, Additional Tier 1 and Tier 2 instruments of relevant entities exceeds 10% of the Common Equity Tier 1 items of the institution calculated after applying the following:

(i)        Article 29 to 32;

(ii)        points (a) to (g) and (j) to (l) of Article 33(1), excluding deferred tax assets that rely on future profitability and arise from temporary differences;

(iii)      Articles 41 and 42;

(b)       the amount of direct and indirect holdings by the institution of the Additional Tier 1 instruments of relevant entities divided by the aggregate amount of all direct and indirect holdings by the institution of the Common Equity Tier 1, Additional Tier 1 and Tier 2 instruments of those relevant entities.

2.        Institutions shall exclude underwriting positions held for 5 working days or fewer from the amount referred to in point (a) of paragraph 1 and from the calculation of the factor referred to in point (b) of paragraph 1.

3.        Institutions shall determine the portion of holdings of Additional Tier 1 instruments that is deducted by dividing the amount specified in point (a) by the amount specified in point (b):

(a)       the amount of holdings required to be deducted pursuant to paragraph 1;

(b)       aggregate amount of direct and indirect holdings by the institution of the own funds instruments of relevant entities in which the institution does not have a significant investment.

Section 3Additional Tier 1 capital

Article 58Additional Tier 1 capital

The Additional Tier 1 capital of an institution shall consist of Additional Tier 1 items after the deduction of the items referred to in Article 53 and the application of Article 74.

Chapter 4Tier 2 capital

Section 1Tier 2 items and instruments

Article 59Tier 2 items

Tier 2 items shall consist of the following:

(a)       capital instruments, where the conditions laid down in Article 60 are met;

(b)       the share premium accounts related to the instruments referred to in point (a);

(ba)     value adjustments referred to in Article 37 para 2 of directive 86/635/EU;

(c)       for institutions calculating risk-weighted exposure amounts in accordance with Chapter 2 of Title II, general credit risk adjustments, gross of tax effects, of up to 1.25 % of risk-weighted exposure amounts calculated in accordance with Chapter 2 of Title II of Part Three;

(d)       for institutions calculating risk-weighted exposure amounts under Chapter 3 of Title II, positive amounts, gross of tax effects, resulting from the calculation laid down in Article 154 and 155 up to 0,6 % of risk weighted exposure amounts calculated under Chapter 3 of Title II of Part Three.

Article 60Tier 2 instruments

Capital instruments shall qualify as Tier 2 instruments provided the following conditions are met:

(a)       the instruments are issued and fully paid-up;

(b)       the instruments are not purchased by any of the following:

(i)        the institution or its subsidiaries;

(ii)       an undertaking in which the institution has participation in the form of ownership, direct or by way of control, of 20% or more of the voting rights or capital of that undertaking;

(c)       the purchase of the instruments is not funded directly or indirectly by the institution;

(d)       the claim on the principal amount of the instruments under the provisions governing the instruments is wholly subordinated to claims of all non-subordinated creditors;

(e)       the instruments are not secured, or guaranteed by any of the following:

(i)        the institution or its subsidiaries;

(ii)       the parent institution or its subsidiaries;

(iii)      the parent financial holding company or its subsidiaries;

(iv)      the mixed activity holding company or its subsidiaries;

(v)       the mixed financial holding company and its subsidiaries;

(vi)      any undertaking that has close links with entities referred to in points (i) to (v);

(f)        the instruments are not subject to any arrangement that otherwise enhances the seniority of the claim under the instruments;

(g)       the instruments have an original maturity of at least 5 years;

(h)       the provisions governing the instruments do not include any incentive for them to be redeemed by the institution;

(i)        where the instruments include one or more call options, the options are exercisable at the sole discretion of the issuer;

(j)        the instruments may be called, redeemed or repurchased only where the conditions laid down in Article 72 are met, and not before five years after the date of issuance;

(k)       the provisions governing the instruments do not indicate or suggest that the instruments would or might be redeemed or repurchased other than at maturity and the institution does not otherwise provide such an indication or suggestion;

(l)        the provisions governing the instruments do not give the holder the right to accelerate the future scheduled payment of interest or principal, other than in the insolvency or liquidation of the institution;

(m)      the level of interest or dividend payments due on the instruments will not be modified based on the credit standing of the institution, its parent institution or parent financial holding company or mixed activity holding company;

(n)       where the instruments are not issued directly by the institution or by an operating entity within the consolidation pursuant to Chapter 2 of Title II of Part One, the parent institution, the parent financial holding company, or the mixed activity holding company, the proceeds are immediately available without limitation in a form that satisfies the conditions laid down in this paragraph to any of the following:

(na)    the provisions governing the instruments require the principal amount of the Tier 2 instruments to be either permanently written down to zero or converted into Common Equity Tier 1 instruments upon a determination by the competent authority under Article 60a(1), based on a list of criteria to be developed and monitored by EBA.

(i)        the institution;

(ii)       an operating entity within the consolidation pursuant to Chapter 2 of Title II of Part One;

(iii)      the parent institution;

(iv)      the parent financial holding company;

(v)       the mixed activity holding company.

EBA shall submit those draft regulatory technical standards to the Commission by 1 July 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 61Amortisation of Tier 2 instruments

The extent to which Tier 2 instruments qualify as Tier 2 items during the final 5 years of maturity of the instruments is calculated by multiplying the result derived from the calculation in point (a) by the amount referred to in point (b) as follows:

(a)       the nominal amount of the instruments or subordinated loans on the first day of the final five year period of their contractual maturity divided by the number of calendar days in that period;

(b)       the number of remaining calendar days of contractual maturity of the instruments or subordinated loans.

Article 62Consequences of the conditions for Tier 2 instruments ceasing to be met

Where in the case of a Tier 2 instrument the conditions laid down in Article 60 cease to be met, the following shall apply:

(a)       that instrument shall cease to qualify as a Tier 2 instrument;

(b)       the part of the share premium accounts that relate to that instrument shall cease to qualify as Tier 2 items.

Section 2Deductions from Tier 2 items

Article 63Deductions from Tier 2 items

The following shall be deducted from Tier 2 items:

(a)       direct and indirect holdings by an institution of own Tier 2 instruments, including own Tier 2 instruments that an institution could be obliged to purchase as a result of existing contractual obligations;

(b)       holdings of the Tier 2 instruments of relevant entities with which the institution has reciprocal cross holdings that the competent authority considers to have been designed to inflate artificially the own funds of the institution;

(c)       the applicable amount determined in accordance with Article 67 of direct and indirect holdings of the Tier 2 instruments of relevant entities, where an institution does not have a significant investment in those entities;

(d)       direct and indirect holdings by the institution of the Tier 2 instruments of relevant entities where the institution has a significant investment in those entities, excluding underwriting positions held for fewer than 5 working days.

Article 64Deductions of holdings of own Tier 2 instruments and subordinated loans

For the purposes of point (a) of Article 63, institutions shall calculate holdings on the basis of the gross long positions subject to the following exceptions:

(a)       institutions may calculate the amount of holdings in the trading book on the basis of the net long position provided the long and short positions are in the same underlying exposure and the short positions involve no counterparty risk;

(b)       institutions shall determine the amount to be deducted for indirect holdings in the trading book that take the form of holdings of index securities by calculating the underlying exposure to own Tier 2 instruments in the indices;

(c)       institutions may net gross long positions in own Tier 2 instruments in the trading book resulting from holdings of index securities against short positions in own Tier 2 instruments resulting from short positions in the underlying indices, including where those short positions involve counterparty risk.

Article 65Deduction of holdings of Tier 2 instruments and subordinated loans of relevant entities and where an institution has a reciprocal cross holding designed artificially to inflate own funds

Institutions shall make the deductions required by points (b), (c) and (d) of Article 63 in accordance with the following provisions:

(a)       holdings of Tier 2 instruments, including subordinated loans, shall be calculated on the basis of the gross long positions;

(b)       holdings of Tier 2 own-fund insurance items and Tier 3 own-fund insurance items shall be treated as holdings of Tier 2 instruments for the purposes of deduction.

Article 66Deduction of holdings of Tier 2 instruments and subordinated loans of relevant entities

Institutions shall make the deductions required by points (c) and (d) of Article 63 in accordance with the following:

(a)       they may calculate holdings in the trading book of the capital instruments of relevant entities on the basis of the net long position in the same underlying exposure provided the maturity of the short position matches the maturity of the long position or has a residual maturity of at least one year;

(b)       they shall determine the amount to be deducted for indirect holdings in the trading book of the capital instruments of relevant entities that take the form of holdings of index securities by looking through to the underlying exposure to the capital instruments of the relevant entities in the indices.

Article 67Deduction of Tier 2 instruments where an institution does not have a significant investment in a relevant entity

1.        For the purposes of point (c) of Article 63, institutions shall calculate the applicable amount to be deducted by multiplying the amount referred to in point (a) by the factor derived from the calculation referred to in point (b):

(a)       the aggregate amount by which the direct and indirect holdings by the institution of the Common Equity Tier 1, Additional Tier 1 and Tier 2 instruments of relevant entities exceeds 10% of the Common Equity Tier 1 items of the institution calculated after applying the following:

(i)        Article 29 to 32;

(ii)       points (a) to (g) and (j) to (l) of Article 33(1), excluding the amount to be deducted for deferred tax assets that rely on future profitability and arise from temporary differences;

(iii)      Articles 41 and 42;

(b)       the amount of direct and indirect holdings by the institution of the Tier 2 instruments of relevant entities divided by the aggregate amount of all direct and indirect holdings by the institution of the Common Equity Tier 1, Additional Tier 1 and Tier 2 instruments of those relevant entities.

2.        Institutions shall exclude underwriting positions held for 5 working days or fewer from the amount referred to in point (a) of paragraph 1 and from the calculation of the factor referred to in point (b) of paragraph 1.

3.        Institutions shall determine the portion of holdings of Tier 2 instruments that is deducted by dividing the amount specified in point (a) by the amount specified in point (b):

(a)       the total amount of holdings required to be deducted pursuant to paragraph 1;

(b)       aggregate amount of direct and indirect holdings by the institution of the own funds instruments of relevant entities in which the institution does not have a significant investment.

Section 3Tier 2 capital

Article 68Tier 2 capital

The Tier 2 capital of an institution shall consist of the Tier 2 items of the institution after the deductions referred to in Article 63 and the application of Article 74.

Chapter 5Own funds

Article 69Own fundsThe own funds of an institution shall consist of the sum of its Tier 1 capital and Tier 2 capital.

Chapter 6General requirements

Article 70Holding of capital instruments of regulated entities that do not qualify as regulatory capital

Institutions shall not deduct from any element of own funds holdings of a regulated financial entity within the meaning of paragraph 2 of Article 137(4) that do not qualify as regulatory capital of that entity. Institutions shall apply a risk weight to such holdings in accordance with Chapter 2 or 3 of Title II of Part Three, as applicable.

Article 71Indirect holdings arsing from index holdings

1.        As an alternative to an institution calculating its exposure to Common Equity Tier 1, Additional Tier 1 and Tier 2 instruments of relevant entities included in indices, where the competent authority has given its prior consent an institution may use a conservative estimate of the underlying exposure of the institution to the Common Equity Tier 1, Additional Tier 1 and Tier 2 instruments of relevant entities that are included in the indices.

2.        A competent authority shall give its consent only where the institution has demonstrated to the satisfaction of the competent authority that it would be operationally burdensome for the institution to monitor its underlying exposure to the Common Equity Tier 1, Additional Tier 1 and Tier 2 instruments of those relevant entities included in the indices.

EBA shall develop draft regulatory technical standards to specify:

(a)       the extent of conservatism required in estimates used as an alternative to the calculation of underlying exposure referred to in paragraph 1;

(b)       the meaning of operationally burdensome for the purposes of paragraph 2.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 72Conditions for reducing own funds

An institution shall require the prior consent of the competent authority to do the following:

(a)       reduce or repurchase Common Equity Tier 1 instruments issued by the institution in a manner that is permitted under applicable national law;

(b)       effect the call, redemption or repurchase of Additional Tier 1 instruments or Tier 2 instruments prior to the date of their contractual maturity.

Article 73Supervisory consent for reducing own funds

1.        The competent authority shall grant consent for an institution to reduce, repurchase, call or redeem Common Equity Tier 1, Additional Tier 1 or Tier 2 instruments where any of the following conditions is met:

(a)       earlier than or at the same time as the action referred to in Article 13, the institution replaces the instruments referred to in Article 72 with own funds instruments of equal or higher quality at terms that are sustainable for the income capacity of the institution;

(b)      the institution has demonstrated to the satisfaction of the competent authority that the own funds of the institution would, following the action in question, exceed the requirements laid down in Article 87(1) by a margin that the competent authority considers to be significant and appropriate and the competent authority considers the financial situation of the institution otherwise to be sound.

(ba)    The competent authority may at any time grant permission for early redemption of dated or undated instruments in the event that there is a change in the applicable tax treatment or regulatory classification of such instruments which was unforeseen at the date of issue.

2.        Where an institution takes an action referred to in point (a) of Article 72 and the refusal of redemption of Common Equity Tier 1 instruments referred to in Article 25 is prohibited by applicable national law, the competent authority may waive the conditions laid down in paragraph 1 of this Article provided the competent authority requires the institution to limit the redemption of such instruments on an appropriate basis.

3.        EBA shall adopt draft regulatory technical standards to specify the following:

(a)       the meaning of sustainable for the income capacity of the institution;

(b)       the appropriate bases of limitation of redemption referred to in paragraph 2;

(c)       the process and data requirements for an application by an institution for the consent of the competent authority to carry out an action listed in Article 72, including the time period for processing such application.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 74Temporary waiver from deduction from own funds

1.        Where an institution holds shares that qualify as Common Equity Tier 1, Additional Tier 1 or Tier 2 instruments in a relevant entity temporarily and the competent authority deems those holdings to be for the purposes of a financial assistance operation designed to reorganise and save that entity, the competent authority may waive on a temporary basis the provisions on deduction that would otherwise apply to those instruments.

2.        EBA shall develop draft regulatory technical standards to specify the concept of temporary for the purposes of paragraph 1 and the conditions according to which a competent authority may deem the temporary holdings referred to be for the purposes of a financial assistance operation designed to reorganise and save a relevant entity.

3.        EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

4.        Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 75Continuing review of quality of own funds

1.        EBA shall monitor the quality of own funds instruments issued by institutions across the Union and shall notify the Commission immediately where there is significant evidence of material deterioration in the quality of those instruments.

2.        A notification shall include the following:

(a)       a detailed explanation of the nature and extent of the deterioration identified;

(b)       technical advice on the action by the Commission that EBA considers to be necessary.

3.        EBA shall provide technical advice to the Commission on any significant changes it considers to be required to the definition of own funds as a result of any of the following:

(a)       relevant developments in market standards or practice;

(b)       changes in relevant legal or accounting standards;

(c)       significant developments in the methodology of EBA for stress testing the solvency of institutions.

4.        EBA shall provide technical advice to the Commission by 31 December 2013 on possible treatments of unrealised gains measured at fair value other than including them in Common Equity Tier 1 without adjustment. Such recommendations shall take into account relevant developments in international accounting standards and in international agreements on prudential standards for banks.

Title IIIMinority interest and Additional Tier 1 and Tier 2 instruments issued by subsidiaries

Article 76Minority interests that qualify for inclusion in consolidated Common Equity Tier 1 capital

1.        Minority interests shall comprise the Common Equity Tier 1 instruments, plus the related retained earnings and share premium accounts, of a subsidiary where the following conditions are met:

(a)       the subsidiary is one of the following:

(i)        an institution;

(ii)       an undertaking that is subject by virtue of applicable national law to the requirements of this Regulation and Directive [inserted by OP],

(b)       the subsidiary is included fully in the consolidation pursuant to Chapter 2 of Title II of Part One;

(c)       those Common Equity Tier 1 instruments are owned by persons other than the undertakings included in the consolidation pursuant to Chapter 2 of Title II of Part One.

2.        Minority interests that are funded directly or indirectly, through a special purpose entity or otherwise, by the parent institution, parent financial holding company, mixed activity holding company or their subsidiaries shall not qualify as consolidated Common Equity Tier 1 capital.

Article 77Qualifying Additional Tier 1, Tier 1, Tier 2 capital and qualifying own funds

Qualifying Additional Tier 1, Tier 1, Tier 2 capital and qualifying own funds shall comprise the minority interest, Additional Tier 1, Tier 1 or Tier 2 instruments, as applicable, plus the related retained earnings and share premium accounts, of a subsidiary where the following conditions are met:

(a)       the subsidiary is either of the following:

(i)        an institution;

(ii)       an undertaking that is subject by virtue of applicable national law to the requirements of this Regulation and Directive [inserted by OP];

(b)       the subsidiary is included fully in the scope of consolidation pursuant to Chapter 2 of Title II of Part One;

(c)       those instruments are owned by persons other than the undertakings included in the consolidation pursuant to Chapter 2 of Title II of Part One.

Article 78Qualifying Additional Tier 1and Tier 2 capital issued by a special purpose entity

1.        Additional Tier 1 and Tier 2 instruments issued by special purpose entity, and the related retained earnings and share premium accounts, are included in qualifying Additional Tier 1, Tier 1 or Tier 2 capital or qualifying own funds, as applicable, only where the following conditions are met:

(a)       the special purpose entity issuing those instruments is included fully in the consolidation pursuant to Chapter 2 of Title II of Part One;

(b)       the instruments, and the related retained earnings and share premium accounts, are included in qualifying Additional Tier 1 capital only where the conditions laid down in Article 49(1) are satisfied;

(c)       the instruments, and the related retained earnings and share premium accounts, are included in qualifying Tier 2 capital only where the conditions laid down in Article 60 are satisfied;

(d)       the only asset of the special purpose entity is its investment in the own funds of that subsidiary, the form of which satisfies the relevant conditions laid down in Articles 49(1) or 60, as applicable.

(da)     in case the special purpose entity is settled outside the EU it provides publicly accessible information about the jurisdiction in which it is based, its annual accounts and the amount of taxes paid.

Where the competent authority considers the assets of a special purpose entity to be minimal and insignificant for such an entity, the competent authority may waive the condition specified in point (d).

2.        EBA shall develop draft regulatory technical standards to specify the concepts of minimal and insignificant referred to in point (d) of paragraph 1.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 79Minority interests included in consolidated Common Equity Tier 1 capital

Institutions shall determine the amount of minority interests of a subsidiary that is included in consolidated Common Equity Tier 1 capital by subtracting from the minority interests of that undertaking the result of multiplying the amount referred to in point (a) by the percentage referred to in point (b):

(a)       the Common Equity Tier 1 capital of the subsidiary minus the lower of the following:

(i)        the amount of Common Equity Tier 1 capital of that subsidiary required to meet the sum of the requirement laid down in point (a) of Article 87(1), the specific own funds requirements referred to in Article 100 of Directive [inserted by OP] and the combined buffer referred to in Article 122(2) of Directive [inserted by OP] and any additional local supervisory regulations in non EU member states insofar as those requirements are to be met by Common Equity Tier 1 capital;

(ii)       the amount of consolidated Common Equity Tier 1 capital that relates to that subsidiary that is required on a consolidated basis to meet the sum of the requirement laid down in point (a) of Article 87(1), the specific own funds requirements referred to in Article 100 of Directive [inserted by OP], the internal capital calculated by the institution in Article 72 of Directive [inserted by OP], the combined buffer referred to in Article 122(2) of Directive [inserted by OP], and any additional local supervisory regulations in non EU member states insofar as those requirements are to be met by Common Equity Tier 1 capital;

(ii a)   the calculation referred to in paragraph 1 shall be undertaken on a subconsolidated basis for each subsidiary referred to in Article 76 (1).

An institution may choose not to undertake this calculation for a subsidiary referred to in Article 76 (1). Where an institution takes such a decision, the minority interest of that subsidiary may not be included in consolidated Common Equity Tier 1.

(b)       the minority interests of the subsidiary expressed as a percentage of all Common Equity Tier 1 instruments of that undertaking plus the related retained earnings and share premium accounts.

Where the parent company of a credit institution or of an investment firm is a non operating holding company having a minority control over its consolidated risk-weighted assets, competent authorities may accept to grant w waiver from the application of this Article if deemed appropriate, under the conditions defined by them.

Competent authorities may permit institutions not to subtract from the minority interests of a cross-guarantee scheme the result of multiplying the amount referred to in paragraph 1(a) by the percentage referred to in paragrapgh 1(b) subject to the conditions laid down in Article 108(7).

If a competent authority derogates from the application of prudential requirements on an individual basis, as laid down in Article 6, calculation of minority interests included in consolidated Common Equity Tier 1 capital should be done without taking into account the individual waiver.

Article 80Qualifying Tier 1 instruments included in consolidated Tier 1 capital

Institutions shall determine the amount of qualifying Tier 1 capital of a subsidiary that is included in consolidated Tier 1 capital by subtracting from the qualifying Tier 1 capital of that undertaking the result of multiplying the amount referred to in point (a) by the percentage referred to in point (b).

(a)       the Tier 1 capital of the subsidiary minus the lower of the following:

(i)        the amount of Tier 1 capital of the subsidiary required to meet the sum of the requirement laid down in point (b) of Article 87(1), the specific own funds requirements referred to in Article 100 of Directive [inserted by OP] and the combined buffer referred to in Article 122(2)of Directive [inserted by OP] and any additional local supervisory regulations in non EU member states insofar as those requirements are to be met by Tier 1 Capital;

(ii)       the amount of consolidated Tier 1 capital that relates to the subsidiary that is required on a consolidated basis to meet the sum of the requirement laid down in point (b) of Article 87(1), the specific own funds requirements referred to in Article 100 of Directive [inserted by OP] and the combined buffer referred to in Article 122(2)of Directive [inserted by OP] and any additional local supervisory regulations in non EU member states insofar as those requirements are to be met by Tier 1 Capital;

(b)       the qualifying Tier 1 capital of the subsidiary expressed as a percentage of all Tier 1 instruments of that undertaking plus the related retained earnings and share premium accounts.

If a competent authority derogates from the application of prudential requirements on an individual basis, as laid down in Article 6, calculation of qualifying Tier 1 instruments included in consolidated Tier 1 capital should be done without taking into account the individual waiver.

Article 81Qualifying Tier 1 capital included in consolidated Additional Tier 1 capital

Institutions shall determine the amount of qualifying Tier 1 capital of a subsidiary that is included in consolidated Additional Tier 1 capital. The minority interest in a primary credit institution in a Member State should be recognised in full, provided the excess funding, above regulatory requirements, is fully transferable throughout the group. The amount of the remaining minority interests that shall be included in consolidated Additional Tier 1 shall be calculated by subtracting from the qualifying Tier 1 capital of that undertaking included in consolidated Tier 1 capital the minority interests of that undertaking that are included in consolidated Common Equity Tier 1 capital.

If a competent authority derogates from the application of prudential requirements on an individual basis, as laid down in Article 6, calculation of qualifying Tier 1 capital included in consolidated Tier 1 capital should be done without taking into account the individual waiver.

Article 82Qualifying own funds included in consolidated own funds

Institutions shall determine the amount of qualifying own funds of a subsidiary that is included in consolidated own funds by subtracting from the qualifying own funds of that undertaking the result of multiplying the amount referred to in point (a) by the percentage referred to in point (b):

(a)       the own funds of the subsidiary minus the lower of the following:

(i)        the amount of own funds of the subsidiary required to meet the sum of the requirement laid down in point (c) of Article 87(1), the specific own funds requirements referred to in Article 100 of Directive [inserted by OP], the internal capital calculated by the institution in Article 72 of Directive [inserted by OP] and the combined buffer referred to in Article 122(2) of Directive [inserted by OP] and any additional local supervisory regulations in non EU member states;

(ii)       the amount of own funds that relates to the subsidiary that is required on a consolidated basis to meet the sum of the requirement laid down in point (c) of Article 87(1), the specific own funds requirements referred to in Article 100 of Directive [inserted by OP], the internal capital calculated by the institution in Article 72 of Directive [inserted by OP] and the combined buffer referred to in Article 122(2)of Directive [inserted by OP];

(b)       the qualifying own funds of the undertaking, expressed as a percentage of all own funds instruments of the subsidiary that are included in Common Equity Tier 1, Additional Tier 1 and Tier 2 items and the related retained earnings and share premium accounts.

If a competent authority derogates from the application of prudential requirements on an individual basis, as laid down in Article 6, calculation of qualifying Tier 1 capital included in consolidated Tier 1 capital should be done without taking into account the individual waiver.

Article 83Qualifying own funds instruments included in consolidated Tier 2 capital

Institutions shall determine the amount of qualifying own funds of a subsidiary that is included in consolidated Tier 2 capital. The minority interest in a primary credit institution in a Member State should be recognised in full, provided the excess funding, above regulatory requirements, is fully transferable throughout the group. The amount of the remaining consolidated Tier 2 capital shall be determined by subtracting from the qualifying own funds of that undertaking that are included in consolidated own funds the qualifying Tier 1 capital of that undertaking that is included in consolidated Tier 1 capital.

If a competent authority derogates from the application of prudential requirements on an individual basis, as laid down in Article 6, calculation of qualifying Tier 1 capital included in consolidated Tier 1 capital should be done without taking into account the individual waiver.

Article 83 aMonitoring of consolidated capital arrangements

The consolidated capital arrangements under articles 80 to 83 can lead to conflict between host regulators encouraging issuance of capital via local subsidiaries and home regulators restricting the amount of capital credit given at the group level. These conflicting interests should be balanced. EBA shall monitor the arrangements and impact on European banks and issue regulatory technical standards for the purpose of a harmonised approach in the EU.

Title IVQualifying holdings outside the financial sector

Article 84Risk weighting and prohibition of qualifying holdings outside the financial sector

1.        A qualifying holding, the amount of which exceeds 15 % of the eligible capital of the institution, in an undertaking which is not one of the following shall be subject to the provisions laid down in paragraph 3:

(a)       a relevant entity;

(b)      an undertaking, that is not a relevant entity, carrying on activities which the competent authority considers to be the following:

(i)        a direct extension of banking; or

(ii)       ancillary to banking,

(iii)      leasing, factoring, the management of unit trusts, the management of data processing services or any other similar activity.

2.        The total amount of the qualifying holdings of an institution in undertakings other than those referred to in (a) and (b) of paragraph 1 that exceeds 60 % of its eligible capital shall be subject to the provisions laid down in paragraph 3.

3.        Competent authorities shall apply the requirements laid down in point (a) or (b) to qualifying holdings of institutions referred to in paragraphs 1 and 2:

(a)       institutions shall apply a risk weight of 1 250 % to the following:

(i)        the amount of qualifying holdings referred to in paragraph 1 in excess of 15 % of eligible capital;

(ii)       the total amount of qualifying holdings referred to in paragraph 2 that exceed 60 % of the eligible capital of the institution;

(b)      the competent authorities shall prohibit institutions from having qualifying holdings referred to in paragraphs 1 and 2 the amount of which exceeds the percentages of eligible capital laid down in those paragraphs.

Article 85Alternative to 1 250 % risk weight

As an alternative to applying a 1 250 % risk weight to the amounts in excess of the limits specified in paragraphs 1 and 2 of Article 84, institutions may deduct those amounts from Common Equity Tier 1 items in accordance with point (k) of Article 33(1).

Article 86Exceptions

1.        Shares of undertakings not referred to in points (a) and (b) of paragraph 1 shall not be included in calculating the eligible capital limits specified in Article 84 where any of the following conditions is met:

(a)       those shares are held temporarily during a financial reconstruction or rescue operation,

(b)       the holding of the shares is an underwriting position held for 5 working days or fewer;

(c)       those shares are held the own name of the institution and on behalf of others.

2.        Shares which are not financial fixed assets as defined in Article 35(2) of Directive 86/635/EEC shall not be included in the calculation specified in Article 84.

PART THREECAPITAL REQUIREMENTS

Title IGeneral Requirements, valuation and reporting

Chapter 1Required level of own funds

Section 1Own funds requirements for institutions

Article 87Own funds requirements

1.        Subject to Articles 88 and 89, institutions shall at all times satisfy the following own funds requirements:

(a)       a Common Equity Tier 1 capital ratio of 4.5 %;

(b)       a Tier 1 capital ratio of 6 %;

(c)       a total capital ratio of 8 %.

2.        Institutions shall calculate their capital ratios as follows:

(a)       the Common Equity Tier 1 capital ratio is the Common Equity Tier 1 capital of the institution expressed as a percentage of the total risk exposure amount;

(b)       the Tier 1 capital ratio is the Tier 1 capital of the institution expressed as a percentage of the total risk exposure amount;

(c)       the total capital ratio is the own funds of the institution expressed as a percentage of the total risk exposure amount.

3.        Total risk exposure amount shall be calculated as the sum of the following points (a) to (f) after taking into account the provisions laid down in paragraph 4:

(a)       the risk weighted exposure amounts for credit risk and dilution risk, calculated in accordance with Title II of Part Three, in respect of all the business activities of an institution, excluding risk weighted exposure amounts from the trading book business of the institution;

(b)       the own funds requirements, determined in accordance with Title IV of Part Three or Part Four, as applicable, for the trading-book business of an institution, for the following:

(i)        position risk;

(ii)       large exposures exceeding the limits specified in Articles 384 to 390, to the extent an institution is permitted to exceed those limits;

(c)       the own funds requirements determined in accordance with Title IV of Part Three or Title V of Part Three, as applicable, for the following:

(i)        foreign-exchange risk;

(ii)       settlement risk;

(iii)      commodities risk;

(d)       the own funds requirements calculated in accordance with Title VI for credit valuation adjustment risk of OTC derivative instruments other than credit derivatives recognised to reduce risk-weighted exposure amounts for credit risk;

(e)       the own funds requirements determined in accordance with Title III of Part Three for operational risk;

(f)        the risk weighted exposure amounts determined in accordance with Title II of Part Three for counterparty risk arising from the trading book business of the institution for the following types of transactions and agreements:

(i)        OTC derivative instruments and credit derivatives;

(ii)       repurchase transactions, securities or commodities lending or borrowing transactions based on securities or commodities;

(iii)      margin lending transactions based on securities or commodities;

(iv)      long settlement transactions.

4.        The following provisions shall apply in the calculation of the total exposure amount referred to in paragraph 3:

(a)       the own funds requirements referred to in points (c) to (e) of that paragraph shall include those arising from all the business activities of an institution;

(b)       institutions shall multiply the own funds requirements set out in points (b) to (e) of that paragraph by 12.5.

(ba)     the risk weighted exposure amounts for credit risk for loans to SMEs (as defined in Title II Chapter 3 Section 2 Sub-section 2 Art.148 (4)) have to be calculated in accordance with Title II and then multiplied by 0,7619 (application of an SMEs Supporting Factor), irrespective of the fact that the institution uses the method set out in Chapter 2 or in Chapter 3 of Part Three, Title II;

4a.      Where a liability or a capital charge is applied more than once due to the interacting capital requirements the competent authority may disapply the relevant part of this Regulation. The competent authorities shall notify the EBA as soon as is practicable where this approach is applied. The EBA shall monitor this practice and where necessary on its own initiative issue guidelines to ensure consistency at Union level.

Article 88Initial capital requirement on going concern

1.        The own funds of an institution may not fall below the amount of initial capital required at the time of its authorisation.

2.        Institutions that were already in existence on 1 January 1993, the own funds of which do not attain the amount of initial capital required may continue to carry on their activities. In that event, the own funds of those institutions may not fall below the highest level reached with effect from 22 December 1989, except when the cause for falling below this level is, that certain capital instruments, qualifying as own funds under Directive 2006/48/EC, do not qualify as own funds under this Regulation, or that there are new deduction rules.

3.        Where control of an institution falling within the category referred to in paragraph 2 is taken by a natural or legal person other than the person who controlled the institution previously, the own funds of that institution shall attain the amount of initial capital required.

4.        Where there is a merger of two or more institutions falling within the category referred to in paragraph 2, the own funds of the institution resulting from the merger shall not fall below the total own funds of the merged institutions at the time of the merger, as long as the amount of initial capital required has not been attained.

5.        Where competent authorities consider it necessary to ensure the solvency of an institution that the requirement laid down in paragraph 1 is met, the provisions laid down in paragraphs 2 to 4 shall not apply.

Article 89Derogation for small trading book business

1.        Institutions may replace the capital requirement referred to in point (b) of paragraph 3 of Article 87 by a capital requirement calculated in accordance with point (a) of that paragraph in respect of their trading-book business, provided that the size of their on- and off-balance-sheet trading-book business meets the following conditions:

(a)       is normally less than 5% of the total assets and €15 million;

(b)       never exceeds 6% of total assets and €20 million.

2.        In calculating the size of on- and off-balance-sheet business, debt instruments shall be valued at their market prices or their nominal values, equities at their market prices and derivatives according to the nominal or market values of the instruments underlying them. Long positions and short positions shall be summed regardless of their signs.

3.        Where an institution fails to meet the condition in point (b) of paragraph 1 it shall immediately notify the competent authority. If, following assessment by the competent authority, the competent authority determines and notifies the institution that the requirement in point (a) of paragraph 1 is not met, the institution shall cease to make use of paragraph 1 from the next reporting date.

section 2Own funds requirements for investment

firms with limited authorisation to provide investment services

Article 90Own funds requirements for investment firms with limited authorisation to provide investment services

1.        For the purposes of Article 87(3), investment firms that are not authorised to provide the investment services listed in points 3 and 6 of Section A of Annex I to Directive 2004/39/EC shall use the calculation of the total risk exposure amount specified in paragraph 2.

2.        Investment firms referred to in paragraph 1 shall calculate the total risk exposure amount as the higher of the following:

(a)       the sum of the items referred to in points (a) to (d) and (f) of Article 87(3) after applying paragraph 87(4);

(b)       12.5 multiplied by the amount specified in Article 92.

3.        Investment firms referred to in paragraph 1 are subject to all other provisions regarding operational risk laid down in Title VII, Chapter 3, section II, Sub-section 1 of Directive [inserted by OP].

Article 91Own funds requirements for investment firms which hold initial capital as laid down in Article 29 of Directive [inserted by OP]

1.        For the purposes of Article 87(3), the following categories of investment firm which hold initial capital in accordance with Article 29 of Directive [inserted by OP] shall use the calculation of the total risk exposure amount specified in paragraph 2:

(a)       investment firms that deal on own account only for the purpose of fulfilling or executing a client order or for the purpose of gaining entrance to a clearing and settlement system or a recognised exchange when acting in an agency capacity or executing a client order;

(b)       investment firms that do not hold client money or securities;

(c)       investment firms that undertake only dealing on own account;

(d)       investment firms that have no external customers;

(e)       investment firms for which the execution and settlement whose transactions takes place under the responsibility of a clearing institution and are guaranteed by that clearing institution.

2.        For investment firms referred to in paragraph 1, total risk exposure amount shall be calculated as the sum of the following:

(a)       points (a) to (d) and (f) of Article 87(3) after applying paragraph 87(4);

(b)       the amount referred to in Article 92 multiplied by 12.5.

3.        Investment firms referred to in paragraph 1 are subject to all other provisions regarding operational risk laid down in Title VII, Chapter 3, Section 2, Sub-section 1 of Directive [inserted by OP].

Article 92Own Funds based on Fixed Overheads

1.        In accordance with Article 90 and 91, an investment firm shall hold eligible capital of at least one quarter of the fixed overheads of the investment firm for the preceding year.

2.        Where there is a change in the business of an investment firm since the preceding year that the competent authority considers to be material, the competent authority may adjust the requirement laid down in paragraph 1.

3.        Where an investment firm has not completed business for one year, starting from the day it starts up, an investment firm shall hold eligible capital of at least one quarter of the fixed overheads projected in its business plan, except where the competent authority requires the business plan to be adjusted.

Article 93Own funds for investment firms on a consolidated basis

1.        In the case of the investment firms referred to in Article 90(1) in a group, where that group does not include credit institutions, a parent investment firm in a Member State shall apply Article 87 at a consolidated level as follows:

(a)       using the calculation of total risk exposure amount specified in Article 90(2);

(b)       own funds calculated on the basis of the consolidated financial situation of the parent investment firm.

2.        In the case of investment firms referred to in Article 91(1) in a group, where that group does not include credit institutions, an investment firm controlled by a financial holding company shall apply Article 87 at a consolidated level as follows:

(a)       it shall use the calculation of total risk exposure amount specified in Article 91(2);

(b)       own funds calculated on the basis of the consolidated financial situation of the parent investment firm.

Chapter 2Calculation and reporting requirements

Article 94Valuation

The valuation of assets and off-balance-sheet items shall be effected in accordance with the accounting framework to which the institution is subject under Regulation (EC) No 1606/2002 and Directive 86/635/EEC.

By derogation to paragraph 1, competent authorities may require that institutions effect the valuation of assets and off-balance-sheet items in accordance with International Accounting Standards as applicable under Regulation (EC) No 1606/2002.

Article 95Reporting on own funds requirements

and financial information

1.        Reporting by institutions on the obligations laid down in Article 87 shall be carried out at least on a quarterly basis.

This reporting shall also include financial information drawn up in accordance with the accounting framework to which the institution is subject under Regulation (EC) No 1606/2002 and Directive 86/635/EEC to the extent that:

(a)       EBA considers this information necessary to obtain a comprehensive view of the risk profile of an institution's activities;

(b)       EBA, in cooperation with the ESRB, considers this information necessary for the performance of macro-prudential oversight tasks, in accordance with Regulation (EU) No 1092/2010 and Regulation (EU) No 1093/2010.

Reporting by institutions on the obligations laid down in 87 shall be carried out at least twice each year.

Institutions shall communicate the results and any component data required to the competent authorities in a timely manner.

2.        EBA shall develop draft implementing technical standards to specify the definitions, classification criteria, uniform formats, frequencies and dates of reporting and the IT solutions to be applied in the Union for such reporting. Regarding the financial information, the scope of the implementing technical standard shall be limited to institutions that are subject to article 4 in Regulation (EC) No. 1606/2002. The reporting formats and frequency shall be proportionate to the nature, scale and complexity of the activities of the institutions. EBA shall consult the ESRB on the development of draft implementing technical standards related to the information referred to in paragraph 1a(b).

EBA shall submit those draft implementing technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the implementing standards referred to in the first sub-paragraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

Article 95 aAdditional reporting requirements

Institutions shall report the level, at least in aggregate terms, of repurchase agreements, securities lending and all forms of encumbrance or clawback arrangements.

Such information should be reported to a trade repository or a Central Securities Depository to enable access, inter alia, by EBA, ESMA, relevant competent authorities, the ESRB and relevant central banks and the ESCB.

In liquidation proceedings unregistered clawback arrangements shall not have legal effect.

Article 96Specific reporting obligations

1.        Institutions shall report the following data to the competent authorities:

(a)       losses stemming from lending collateralised, up to 80% of the market value or 80% of the mortgage lending value in any given year unless otherwise decided under Article 119(2), by residential property;

(b)       overall losses stemming from lending collateralised by residential property in any given year;

(c)       losses stemming from lending collateralised, up to 50% of the market value or 60% of the mortgage lending value in any given year unless otherwise decided under Article 119(2), by commercial immovable property;

(d)       overall losses stemming from lending collateralised by commercial immovable property in any given year.

2.        The competent authorities shall publish annually on an aggregated basis the data specified in points (a) to (d) of paragraph 1, together with historical data, where available. A competent authority shall, upon the request of another competent authority in a Member State or the EBA provide to that competent authority or the EBA more detailed information on the condition of the residential or commercial immovable property markets in that Member State.

3.        EBA shall develop draft implementing technical standards to specify the following:

(a)       uniform definition, formats, frequencies and dates of reporting of the items referred to in paragraph 1 in order to ensure consistency and comparability of reported losses;

(b)       uniform formats, frequencies and dates of publication of the aggregate data referred to in paragraph 2.

EBA shall submit those draft implementing technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the implementing technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

Chapter 3Trading book

Article 97Requirements for the Trading Book

1.        Positions in the trading book shall be either free of restrictions on their tradability or able to be hedged.

2.        Trading intent shall be evidenced on the basis of the strategies, policies and procedures set up by the institution to manage the position or portfolio in accordance with Article 98.

3.        Institutions shall establish and maintain systems and controls to manage their trading book in accordance with Articles 99 and 100.

4.        Institutions may include internal hedges in the calculation of capital requirements for position risk provided that they are held with trading intent and that the requirements of Articles 98 to 101 are met.

Article 98Management of the trading book

In managing its positions or sets of positions in the trading book the institution shall comply with all of the following requirements:

(a)       the institution shall have in place a clearly documented trading strategy for the position/instrument or portfolios, approved by senior management, which shall include the expected holding period;

(b)       the institution shall have in place clearly defined policies and procedures for the active management of positions entered into on a trading desk. Those policies and procedures shall include the following:

(i)        which positions may be entered into by which trading desk;

(ii)       position limits are set and monitored for appropriateness;

(iii)      dealers have the autonomy to enter into and manage the position within agreed limits and according to the approved strategy;

(iv)      positions are reported to senior management as an integral part of the institution's risk management process;

(v)       positions are actively monitored with reference to market information sources and an assessment made of the marketability or hedge-ability of the position or its component risks, including the assessment, the quality and availability of market inputs to the valuation process, level of market turnover, sizes of positions traded in the market;

(v a)    an active anti fraud strategy.

(c)       the institution shall have in place clearly defined policies and procedures to monitor the positions against the institution's trading strategy including the monitoring of turnover and positions for which the originally intended holding period has been exceeded.

Article 99Inclusion in the Trading Book

1.        Institutions shall have in place clearly defined policies and procedures for determining which position to include in the trading book for the purposes of calculating their capital requirements, in accordance with the requirements set out in Article T1 and the definition of trading book in accordance with Article 4, taking into account the institution's risk management capabilities and practices. The institution shall fully document its compliance with these policies and procedures and shall subject them to periodic internal audit.

2.        Institutions shall have in place clearly defined policies and procedures for the overall management of the trading book. These policies and procedures shall at least address:

(a)       the activities the institution considers to be trading and as constituting part of the trading book for own funds requirement purposes;

(b)       the extent to which a position can be marked-to-market daily by reference to an active, liquid two-way market;

(c)       for positions that are marked-to-model, the extent to which the institution can:

(i)        identify all material risks of the position;

(ii)       hedge all material risks of the position with instruments for which an active, liquid two-way market exists;

(iii)      derive reliable estimates for the key assumptions and parameters used in the model;

(d)      the extent to which the institution can, and is required to, generate valuations for the position that can be validated externally in a consistent manner;

(e)       the extent to which legal restrictions or other operational requirements would impede the institution's ability to effect a liquidation or hedge of the position in the short term;

(f)       the extent to which the institution can, and is required to, actively manage the risks of positions within its trading operation;

(g)       the extent to which the institution may transfer risk or positions between the non-trading and trading books and the criteria for such transfers.

Article 100Requirements for Prudent Valuation

1.        All trading book positions shall be subject to the standards for prudent valuation specified in this Article. Institutions shall in particular ensure that the prudent valuation of their trading book positions achieves an appropriate degree of certainty having regard to the dynamic nature of trading book positions, the demands of prudential soundness and the mode of operation and purpose of capital requirements in respect of trading book positions.

2.        Institutions shall establish and maintain systems and controls sufficient to provide prudent and reliable valuation estimates. Those systems and controls shall include at least the following elements:

(a)       documented policies and procedures for the process of valuation, including clearly defined responsibilities of the various areas involved in the determination of the valuation, sources of market information and review of their appropriateness, guidelines for the use of unobservable inputs reflecting the institution's assumptions of what market participants would use in pricing the position, frequency of independent valuation, timing of closing prices, procedures for adjusting valuations, month end and ad-hoc verification procedures;

(b)       reporting lines for the department accountable for the valuation process that are clear and independent of the front office.

Institutions shall develop, following technical standards to be issued by EBA latest by 1 Jan 2013, a marked to funding approach as specified in the definitions in this regulation. To begin with, this approach shall complement the marked to market, marked to model and book value approaches used by institutions and shall be reported alongside but after a trial period up to 2015, its effectiveness and use shall be evaluated by EBA which shall make a recommendation to the Commission as to whether the use of this approach should replace some of the other valuation approaches or at least be put on an equal statutory footing.

The reporting line shall ultimately be to a member of the management body.

3.        Institutions shall revalue trading book positions at least daily.

4.        Institutions shall mark their positions to market whenever possible, including when applying trading book capital treatment.

5.        When marking to market, an institution shall use the more prudent side of bid and offer unless the institution is a significant market maker in the particular type of financial instrument or commodity in question and it can close out at mid market.

6.        Where marking to market is not possible, institutions shall conservatively mark to model their positions and portfolios, including when calculating own funds requirements for positions in the trading book.

7.        Institutions shall comply with the following requirements when marking to model:

(a)       senior management shall be aware of the elements of the trading book or of other fair-valued positions which are subject to mark to model and shall understand the materiality of the uncertainty thereby created in the reporting of the risk/performance of the business;

(b)       institutions shall source market inputs, where possible, in line with market prices, and shall assess the appropriateness of the market inputs of the particular position being valued and the parameters of the model on a frequent basis;

(c)       where available, institutions shall use valuation methodologies which are accepted market practice for particular financial instruments or commodities;

(d)       where the model is developed by the institution itself, it shall be based on appropriate assumptions, which have been assessed and challenged by suitably qualified parties independent of the development process;

(e)       institutions shall have in place formal change control procedures and shall hold a secure copy of the model and use it periodically to check valuations;

(f)        risk management shall be aware of the weaknesses of the models used and how best to reflect those in the valuation output; and

(g)       institutions shall be subject to periodic review to determine the accuracy of its performance, which shall include assessing the continued appropriateness of assumptions, analysis of profit and loss versus risk factors, and comparison of actual close out values to model outputs.

For the purposes of point (d), the model shall be developed or approved independently of the trading desk and shall be independently tested, including validation of the mathematics, assumptions and software implementation.

8.        Institutions shall perform independent price verification in addition to daily marking to market or marking to model. Verification of market prices and model inputs shall be performed by a person or unit independent from persons or units that benefit from the trading book, at least monthly, or more frequently depending on the nature of the market or trading activity. Where independent pricing sources are not available or pricing sources are more subjective, prudent measures such as valuation adjustments may be appropriate.

9.        Institutions shall establish and maintain procedures for considering valuation adjustments.

10.      Institutions shall formally consider the following valuation adjustments unearned credit spreads, close-out costs, operational risks, early termination, investing and funding costs, future administrative costs and, where relevant, model risk.

11.      Institutions shall establish and maintain procedures for calculating an adjustment to the current valuation of any less liquid positions, which can in particular arise from market events or institution-related situations such as concentrated positions and/or positions for which the originally intended holding period has been exceeded. Institutions shall, where necessary, make such adjustments in addition to any changes to the value of the position required for financial reporting purposes and shall design such adjustments to reflect the illiquidity of the position. Under those procedures, institutions shall consider several factors when determining whether a valuation adjustment is necessary for less liquid positions. Those factors include the following:

(a)       the amount of time it would take to hedge out the position or the risks within the position;

(b)       the volatility and average of bid/offer spreads;

(c)       the availability of market quotes (number and identity of market makers) and the volatility and average of trading volumes including trading volumes during periods of market stress;

(d)       market concentrations;

(e)       the aging of positions;

(f)        the extent to which valuation relies on marking-to-model;

(g)       the impact of other model risks.

12.      When using third party valuations or marking to model, institutions shall consider whether to apply a valuation adjustment. In addition, institutions shall consider the need for establishing adjustments for less liquid positions and on an ongoing basis review their continued suitability.

13.      With regard to complex products, including securitisation exposures and n-th-to-default credit derivatives, institutions shall explicitly assess the need for valuation adjustments to reflect the model risk associated with using a possibly incorrect valuation methodology and the model risk associated with using unobservable (and possibly incorrect) calibration parameters in the valuation model.

Article 100aSpecific liquidity requirements

The competent authorities shall impose specific levels of in- and outflows where necessary to capture specific risks to which an institution or the consolidated group (pursuant to Art. 10 (3) CRR) or a liquidity sub-group (pursuant to Art. 7 CRR) is or might be exposed. For that purpose, they shall take into account the following items:

(a)       The particular business model of the institution;

(b)       Institutions' arrangements, processes and mechanisms referred to in Section II and in particular in Article 84;

(c)       The outcome of the review and evaluation carried out in accordance with the requirements in Section III.

(d)       Systemic liquidity risk that threatens the integrity of the financial markets of the given Member State.

Article 101Internal Hedges

1.        An internal hedge shall in particular meet the following requirements:

(a)       it shall not be primarily intended to avoid or reduce own funds requirements;

(b)       it shall be properly documented and subject to particular internal approval and audit procedures;

(c)       it shall be dealt with at market conditions;

(d)       the market risk that is generated by the internal hedge shall be dynamically managed in the trading book within the authorised limits;

(e)       it shall be carefully monitored.

2.        Monitoring shall be ensured by adequate procedures.

3.        The requirements of paragraph 1 apply without prejudice to the requirements applicable to the hedged position in the non-trading book.

4.        By way of derogation from paragraphs 1 and 2, when an institution hedges a non-trading book credit risk exposure or counterparty risk exposure using a credit derivative booked in its trading book using an internal hedge, the non-trading book or counterparty risk exposure shall not be deemed to be hedged for the purposes of calculating risk weighted exposure amounts unless the institution purchases from an eligible third party protection provider a corresponding credit derivative meeting the requirements for unfunded credit protection in the non-trading book. Without prejudice to point (i) of Article 293, where such third party protection is purchased and recognised as a hedge of a non-trading book exposure for the purposes of calculating capital requirements, neither the internal nor external credit derivative hedge shall be included in the trading book for the purposes of calculating capital requirements.

Title IICapital requirements for credit risk

Chapter 1

General principles

Article 102Approaches to credit risk

Institutions shall apply either the Standardised Approach provided for in Chapter 2 or, if permitted by the competent authorities in accordance with Article 138, the Internal Ratings Based Approach provided for in Chapter 3 to calculate their risk-weighted exposure amounts for the purposes of points (a) and (f) of Article 87(3).

Article 103Use of credit risk mitigation technique under the Standardised Approach and the IRB Approach

1.        For an exposure to which an institution applies the Standardised Approach under Chapter 2 or applies the IRB Approach under Chapter 3 but without using its own estimates of LGD and conversion factors under Article 146, the institution may use credit risk mitigation in accordance with Chapter 4 in the calculation of risk-weighted exposure amounts for the purposes of points (a) and (f) of Article 87(3) or, as relevant, expected loss amounts for the purposes of the calculation referred to in point (d) of Article 33(1) and point (c) of Article 59.

2.        For an exposure to which an institution applies the IRB Approach by using their own estimates of LGD and conversion factors under Articles 146, the institution may use credit risk mitigation in accordance with Chapter 3.

Article 104Treatment of securitised exposures under the Standardised Approach and the IRB Approach

1.        Where an institution uses the Standardised Approach under Chapter 2 for the calculation of risk-weighted exposure amounts for the exposure class to which the securitised exposures would be assigned under Article107, it shall calculate the risk-weighted exposure amount for a securitisation position in accordance with Articles 240, 241 and 246 to 253. Institutions using the Standardised Approach may also use the internal assessment approach where this has been permitted under Article 254(3).

2.        Where an institution uses the IRB Approach under Chapter 3 for the calculation of risk-weighted exposures amounts for the exposure class to which the securitised exposure would be assigned under Article 142it shall calculate the risk-weighted exposure amount in accordance with Articles 240, 241 and 254 to 261.

3.        Except for the internal assessment approach, where the IRB Approach is used only for a part of the securitised exposures underlying a securitisation, the institution shall use the approach corresponding to the predominant share of securitised exposures underlying this securitisation.

Article 105Treatment of credit risk adjustment

1.        Institutions applying the Standardised Approach shall treat general credit risk adjustments in accordance with Article 59 (c).

2.        Institutions applying the IRB Approach shall treat general credit risk adjustments in accordance with Article 155.

3.        For the purposes of this Article and Chapters 2 and 3, general and specific credit risk adjustments shall exclude funds for general banking risk.

4.        Institutions using the IRB Approach that apply the Standardised Approach for a part of their exposures on consolidated or individual basis, in accordance with Article 143 and 145 shall determine the part of general credit risk adjustment that shall be assigned to the treatment of general credit risk adjustment under the Standardised Approach and to the treatment of general credit risk adjustment under the IRB Approach as follows:

(a)       where applicable when an institution included in the consolidation exclusively applies the IRB Approach, general credit risk adjustments of this institution shall be assigned to the treatment set out in paragraph 2;

(b)       where applicable, when an institution included in the consolidation exclusively applies the Standard Approach, general credit risk adjustment of this institution shall be assigned to the treatment set out in paragraph 1(a);

5.        The remainder of credit risk adjustment shall be assigned on a pro rata basis according to the proportion of risk weighted exposure amounts subject to the Standardised Approach and subject to the IRB Approach.

EBA shall develop draft regulatory technical standards to specify the calculation of specific credit risk adjustments and general credit risk adjustments under the relevant accounting framework for the following:

(a)       exposure value under the Standardised Approach referred to in Articles 106 and 122;

(b)       exposure value under the IRB Approach referred to in Articles 162 to 164;

(c)       treatment of expected loss amounts referred to in Article 155;

(d)       exposure value for the calculation of the risk-weighted exposure amounts for securitisation position referred to in Article 241 and 261;

(e)       the determination of default under Article 174;

(f)        information on specific and general credit risk adjustment referred to in Article 428.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2013.

Power is delegated to the Commission to adopt the regulatory standards referred to in the first subparagraph in accordance with the procedure laid down in Article 10 to 14 of Regulation (EU) No 1093/2010.

Chapter 2Standardised Approach

Section 1General principles

Article 106Exposure value

1.        The exposure value of an asset item shall be its accounting value remaining after specific credit risk adjustments have been applied. The exposure value of an off-balance sheet item listed in Annex I shall be the following percentage of its nominal value after reduction of specific credit risk adjustments:

(a)       100 % if it is a full-risk item;

(b)       50 % if it is a medium-risk item;

(c)       20 % if it is a medium/low-risk item;

(d)       0 % if it is a low-risk item.

2.        The off-balance sheet items referred to in the second sentence of the first subparagraph shall be assigned to risk categories as indicated in Annex I.

3.        When an institution is using the Financial Collateral Comprehensive Method under Article 218, the exposure value of securities or commodities sold, posted or lent under a repurchase transaction or under a securities or commodities lending or borrowing transaction, and margin lending transactions shall be increased by the volatility adjustment appropriate to such securities or commodities as prescribed in Articles 218 to 220.

4.        The exposure value of a derivative instrument listed in Annex II shall be determined in accordance with Chapter 6 with the effects of contracts of novation and other netting agreements taken into account for the purposes of those methods in accordance with Chapter 6. The exposure value of repurchase transaction, securities or commodities lending or borrowing transactions, long settlement transactions and margin lending transactions may be determined either in accordance with Chapter 6 or Chapter 4.

5.        Where an exposure is subject to funded credit protection, the exposure value applicable to that item may be modified in accordance with Chapter 4.

Article 107Exposure classes

Each exposure shall be assigned to one of the following exposure classes:

(a)       claims or contingent claims on central governments or central banks;

(b)       claims or contingent claims on regional governments or local authorities;

(c)       claims or contingent claims on public sector entities;

(d)       claims or contingent claims on multilateral development banks;

(e)       claims or contingent claims on international organisations;

(f)        claims or contingent claims on institutions;

(g)       claims or contingent claims on corporates;

(h)       retail claims or contingent retail claims;

(i)        claims or contingent claims secured by mortgages on immovable property;

(j)        exposures in default;

(k)       claims in the form of covered bonds;

(l)        securitisation positions;

(m)      claims on institutions and corporate with a short-term credit assessment;

(n)       claims in the form of units or shares in collective investment undertakings (‘CIUs’);

(o)       equity claims;

(p)       other items.

Article 108Calculation of risk weighted exposure amounts

1.        To calculate risk-weighted exposure amounts, risk weights shall be applied to all exposures, unless deducted from own funds, in accordance with the provisions of Section 2. The application of risk weights shall be based on the exposure class to which the exposure is assigned and, to the extent specified in Section 2, its credit quality. Credit quality may be determined by reference to the credit assessments of External Credit Assessment Institutions (hereinafter referred to as ‘ECAIs’) as defined in Article 130 or the credit assessments of Export Credit Agencies in accordance with Section 3.

2.        For the purposes of applying a risk weight, as referred to in paragraph 1, the exposure value shall be multiplied by the risk weight specified or determined in accordance with Section 2.

3.        Where an exposure is subject to credit protection the risk weight applicable to that item may be modified in accordance with Chapter 4.

4.        Risk-weighted exposure amounts for securitised exposures shall be calculated in accordance with Chapter 5.

5.        Exposures for which no calculation is provided in Section 2 shall be assigned a risk-weight of 100 %.

6.        With the exception of exposures giving rise to liabilities in the form of Common Equity Tier 1, Additional Tier 1 or Tier 2 items, an institution may, subject to the permission of the competent authorities, decide not apply the requirements of paragraph 1 of this Article to the exposures of that institution to a counterparty which is its parent undertaking, its subsidiary, a subsidiary of its parent undertaking or an undertaking linked by a relationship within the meaning of Article 12(1) of Directive 83/349/EEC Competent authorities are empowered to authorise such an alternative method if the following conditions are fulfilled:

(a)       the counterparty is an institution, a financial holding company or a mixed financial holding company, financial institution, asset management company or ancillary services undertaking subject to appropriate prudential requirements;

(b)       the counterparty is included in the same consolidation as the institution on a full basis;

(c)       the counterparty is subject to the same risk evaluation, measurement and control procedures as the institution;

(d)       the counterparty is established in the same Member State as the institution;

(e)       there is no current or foreseen material practical or legal impediment to the prompt transfer of own funds or repayment of liabilities from the counterparty to the institution.

Where the institution, in accordance with this paragraph, is authorised not to apply the requirements of paragraph 1, it may assign a risk weight of 0 %.

7.        With the exception of exposures giving rise to liabilities in the form of Common Equity Tier 1, Additional Tier 1 and Tier 2 items, institutions may, subject to the permission of the competent authorities, not apply all the requirements of paragraph 1 of this Article to exposures to counterparties with which the institution has entered into an institutional protection scheme that is a contractual or statutory liability arrangement which protects those institutions and in particular ensures their liquidity and solvency to avoid bankruptcy in case it becomes necessary. Competent authorities are empowered to authorize such an alternative method if the following conditions are fulfilled:

(a)       the requirements set out in points (a), (d) and (e) of paragraph 6 are met;

(b)       the arrangements ensure that the institutional protection scheme is able to grant support necessary under its commitment from funds readily available to it;

(c)       the institutional protection scheme disposes of suitable and uniformly stipulated systems for the monitoring and classification of risk, which gives a complete overview of the risk situations of all the individual members and the institutional protection scheme as a whole, with corresponding possibilities to take influence; those systems shall suitably monitor defaulted exposures in accordance with Article 174(1);

(d)       the institutional protection scheme conducts its own risk review which is communicated to the individual members;

(e)       the institutional protection scheme draws up and publishes on an annual basis, a consolidated report comprising the balance sheet, the profit-and-loss account, the situation report and the risk report, concerning the institutional protection scheme as a whole, or a report comprising the aggregated balance sheet, the aggregated profit-and-loss account, the situation report and the risk report, concerning the institutional protection scheme as a whole;

(f)        members of the institutional protection scheme are obliged to give advance notice of at least 24 months if they wish to end the institutional protection scheme;

(g)       the multiple use of elements eligible for the calculation of own funds (hereinafter referred to as ‘multiple gearing’) as well as any inappropriate creation of own funds between the members of the institutional protection scheme shall be eliminated;

(h)       The institutional protection scheme shall be based on a broad membership of credit institutions of a predominantly homogeneous business profile;

(i)        the adequacy of the systems referred to in point (d) is approved and monitored at regular intervals by the relevant competent authorities.

Where the institution, in accordance with this paragraph, decides not to apply the requirements of paragraph 1, it shall assign a risk weight of 0 %.

8.        Risk weighted exposure amounts for exposures arising from an institution's pre-funded contribution to the default fund of a CCP and trade exposures with a CCP shall be determined in accordance with Articles 296 to 300 as applicable.

Article 109Exposures to central governments or central banks

1.        Exposures to central governments and central banks shall be assigned a 100 % risk weight, unless the treatments set out in paragraphs 2 to 5 apply.

2.        Exposures to central governments and central banks for which a credit assessment by a nominated ECAI is available shall be assigned a risk weight according to Table 1 which corresponds to the credit assessment of the eligible ECAI in accordance with Article 131.

Table 1

Credit quality step

1

2

3

4

5

6

Risk weight

0 %

20 %

50 %

100 %

100 %

150 %

3.        Exposures to the European Central Bank shall be assigned a 0 % risk weight.

4.        Exposures to Member States' central governments, regional governments and central banks denominated and funded in the domestic currency of that central government and central bank shall be assigned a risk weight of 0 %.

In its future legislative proposal, the European Commission shall apply a 0% risk weight to Eurobonds issued with some form of joint and several guarantee by Euro zone Member States.

4a.      Institutions shall not hold disproportionate amounts of sovereign debt of any specific country, having due regard to all circumstances. The EBA shall monitor and set guidelines on appropriate levels of exposure.

5.        When the competent authorities of a third country which apply supervisory and regulatory arrangements at least equivalent to those applied in the Union assign a risk weight which is lower than that indicated in paragraphs 1 to 2 to exposures to their central government and central bank denominated and funded in the domestic currency, institutions may risk weight such exposures in the same manner.

For the purposes of this paragraph, the Commission may adopt, by way of implementing acts, and subject to the examination procedure referred to in Article 447(2), a decision as to whether a third country applies supervisory and regulatory arrangements at least equivalent to those applied in the Union. In the absence of such a decision, until 1 January 2014, institutions may continue to apply the treatment set out in this paragraph to third country where the relevant competent authorities had approved the third country as eligible for this treatment before 1 January 2013.

Article 110Exposures to regional governments or local authorities

1.        Exposures to regional governments or local authorities shall be risk-weighted as exposures to institutions unless they are treated as exposures to central governments under paragraphs 2 or 4. The preferential treatment for short-term exposures specified in Articles 115(2), and 114(2) shall not be applied.

2.        Exposures to regional governments or local authorities shall be treated as exposures to the central government in whose jurisdiction they are established where there is no difference in risk between such exposures because of the specific revenue-raising powers of the former, and the existence of specific institutional arrangements the effect of which is to reduce their risk of default.

EBA shall maintain a publicly available database of all such regional governments and local authorities in regard to which exposures are treated as exposures to the central government.

3.        Exposures to churches or religious communities constituted in the form of a legal person under public law shall, in so far as they raise taxes in accordance with legislation conferring on them the right to do so, be treated as exposures to regional governments and local authorities. However that paragraph 2 shall not apply. In this case for the purposes of Article 145(1)(a), permission to apply the Standardised Approach shall not be excluded.

4.        When competent authorities of a third country jurisdiction which applies supervisory and regulatory arrangements at least equivalent to those applied in the Union treat exposures to regional governments or local authorities as exposures to their central government and there is no difference in risk between such exposures because of the specific revenue-raising powers of regional government or local authorities and to specific institutional arrangements to reduce the risk of default, institutions may risk weight exposures to such regional governments and local authorities in the same manner.

For the purposes of this paragraph, the Commission may adopt, by way of implementing acts, and subject to the examination procedure referred to in Article 447(2), a decision as to whether a third country applies supervisory and regulatory arrangements at least equivalent to those applied in the Union. In the absence of such a decision, until 1 January 2014, institutions may continue to apply the treatment set out in this paragraph to third country where the relevant competent authorities had approved the third country as eligible for this treatment before 1 January 2013.

5.        Exposures to regional governments or local authorities of the Member States that are not referred to in paragraphs 2 to 4 and are denominated and funded in the domestic currency of that regional government and local authority shall be assigned a risk weight of 20 %.

Article 111Exposures to public sector entities

1.        Exposures to public sector entities for which a credit assessment by a nominated ECAI is not available shall be assigned a risk weight according to the credit quality step to which exposures to the central government of the jurisdiction in which the Public Sector Entity is incorporated are assigned in accordance with the following Table 2:

Table 2

Credit quality step to which central government is assigned

1

2

3

4

5

6

Risk weight

20 %

50 %

100 %

100 %

100 %

150 %

For exposures to public sector entities incorporated in countries where the central government is unrated, the risk weight shall be 100%.

2.        Exposures to public sector entities for which a credit assessment by a nominated ECAI is available shall be treated according to Article 115. The preferential treatment for short-term exposures specified in Articles 114(2) and 115(2), shall not be applied to those entities.

3.        For exposures to public sector entities with an original maturity of 3 months or less, the risk weight shall be 20 %.

4.        Exposures to public-sector entities may be treated as exposures to the central government, regional governments or local authority in whose jurisdiction they are established where there is no difference in risk between such exposures because of the existence of an appropriate guarantee by the central government, regional governments or local authority.

5.        For the purposes of this paragraph, the Commission may adopt, by way of implementing acts, and subject to the examination procedure referred to in Article 447(2), a decision as to whether a third country applies supervisory and regulatory arrangements at least equivalent to those applied in the Union. In the absence of such a decision, until 1 January 2014, institutions may continue to apply the treatment set out in this paragraph to third country where the relevant competent authorities had approved the third country as eligible for this treatment before 1 January 2013.

Article 112Exposures to multilateral development banks

1.        Exposures to multilateral development banks that are not referred to in paragraph 2 shall be treated in the same manner as exposures to institutions. The preferential treatment for short-term exposures as specified in Articles 115(2), 115(4) shall not be applied.

2.        The Inter-American Investment Corporation, the Black Sea Trade and Development Bank and the Central American Bank for Economic Integration shall be considered Multilateral Development Banks (MDB).

3.        Exposures to the following multilateral development banks shall be assigned a 0 % risk weight:

(a)       the International Bank for Reconstruction and Development;

(b)       the International Finance Corporation;

(c)       the Inter-American Development Bank;

(d)       the Asian Development Bank;

(e)       the African Development Bank;

(f)        the Council of Europe Development Bank;

(g)       the Nordic Investment Bank;

(h)       the Caribbean Development Bank;

(i)        the European Bank for Reconstruction and Development;

(j)        the European Investment Bank;

(k)       the European Investment Fund;

(l)        the Multilateral Investment Guarantee Agency;

(m)      the International Finance Facility for Immunisation;

(n)       the Islamic Development Bank.

2.        A risk weight of 20 % shall be assigned to the portion of unpaid capital subscribed to the European Investment Fund.

Article 113Exposures to international organisations

Exposures to the following international organisations shall be assigned a 0 % risk weight:

(a)       the European Union;

(b)       the International Monetary Fund;

(c)       the Bank for International Settlements;

(d)       the European Financial Stability Facility

(da)     the European Stabilisation Mechanism;

(e)       an international financial institution established by two or more Member States, which has the purpose to mobilise funding and provide financial assistance to the benefit of its members that are experiencing or threatened by severe financing problems.

Article 114Exposures to institutions

1.        One of the two methods described in Article 115 paragraphs 1 and 2, and Article 116 shall apply in determining the risk weights for exposures to institutions.

2.        Without prejudice to the other provisions of Article 116, exposures to financial institutions authorised and supervised by the competent authorities responsible for the authorisation and supervision of credit institutions and subject to prudential requirements equivalent to those applied to credit institutions shall be risk-weighted as exposures to institutions.

3.        Exposures to an unrated institution shall not be assigned a risk weight lower than that applied to exposures to its central government.

Article 115Exposures to rated institutions

1.        Exposures to institutions with a residual maturity of more than three months for which a credit assessment by a nominated ECAI is available shall be assigned a risk weight according to Table 3 which corresponds to the credit assessment of the eligible ECAI in accordance with Article 131.

Table 3

Credit quality step

1

2

3

4

5

6

Risk weight

20 %

50 %

50 %

100 %

100 %

150 %

2.        Exposures to an institution of up to three months residual maturity for which a credit assessment by a nominated ECAI is available shall be assigned a risk-weight according to Table 4 which corresponds to the credit assessment of the eligible ECAI in accordance with Article 131:

Table 4

Credit quality step

1

2

3

4

5

6

Risk weight

20 %

20 %

20 %

50 %

50 %

150 %

2a.      Exposures to institutions which are promotional banks made available in the context of public programmes or in accordance with the statutes of the promotional bank shall be assigned a risk weight pursuant to Article 116.

Article 115 aCentral government risk weight based method

1.        Exposures to institutions shall be assigned a risk weight according to the credit quality step to which exposures to the central government of the jurisdiction in which the institution is incorporated are assigned in accordance with Table 3

Table 3

Credit quality step to which central government is assigned

1

2

3

4

5

6

Risk weight of exposure

20 %

50 %

100 %

100 %

100 %

150 %

2.        For exposures to institutions incorporated in countries where the central government is unrated, the risk weight shall be not more than 100 %.

3.        For exposures to institutions with an original effective maturity of three months or less, the risk weight shall be 20 %.

Article 116 aCredit assessment based method

1.        Exposures to institutions with an original effective maturity of more than three months for which a credit assessment by a nominated ECAI is available shall be assigned a risk weight according to Table 4 in accordance with the assignment by the competent authorities of the credit assessments of eligible ECAIs to six steps in a credit quality assessment scale.

Table 4

Credit quality step

1

2

3

4

5

6

Risk weight

20 %

50 %

50 %

100 %

100 %

150 %

2.        Exposures to unrated institutions shall be assigned a risk weight of 50 %.

3.        Exposures to an institution with an original effective maturity of three months or less for which a credit assessment by a nominated ECAI is available shall be assigned a risk weight according to Table 5 in accordance with the assignment by the competent authorities of the credit assessments of eligible ECAIs to six steps in a credit quality assessment scale:

Table 5

Credit quality step

1

2

3

4

5

6

Risk weight

20 %

20 %

20 %

50 %

50 %

150 %

4.        Exposures to unrated institutions having an original effective maturity of three months or less shall be assigned a 20 % risk weight.

Article 116 bInteraction with short-term credit assessments

1.        If the method specified in Article 116 is applied to exposures to institutions, then the interaction with specific short-term assessments shall be as follows.

2.        If there is no short-term exposure assessment, the general preferential treatment for short-term exposures as specified in Article 116 paragraph 3 shall apply to all exposures to institutions of up to three months residual maturity.

3.        If there is a short-term assessment and such an assessment determines the application of a more favourable or identical risk weight than the use of the general preferential treatment for short-term exposures, as specified in Article 116 paragraph 3, then the short-term assessment shall be used for that specific exposure only. Other short-term exposures shall follow the general preferential treatment for short-term exposures, as specified in Article 116 paragraph 3.

4.        If there is a short-term assessment and such an assessment determines a less favourable risk weight than the use of the general preferential treatment for short-term exposures, as specified in Article 116 paragraph 3, then the general preferential treatment for short-term exposures shall not be used and all unrated short-term claims shall be assigned the same risk weight as that applied by the specific short-term assessment.

Article 116 cShort-term exposures in the national currency of the borrower

1.        Exposures to institutions of a residual maturity of 3 months or less denominated and funded in the national currency may, subject to the discretion of the competent authority, be assigned, under both methods described in Article 115 paragraphs 1 and 2, and Article 116, a risk weight that is one category less favourable than the preferential risk weight, assigned to exposures to its central government.

2.        No exposures of a residual maturity of 3 months or less denominated and funded in the national currency of the borrower shall be assigned a risk weight less than 20 %.

Article 116 dInvestments in regulatory capital instruments

Investments in equity or regulatory capital instruments issued by institutions shall be risk weighted at 100 %, unless deducted from the own funds.

Article 116 eMinimum reserves required by the ECB

1.        Where an exposure to an institution is in the form of minimum reserves required by the ECB or by the central bank of a Member State to be held by the credit institution, Member States may permit the assignment of the risk weight that would be assigned to exposures to the central bank of the Member State in question provided:

(a)       the reserves are held in accordance with Regulation (EC) No 1745/2003 of the European Central Bank of 12 September 2003 on the application of minimum reserves or a subsequent replacement regulation or in accordance with national requirements in all material respects equivalent to that Regulation; and

(b)       in the event of the bankruptcy or insolvency of the institution where the reserves are held, the reserves are fully repaid to the credit institution in a timely manner and are not made available to meet other liabilities of the institution.

Article 117Exposures to corporates

1.        Exposures for which a credit assessment by a nominated ECAI is available shall be assigned a risk weight according to Table 6 which corresponds to the credit assessment of the eligible ECAI in accordance with Article 131.

Table 6

Credit quality step

1

2

3

4

5

6

Risk weight

20 %

50 %

100 %

100 %

150 %

150 %

2.        Exposures for which such a credit assessment is not available shall be assigned a 100 % risk weight or the risk weight of its central government, whichever is the higher, except for SMEs for which a reduced rate may be applicable as defined elsewhere in this legislative package and as expected to be contained in the recommendations of EBA due September 2012.

Article 118Retail exposures

Exposures that comply with the following criteria shall be assigned a risk weight of 75 %:

(a)       the exposure shall be either to an natural person or persons ▌;

(b)       the exposure shall be one of a significant number of exposures with similar characteristics such that the risks associated with such lending are substantially reduced;

(c)       the total amount owed to the institution and parent undertakings and its subsidiaries, including any exposure in default, by the obligor client or group of connected clients, but excluding claims or contingent claims secured on residential property collateral, shall not, to the knowledge of the institution, exceed EUR 2 million. The institution shall take reasonable steps to acquire this knowledge.

(ca)       the exposure has been made on the basis of proper due diligence based on customer specific information gleaned from a relationship with the customer and not available on standard credit scores and databases that can be bought in the market.

By derogation to point (a), exposures to a small and medium sized enterprise as well as a natural person investing in its business that fulfil the criteria referred to in point (b) to (ca) shall be assigned a risk weight of 75% * 0,7619.

Securities shall not be eligible for the retail exposure class.

The present value of retail minimum lease payments is eligible for the retail exposure class.

Article 119Exposures secured by mortgages on immovable property

1.        An exposure or any part of an exposure fully secured by mortgage on immovable property shall be assigned a risk weight of 100 %, where the conditions under Article 120 and Article 121 are not met, except for any part of the exposure which is assigned to another exposure class. Where the loan exceeds the value of the secured property, the exposure shall be assigned a risk weight proportionally higher than 100%.

The part of an exposure treated as fully and completely secured by immovable property shall not be higher than the pledged amount of the market value or in those Member States that have laid down rigorous criteria for the assessment of the mortgage lending value in statutory or regulatory provisions, the mortgage lending value of the property in question.

2.        Based on the data collected under Article 96, and any other relevant indicators, the competent authorities shall periodically, and at least annually, assess whether the risk-weight of 35% for exposures secured by mortgages on residential property referred to in Article 120 and the risk weight of 50% for exposures secured on commercial immovable property referred to in Article 121 located in its territory are appropriate based on the default experience of exposures secured by immovable property and taking into account forward-looking immovable property markets developments, and may set a higher risk weight or stricter criteria than those set out in Article 120(2) and 121(2), where appropriate, on the basis of financial stability considerations. EBA shall coordinate the assessments carried out by the competent authorities.

2a.      When competent authorities set a stricter risk weight or stricter criteria, institutions shall have a 6-month transitional period before the new risk weight applies.

The competent authorities shall consult EBA on the adjustments to the risk weights and criteria applied. EBA shall publish the risk weights and criteria that the competent authorities set for exposures referred to in Articles 120, 121 and 195.

EBA shall develop regulatory technical standards to specify the conditions that competent authorities shall take into account when determining stricter risk-weights or stricter criteria.

EBA shall submit those draft technical standards to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU)No 1093/2010.

EBA on its own initiative or on request of the ESRB may, based on sound assessment of the default experiences and private and commercial immovable property market developments in a Member State, issue warnings to the relevant competent authorities and call for the introduction of stricter risk weights or stricter criteria.

In case of non action EBA shall publish those warnings.

EBA on its own initiative or on request of the ESRB may also call on the Council to take a decision in accordance with Article 18 Paragraph 2 of Regulation No. 1093/2010 of the European Parliament and of the Council. In this case EBA may take a decision in accordance to Art. 18 Paragraph 3 of Regulation No. 1093/2010 of the European Parliament and of the Council to implement stricter risk weights or stricter criteria for the affected markets.

3.        The institutions of one Member State shall apply the risk-weights and criteria that have been determined by the competent authorities of another Member State to exposures secured by mortgages on commercial and residential immovable property located in that Member State.

Article 120

Exposures fully and completely secured by residential property

1.        Unless otherwise decided by the competent authorities in accordance with Article 119(2), exposures fully and completely secured by mortgages on residential property shall be treated as follows:

(a)       exposures or any part of an exposure fully and completely secured by mortgages on residential property which is or shall be occupied or let by the owner, or the beneficial owner in the case of personal investment companies, shall be assigned a risk weight of 35%;

(c)       exposures to a tenant under a property leasing transaction concerning residential property under which the institution is the lessor and the tenant has an option to purchase, shall be assigned a risk weight of 35 % provided that the exposure of the institution is fully and completely secured by its ownership of the property.

2.        Institutions shall consider an exposure or any part of an exposure as fully and completely secured for the purposes of paragraph 1 only if the following conditions are met:

(a)       the value of the property does not materially depend upon the credit quality of the borrower. Institutions may exclude situations where purely macro-economic factors affect both the value of the property and the performance of the borrower from their determination of the materiality of such dependence;

(b)       the risk of the borrower does not materially depend upon changes in the performance or the value of the underlying property or project, but on the underlying capacity of the borrower to repay the debt from other sources, and as a consequence, the repayment of the facility does not materially depend on any cash flow generated by the underlying property serving as collateral. For those other sources, institutions shall determine maximum loan-to-income ratios taking into account borrower's assets and obtain suitable evidence of the relevant income and assets when granting the loan. Institutions shall have in place criteria regarding loan-to-value and debt-to-income ratios against which loan-to-income ratios can be weighted.

(c)       the requirements set out in Article 203 and the valuation rules set out in Article 224(1) are met;

(d)       the part of the loan to which the 35% risk weight unless otherwise determined under Article 119(2) is assigned does not exceed 80% unless otherwise determined under Article 119(2) of the market value of the property in question or 80% of the mortgage lending value unless otherwise determined under Article 119(2) of the property in question in those Member States that have laid down rigorous criteria for the assessment of the mortgage lending value in statutory or regulatory provisions.

3.        Institutions may derogate from paragraph 1 and point (b) in paragraph 2 for exposures fully and completely secured by mortgages on residential property which is situated within the territory of a Member State, where the competent authority of that Member State has published evidence showing that a well-developed and long-established residential property market is present in that territory with loss rates which do not exceed the following limits:

(a)       losses stemming from lending collateralised by residential property up to 80% of the market value or 80% of the mortgage lending value unless otherwise decided under Article 119(2) do not exceed 0,3% of the outstanding loans collateralised by residential property in any given year;

(b)       overall losses stemming from lending collateralised by residential property do not exceed 0,5% of the outstanding loans collateralised by residential property in any given year.

4.        If either of the limits referred to in paragraph 3 is not satisfied in a given year, the eligibility to use paragraph 3 shall cease and the condition contained in paragraph 2(b) shall apply until the conditions in paragraph 3 are satisfied in a subsequent year.

Article 121Exposures fully and completely secured by mortgages on commercial immovable property

1.        Unless otherwise decided by the competent authorities in accordance with Article 119(2), exposures fully and completely secured by mortgages on commercial immovable property shall be treated as follows:

(a)       exposures or any part of an exposure fully and completely secured by mortgages on offices or other commercial premises may be assigned a risk weight of 50%;

(c)       exposures related to property leasing transactions concerning offices or other commercial premises under which the institution is the less or and the tenant has an option to purchase may be assigned a risk weight of 50 % provided that the exposure of the institution is fully and completely secured by its ownership of the property. In a Member State where competent authorities have determined this risk weight is appropriate, according to article 119 (2) and where commercial real estate leasing is regulated and supervised, this risk weight will be assigned without the application of paragraph 2 (d) here below.

2.        The application of paragraph 1 is subject to the following conditions:

(a)       the value of the property shall not materially depend upon the credit quality of the borrower. Institutions may exclude situations where purely macro-economic factors affect both the value of the property and the performance of the borrower from their determination of the materiality of such dependence;

(b)       the risk of the borrower shall not materially depend upon the performance of the underlying property or project, but rather on the underlying capacity of the borrower to repay the debt from other sources, and as a consequence, the repayment of the facility shall not materially depend on any cash flow generated by the underlying property serving as collateral;

(c)       the requirements set out in Article 203 and the valuation rules set out in 224(1) are met;

(d)       The 50 % risk weight unless otherwise provided under Article 119(2) shall be assigned to the part of the loan that does not exceed 50 % of the market value of the property or 60 % of the mortgage lending value unless otherwise provided under Article 119(2) of the property in question in those Member States that have laid down rigorous criteria for the assessment of the mortgage lending value in statutory or regulatory provisions.

3.        Institutions may derogate from paragraph 1 and point (b) in paragraph 2 for exposures fully and completely secured by mortgages on residential property which is situated within the territory of a Member State, where the competent authority of that Member State gives its approval and has published evidence showing that a well-developed and long-established residential property market is present in that territory and it expects that long run average annual loss rates will not exceed the following limits over a representative mix of good and bad years:

(a)       losses stemming from lending collateralised by commercial immovable property up to 50 % of the market value or 60 % of the mortgage lending value (unless otherwise determined under Article 119(2)) do not exceed 0,3 % of the outstanding loans collateralised by commercial immovable property over a representative mix of good and bad years;

(b)       overall losses stemming from lending collateralised by commercial immovable property do not exceed 0,5 % of the outstanding loans collateralised by commercial immovable property over a representative mix of good and bad years.

4.        Where either of the limits referred to in paragraph 3 is not satisfied in a given year, the eligibility to use paragraph 3 shall cease and the condition contained in paragraph 2(b) shall apply until the conditions in paragraph 3 are satisfied in a subsequent year.

Article 121 aExposures fully and completely secured by infrastructure

Unless otherwise decided by the competent authority, exposures fully and completely secured by mortgages on critical infrastructure projects in the European Union in the fields of transport, energy and communications shall be treated as follows:

(a)       where the exposure is of a long dated maturity of 5 years or more and the institution co-invests with the European Investment Bank, the exposure may be assigned a risk weight of 50% of what the risk weight would otherwise be under this regulation;

(b)       where the exposure is of a long dated maturity of 5 years or more the exposure may be assigned a risk weight of 75% of what the risk weight would otherwise be under this Regulation.

Article 122Exposures in default

1.        The unsecured part of any item for which a default has occurred according to Article 174 shall be assigned a risk weight of:

(a)       150 %, where specific credit risk adjustments are less than 20 % of the unsecured part of the exposure value if these specific credit risk adjustments were not applied;

(b)       100 %, where specific credit risk adjustments are no less than 20 % of the unsecured part of the exposure value if these specific credit risk adjustments were not applied.

2.        For the purpose of determining the secured part of the past due item, eligible collateral and guarantees shall be those eligible for credit risk mitigation purposes under Chapter 4.

3.        Exposures fully and completely secured by mortgages on residential property in accordance with Article 120 shall be assigned a risk weight of 100 % net of value adjustments if a default has occurred according to Article 174

4.        Exposures fully and completely secured by mortgages on commercial immovable property in accordance with Article 121 shall be assigned a risk weight of 100 % if a default has occurred according to Article 174

Article 123Items associated with particular high risk

1.        Institutions shall assign a 150% risk weight to exposures, including exposures in the form of shares or units in a Collective Investment Undertaking that are associated with particularly high risks, where appropriate.

2.        Exposures with particularly high risks shall include any of the following investments:

(a)       investments in venture capital firms unless covered by an SME exemption or alternative risk weight;

(b)       alternative investment funds as defined by Article 4(1)(1) of Directive [inserted by OP - Directive on Alternative Investment Fund Managers]; unless the institution applies the credit risk assessment method under Article 127 (2), or the look-through approach in Article 127 (4) or the average risk weight approach under Article (5) when the conditions in Article 127 (3) are met;

(c)       speculative immovable property financing.

3.        When assessing whether an exposure other than exposures referred to in the paragraph 2 is associated with particularly high risks, institutions shall take into account the following risk characteristics:

(a)       there is a high risk of loss as a result of a default of the obligor;

(b)       it is impossible to assess adequately whether the exposure falls under point (a).

EBA shall issue guidelines specifying which types of exposures are associated with particularly high risk and under which circumstances.

The guidelines shall be adopted in accordance with Article 16 of Regulation (EU) No 1093/2010.

Article 124Exposures in the form of covered bonds

1.        To be eligible for the preferential treatment set out in paragraph 3, ‘covered bonds’ shall mean bonds as defined in Article 52(4) of Directive 2009/65/EC of the European Parliament and of the Council of 13 July 2009 on the coordination of laws, regulations and administrative provisions relating to undertakings for collective investment in transferable securities (UCITS)(20) and collateralised by any of the following eligible assets:

(a)       exposures to or guaranteed by central governments, central banks, public sector entities, regional governments and local authorities in the Union;

(b)       exposures to or guaranteed by third country central governments, non-EU central banks, multilateral development banks, international organisations that qualify for the credit quality step 1 as set out in this Chapter, and exposures to or guaranteed by non-EU public sector entities, non-EU regional governments and non-EU local authorities that are risk weighted as exposures to institutions or central governments and central banks according to Articles 110(1), 110(2), 111(1), 111(2) or 111(4) respectively and that qualify for the credit quality step 1 as set out in this Chapter, and exposures in the sense of this point that qualify as a minimum for the credit quality step 2 as set out in this Chapter, provided that they do not exceed 20 % of the nominal amount of outstanding covered bonds of issuing institutions;

(c)       exposures to institutions that qualify for the credit quality step 1 as set out in this Chapter. The total exposure of this kind shall not exceed 15 % of the nominal amount of outstanding covered bonds of the issuing institution. Exposures caused by transmission and management of payments of the obligors of, or liquidation proceeds in respect of, loans secured by immovable property to the holders of covered bonds shall not be comprised by the 15 % limit. Exposures to institutions in the EU with a maturity not exceeding 100 days shall not be comprised by the step 1 requirement but those institutions shall as a minimum qualify for credit quality step 2 as set out in this Chapter;

The competent authorities may, after having consulted EBA, partly waive the application of (c) and allow credit quality step 2 for up to 10 % of the total exposure of the nominal amount of outstanding covered bonds of the issuing institution, provided that significant potential concentration problems in the Member States concerned can be documented due to the application of the credit quality step 1 requirement referred to in (c);

(d)       loans secured by residential property ▌ up to the lesser of the principal amount of the liens that are combined with any prior liens and 80 % of the value of the pledged properties or by senior units issued by French Fonds Communs de Créances or by equivalent securitisation entities governed by the laws of a Member State securitising residential property exposures. In the event of such senior units being used as collateral, the special public supervision to protect bond holders as provided for in Article 52(4) of Directive 2009/65/EC of the European Parliament and of the Council of 13 July 2009 on the coordination of laws, regulations and administrative provisions relating to undertakings for collective investment in transferable securities (UCITS) shall ensure that the assets underlying such units shall, at any time while they are included in the cover pool be at least 90 % composed of residential mortgages that are combined with any prior liens up to the lesser of the principal amounts due under the units, the principal amounts of the liens, and 80 % of the value of the pledged properties, that the units qualify for the credit quality step 1 as set out in this Chapter and that such units do not exceed 10 % of the nominal amount of the outstanding issue;

Exposures caused by transmission and management of payments of the obligors of, or liquidation proceeds in respect of, loans secured by pledged properties of the senior units or debt securities shall not be comprised in calculating the 90 % limit;

(da)     residential loans fully guaranteed by an eligible protection provider referred to in Article 197 qualifying for the credit quality step 2 or above as set out in this Chapter, where the limit for covered bonds issuance complies with the 80% limit set up in letter (d) and where a loan-to-income ratio respects at most 35% when the loan has been granted. The loan-to-income ratio represents the share of the gross income of the borrower that covers the reimbursement of the loan, including the interests. The protection provider shall be supervised by the competent authorities and shall establish a mutual guarantee fund or equivalent protection for regulated insurance companies to absorb credit risk losses, whose calibration shall be periodically reviewed by the competent authorities. Both the credit institution and the protection provider shall carry out a creditworthiness assessment of the borrower.

(e)       loans secured by commercial immovable property ▌ up to the lesser of the principal amount of the liens that are combined with any prior liens and 60 % of the value of the pledged properties or by senior units issued by French Fonds Communs de Créances or by equivalent securitisation entities governed by the laws of a Member State securitising commercial immovable property exposures. In the event of such senior units being used as collateral, the special public supervision to protect bond holders as provided for in Article 52(4) of Directive 2009/65/EC shall ensure that the assets underlying such units shall, at any time while they are included in the cover pool be at least 90 % composed of commercial mortgages that are combined with any prior liens up to the lesser of the principal amounts due under the units, the principal amounts of the liens, and 60 % of the value of the pledged properties, that the units qualify for the credit quality step 1 as set out in this Chapter and that such units do not exceed 10 % of the nominal amount of the outstanding issue. Loans secured by commercial immovable property are eligible where the Loan to Value ratio of 60 % is exceeded up to a maximum level of 70 % if the value of the total assets pledged as collateral for the covered bonds exceed the nominal amount outstanding on the covered bond by at least 10 %, and the bondholders' claim meets the legal certainty requirements set out in Chapter 4. The bondholders’ claim shall take priority over all other claims on the collateral. Exposures caused by transmission and management of payments of the obligors of, or liquidation proceeds in respect of, loans secured by pledged properties of the senior units or debt securities shall not be comprised in calculating the 90 % limit;

(ea)     the 10% limit for senior units issued by French Fonds Communs de Créances or by equivalent securitisation entities laid down in points (d) and (e) of the present Article 124(1) shall not apply provided that:

(i)       the securitised residential or commercial real estate exposures were originated by a member of the same consolidated group of which the issuer of the covered bonds is also a member or by an entity affiliated to the same central body to which the issuer of the covered bonds is also affiliated (that common group membership or affiliation to be determined at the time the senior units are made collateral for covered bonds;

(ii)      a member of the same consolidated group of which the issuer of the covered bonds is also a member, or an entity affiliated to the same central body to which the issuer of the covered bonds is also affiliated, retains the whole first loss tranche supporting those senior units;

(f)        loans secured by ships where only liens that are combined with any prior liens within 60 % of the value of the pledged ship.

the situations in points (a) to (f) also include collateral that is exclusively restricted by legislation to the protection of the bond-holders against losses.

2.        Institutions shall for immovable property collateralising covered bonds meet the requirements set out in Article 203 and the valuation rules set out in Article 224(1).

3.        Covered bonds for which a credit assessment by a nominated ECAI is available shall be assigned a risk weight according to Table 6a which corresponds to the credit assessment of the eligible ECAI in accordance with Article 131, provided however that up to date portfolio information is disclosed and made readily available to investors on an ongoing basis, at least quarterly.

Table 6a

Credit quality step

1

2

3

4

5

6

Risk weight

10 %

20 %

20 %

50 %

50 %

100 %

4.        Covered bonds for which a credit assessment by a nominated ECAI is not available shall be assigned a risk weight on the basis of the risk weight assigned to senior unsecured exposures to the institution which issues them. The following correspondence between risk weights shall apply:

(a)       if the exposures to the institution are assigned a risk weight of 20 %, the covered bond shall be assigned a risk weight of 10 %;

(b)       if the exposures to the institution are assigned a risk weight of 50 %, the covered bond shall be assigned a risk weight of 20 %;

(c)       if the exposures to the institution are assigned a risk weight of 100 %, the covered bond shall be assigned a risk weight of 50 %;

(d)       if the exposures to the institution are assigned a risk weight of 150 %, the covered bond shall be assigned a risk weight of 100 %.

5.        Covered bonds issued before 31 December 2007 are not subject to the requirements of paragraph 1 and 2. They are eligible for the preferential treatment under paragraph 3 until their maturity.

5a.      Without prejudice to paragraph 1, and for the avoidance of doubt, covered bonds with underlying assets that include other securitisations or covered bonds as collateral (a "repackaging") shall not be eligible for preferential treatment.

Article 125Items representing securitisation positions

Risk weighted exposure amounts for securitisation positions shall be determined in accordance with Chapter 5.

Article 126Exposures to institutions and corporates with a short-term credit assessment

Exposures to institutions and exposures to corporates for which a short-term credit assessment by a nominated ECAI is available shall be assigned a risk weight according to Table 7 which corresponds to the credit assessment of the eligible ECAI in accordance with Article 131.

Table 7

Credit Quality Step

1

2

3

4

5

6

Risk weight

20 %

50 %

100 %

150 %

150 %

150 %

Article 127Exposures in the form of shares in collective investment undertakings (CIUS)

1.        Exposures in the form of units or shares in collective investment undertakings (hereinafter referred to as 'CIUs') shall be assigned a risk weight of 100 %, unless the institution applies the credit risk assessment method under paragraph 2, or the look-through approach in paragraph 4 or the average risk weight approach under paragraph 5 when the conditions in paragraph 3 are met.

2.        Exposures in the form of shares in CIUs for which a credit assessment by a nominated ECAI is available shall be assigned a risk weight according to Table which corresponds to the credit assessment of the eligible ECAI in accordance with Article 131.

Table 8

Credit quality step

1

2

3

4

5

6

Risk weight

20 %

50 %

100 %

100 %

150 %

150 %

3.        Institutions may determine the risk weight for a CIU, if the following eligibility criteria are met:

(a)       the CIU is managed by a company that is subject to supervision in a Member State or, in the case of third country CIU, where the following conditions are met:

(i)        the CIU is managed by a company which is subject to supervision that is considered equivalent to that laid down in Union legislation;

(ii)       cooperation between competent authorities is sufficiently ensured;

(b)       the CIU's prospectus or equivalent document includes the following:

(i)        the categories of assets in which the CIU is authorised to invest;

(ii)       if investment limits apply, the relative limits and the methodologies to calculate them;

(c)       the business of the CIU is reported to the competent authority on at least an annual basis to enable an assessment to be made of the assets and liabilities, income and operations over the reporting period.

For the purposes of point (a), the Commission may adopt, by way of implementing acts, and subject to the examination procedure referred to in Article 447(2), a decision as to whether a third country applies supervisory and regulatory arrangements at least equivalent to those applied in the European Union. In the absence of such a decision, until 1 January 2014, institutions may continue to apply the treatment set out in this paragraph to third country where the relevant competent authorities had approved the third country as eligible for this treatment before 1 January 2013.

4.        Where the institution is aware of the underlying exposures of a CIU, it may look through to those underlying exposures in order to calculate an average risk weight for its exposures in the form of shares in the CIUs in accordance with the methods set out in this Chapter. Where an underlying exposure of the CIU is itself an exposure in the form of shares in another CIU which fulfils the criteria of paragraph 3, the institution may look through to the underlying exposures of that other CIU.

5.        Where the institution is not aware of the underlying exposures of a CIU, it may calculate an average risk weight for its exposures in the form of a unit or share in the CIU in accordance with the methods set out in this Chapter subject to the assumption that the CIU first invests, to the maximum extent allowed under its mandate, in the exposure classes attracting the highest capital requirement, and then continues making investments in descending order until the maximum total investment limit is reached.

Institutions may rely on the following third parties to calculate and report, in accordance with the methods set out in paragraphs 4 and 5, a risk weight for the CIU:

(a)       the depository institution or the depository financial institution of the CIU provided that the CIU exclusively invests in securities and deposits all securities at that depository institution or the financial institution;

(b)       for CIUs not covered by point (a), the CIU management company, provided that the CIU management company meets the criteria set out in paragraph 3(a).

The correctness of the calculation referred to in the first subparagraph shall be confirmed by an external auditor.

Article 128Equity exposures

1.        The following exposures shall be considered equity exposures:

(a)       non-debt exposures conveying a subordinated, residual claim on the assets or income of the issuer;

(b)       debt exposures and other securities, partnerships, derivatives, or other vehicles, the economic substance of which is similar to the exposures specified in point (a).

2.        Equity exposures shall be assigned a risk weight of 100 %, unless they are required to be deducted in accordance with Part Two, assigned a 250% risk weight in accordance with Article 45(2), assigned a 1 250% risk weight in accordance with Article 84(3) or treated as high risk items in accordance with Article 123.

3.        Investments in equity or regulatory capital instruments issued by institutions shall be classified as equity claims, unless deducted from own funds or attracting a 250% risk weight under Article 33 1(c) or treated as high risk items in accordance with Article 123.

Article 129Other items

1.        Tangible assets within the meaning of Article 4(10) of Directive 86/635/EEC shall be assigned a risk weight of 100 %.

2.        Prepayments and accrued income for which an institution is unable to determine the counterparty in accordance with Directive 86/635/EEC, shall be assigned a risk weight of 100 %.

3.        Cash items in the process of collection shall be assigned a 20 % risk weight. Cash in hand and equivalent cash items shall be assigned a 0 % risk weight.

4.        Gold bullion held in own vaults or on an allocated basis to the extent backed by bullion liabilities shall be assigned a 0 % risk weight.

5.        In the case of asset sale and repurchase agreements and outright forward purchases, the risk weight shall be that assigned to the assets in question and not to the counterparties to the transactions.

6.        Where an institution provides credit protection for a number of exposures under terms that the nth default among the exposures shall trigger payment and that this credit event shall terminate the contract, and where the product has an external credit assessment from an eligible ECAI, the risk weights prescribed in Chapter 5 shall be assigned. If the product is not rated by an eligible ECAI, the risk weights of the exposures included in the basket will be aggregated, excluding n-1 exposures, up to a maximum of 1250 % and multiplied by the nominal amount of the protection provided by the credit derivative to obtain the risk weighted asset amount. The n-1 exposures to be excluded from the aggregation shall be determined on the basis that they shall include those exposures each of which produces a lower risk-weighted exposure amount than the risk-weighted exposure amount of any of the exposures included in the aggregation.

7.        The exposure value for leases shall be the discounted minimum lease payments. Minimum lease payments are the payments over the lease term that the lessee is or can be required to make and any bargain option the exercise of which is reasonably certain. A party other than the lessee may be required to make a payment related to the residual value of a leased property and that payment obligation fulfils the set of conditions in Article 197 regarding the eligibility of protection providers as well as the requirements for recognising other types of guarantees provided in Articles 208 to 210, that payment obligation may be taken into account as unfunded credit protection under Chapter 4. These exposures shall be assigned to the relevant exposure class in accordance with Article107. When the exposure is a residual value of leased assets, the risk weighted exposure amounts shall be calculated as follows: 1/t * 100 % * exposure value, where t is the greater of 1 and the nearest number of whole years of the lease remaining.

Section 3Recognition and mapping of credit risk assessment

Sub-section 1Recognition of ECAIs

Article 130ECAIs

1.        An external credit assessment may be used to determine the risk weight of an exposure under this Chapter only if it has been issued by an eligible ECAI or has been endorsed by an eligible ECAI in accordance with Regulation (EC) No 1060/2009.

2.        Eligible ECAIs are all credit rating agencies that have been registered or certified in accordance with Regulation (EC) No 1060/2009 and central banks issuing credit ratings which are exempt from Regulation (EC) No 1060/2009.

3.        EBA shall publish a list of eligible ECAIs.

Sub-section 2Mapping of ECAI's credit assessments

Article 131Mapping of ECAI's credit assessments

1.        EBA shall develop draft implementing standards to specify for all eligible ECAIs, with which of the credit quality steps set out in Section 2 the relevant credit assessments of the eligible ECAI correspond ('mapping'). Those determinations shall be objective and consistent.

EBA shall submit those draft implementing technical standards to the Commission by 1 January 2014 and shall submit revised draft technical standards where necessary.

Power is conferred on the Commission to adopt the implementing technical standards referred to in the first subparagraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

2.        When determining the mapping of credit assessments, EBA shall comply with the following requirements:

(a)       in order to differentiate between the relative degrees of risk expressed by each credit assessment, EBA shall consider quantitative factors such as the long-term default rate associated with all items assigned the same credit assessment. For recently established ECAIs and for those that have compiled only a short record of default data, EBA shall ask the ECAI what it believes to be the long-term default rate associated with all items assigned the same credit assessment;

(b)       in order to differentiate between the relative degrees of risk expressed by each credit assessment, EBA shall consider qualitative factors such as the pool of issuers that the ECAI covers, the range of credit assessments that the ECAI assigns, each credit assessment meaning and the ECAI's definition of default;

(c)       EBA shall compare default rates experienced for each credit assessment of a particular ECAI and compare them with a benchmark built on the basis of default rates experienced by other ECAIs on a population of issuers that present an equivalent level of credit risk;

(d)       where the default rates experienced for the credit assessment of a particular ECAI are materially and systematically higher then the benchmark, EBA shall assign a higher credit quality step in the credit quality assessment scale to the ECAI credit assessment;

(e)       where EBA has increased the associated risk weight for a specific credit assessment of a particular ECAI, and where default rates experienced for that ECAI's credit assessment are no longer materially and systematically higher than the benchmark, EBA shall decide to restore the original credit quality step in the credit quality assessment scale for the ECAI credit assessment.

3.        EBA shall develop draft implementing technical standards to specify the quantitative factors referred to in point (a), the qualitative factors referred to in point (b) and the benchmark referred to in point (c) of paragraph 2.

EBA shall submit those draft implementing technical standards to the Commission by 1 January 2014.

Power is conferred on the Commission to adopt the implementing technical standards referred to in the first subparagraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

Sub-section 3Use of credit assessments by Export Credit Agencies

Article 132Use of credit assessments by Export Credit Agencies

1.        For the purpose of Article 109, institutions may use credit assessments of an Export Credit Agency, if either of the following conditions is met:

(a)       it is a consensus risk score from Export Credit Agencies participating in the OECD ‘Arrangement on Guidelines for Officially Supported Export Credits’;

(b)       the Export Credit Agency publishes its credit assessments, and the Export Credit Agency subscribes to the OECD agreed methodology, and the credit assessment is associated with one of the eight minimum export insurance premiums that the OECD agreed methodology establishes.

2.        Exposures for which a credit assessment by an Export Credit Agency is recognised for risk weighting purposes shall be assigned a risk weight according to Table 9.

Table 9

MEIP

0

1

2

3

4

5

6

7

Risk weight

0 %

0 %

20 %

50 %

100 %

100 %

100 %

150 %

3.        EBA shall issue guidelines in accordance with Article 16 of Regulation 1093/2010 by 1 January 2014 on the Export Credit Agencies that my be used by institutions in accordance with paragraph 1.

Section 4Use of the ECAI credit assessments for the determination of risk weights

Article 133

General requirements

An institution may nominate one or more eligible ECAIs to be used for the determination of risk weights to be assigned to asset and off-balance sheet items. Credit assessments shall not be used selectively. In using credit assessment, institutions shall comply with the following requirements:

(a)       an institution which decides to use the credit assessments produced by an eligible ECAI for a certain class of items shall use those credit assessments consistently for all exposures belonging to that class;

(b)       an institution which decides to use the credit assessments produced by an eligible ECAI shall use them in a continuous and consistent way over time;

(c)       an institution shall only use ECAIs credit assessments that take into account all amounts both in principal and in interest owed to it;

(d)       where only one credit assessment is available from a nominated ECAI for a rated item, that credit assessment shall be used to determine the risk weight for that item;

(e)       where two credit assessments are available from nominated ECAIs and the two correspond to different risk weights for a rated item, the higher risk weight shall be assigned;

(f)        where more than two credit assessments are available from nominated ECAIs for a rated item, the two assessments generating the two lowest risk weights shall be referred to. If the two lowest risk weights are different, the higher risk weight shall be assigned. If the two lowest risk weights are the same, that risk weight shall be assigned.

Competent authorities shall closely monitor the adequacy of institutions credit assessment processes and ensure that institutions do not agree to contractual rules that result in them automatically selling off assets in case of a downgrade of the creditworthiness by an external credit rating agency.

Article 134Issuer and issue credit assessment

1.        Where a credit assessment exists for a specific issuing programme or facility to which the item constituting the exposure belongs, this credit assessment shall be used to determine the risk weight to be assigned to that item.

2.        Where no directly applicable credit assessment exists for a certain item, but a credit assessment exists for a specific issuing programme or facility to which the item constituting the exposure does not belong or a general credit assessment exists for the issuer, then that credit assessment shall be used in either of the following cases:

(a)       it produces a higher risk weight than would other wise be the case and the exposure in question ranks pari passu or junior in all respects to the specific issuing program or facility or to senior unsecured exposures of that issuer, as relevant;

(b)       it produces a lower risk weight and the exposure in question ranks pari passu or senior in all respects to the specific issuing programme or facility or to senior unsecured exposures of that issuer, as relevant.

In all other cases, the exposure shall be treated as unrated.

3.        Paragraph 1 and 2 are not to prevent the application of Article 124.

4.        Credit assessments for issuers within a corporate group cannot be used as credit assessment of another issuer within the same corporate group.

Article 135Long-term and short-term credit assessments

1.        Short-term credit assessments may only be used for short-term asset and off-balance sheet items constituting exposures to institutions and corporates.

2.        Any short-term credit assessment shall only apply to the item the short-term credit assessment refers to, and it shall not be used to derive risk weights for any other item, except in the following cases:

(a)       if a short-term rated facility is assigned a 150 % risk weight, then all unrated unsecured exposures on that obligor whether short-term or long-term shall also be assigned a 150 % risk weight;

(b)       if a short-term rated facility is assigned a 50 % risk-weight, no unrated short-term exposure shall be assigned a risk weight lower than 100 %.

Article 136Domestic and foreign currency items

A credit assessment that refers to an item denominated in the obligor's domestic currency cannot be used to derive a risk weight for another exposure on that same obligor that is denominated in a foreign currency.

When an exposure arises through an institution's participation in a loan that has been extended by a Multilateral Development Bank whose preferred creditor status is recognised in the market, the credit assessment on the obligors' domestic currency item may be used for risk weighting purposes.

Chapter 3Internal Ratings Based Approach

Section 1Permission by competent authorities to use the IRB approach

Article 137IRB 0

Definitions

1.        For the purposes of this Chapter, the following definitions shall apply:

(1)       'rating system' means all of the methods, processes, controls, data collection and IT systems that support the assessment of credit risk, the assignment of exposures to rating grades or pools, and the quantification of default and loss estimates that have been developed for a certain type of exposures;

(2)       'type of exposures' means a group of homogeneously managed exposures which are formed by a certain type of facilities and which may be limited to a single entity or a single sub-set of entities within a group provided that the same type of exposures is managed differently in other entities of the group;

(3)       'business unit' means any separate organisational or legal entities, business lines, geographical locations;

(4)       ‘regulated financial entity’ means any of the following:

(a)       the following entities, including third country entities, that carry out similar activities, that are subject to prudential supervision pursuant to EU legislation or to legislation of a third country which applies prudential supervisory and regulatory requirements at least equivalent to those applied in the Union:

(i)        a credit institution;

(ii)       an investment firm;

(iii)      an insurance undertaking;

(iv)      a financial holding company;

(v)       a mixed activity holding company.

(va)     a financial institution;

(vb)     a mixed financial holding company;

(vc)     a collective investment undertaking (CIU);

(vd)     a central counterparty (CCP) fulfilling the conditions set out in Article 295(2).

(b)       any other entity that fulfils all of the following conditions:

(i)        it performs one or more of the activities listed in Annex I of Directive [inserted by OP] or in Annex I of Directive 2004/39/EC;

(ii)       it is a subsidiary of a regulated financial entity;

(iii)      it is included in the prudential supervision on consolidated level of the group;

(c)       any entity referred to in point (a)(i) to (v) or in point (b) which is not subject to prudential supervisory and regulatory requirements at least equivalent to those in the Union but which is part of a group that is subject to those arrangements on a consolidated basis;

(5)       ‘large regulated financial entity’ means any regulated financial entity whose total assets, on the level of that individual firm or on the consolidated level of the group, are greater than or equal to the EUR 70 billion threshold, where the most recent audited financial statement of the parent company and consolidated subsidiaries shall be used in order to determine asset size;

(6)       ‘unregulated financial entity’ means any other entity that is not a regulated entity but performs one or more of the activities listed in Annex I of Directive [inserted by OP] or listed in Annex I of Directive 2004/39/EC;

(7)       ‘obligor grade’ means a risk category within the obligor rating scale of a rating system, to which obligors are assigned on the basis of a specified and distinct set of rating criteria, from which estimates of PD are derived;

(8)       ‘facility grade’ means a risk category within a rating system's facility scale, to which exposures are assigned on the basis of a specified and distinct set of rating criteria from which own estimates of Loss Given Default are derived;

(9)       ‘servicer’ means an entity that manages a pool of purchased receivables or the underlying credit exposures on a day-to-day basis.

2.        EBA shall develop draft regulatory technical standards to specify the conditions according to which competent authorities shall assess the equivalence of the prudential supervisory and regulatory requirements set out in the legislation of third countries.

EBA shall submit those draft regulatory technical standards to the Commission by 1 January 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 138Permission to use the IRB Approach

1.        Where the conditions set out in this Chapter are met, the competent authority shall permit institutions to calculate their risk-weighted exposure amounts using the Internal Ratings Based Approach (hereinafter referred to as ‘IRB Approach’).

2.        Permission to the use the IRB Approach, including own estimates of Loss Given Default (hereinafter referred to as ‘LGD’) and conversion factors, shall be required for each and for each rating system and internal model approaches to equity exposures and approach to estimating LGDs and conversion factors used.

3.        Institutions must obtain the permission of the competent authorities for the following:

(a)       changes to the range of application of a rating system or an internal models approach to equity exposures that the institution has received permission to use;

(b)       material changes to a rating system or an internal models approach to equity exposures that the institution has received permission to use.

The range of application of a rating system shall comprise all exposures of the relevant type of exposure for which that rating system was developed.

4.        Institutions shall notify the competent authorities of all changes to rating systems and internal models approaches to equity exposures.

5.        EBA shall develop draft regulatory technical standards to specify the conditions according to which institutions shall assess the materiality of the changes to rating systems or internal models approaches to equity exposures under the IRB Approach referred to in paragraph 1 that require additional permission or require notification.

EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 139Competent authorities’ assessment of an application to use an IRB Approach

1.        The competent authority shall grant permission pursuant to Article 138 for an institution to use the IRB Approach, including to use own estimates of LGD and conversion factors, only if the competent authority is satisfied that requirements laid down in this Chapter are met, in particular those laid down in Section 6, and that the systems of the institution for the management and rating of credit risk exposures are sound and implemented with integrity and, in particular, that the institution has demonstrated to the satisfaction of the competent authority that the following standards are met:

(a)       the institution's rating systems provide for a meaningful assessment of obligor and transaction characteristics, a meaningful differentiation of risk and accurate and consistent quantitative estimates of risk;

(b)       internal ratings and default and loss estimates used in the calculation of own funds requirements and associated systems and processes play an essential role in the risk management and decision-making process, and in the credit approval, internal capital allocation and corporate governance functions of the institution;

(c)       the institution has a credit risk control unit responsible for its rating systems that is appropriately independent and free from undue influence;

(d)       the institution collects and stores all relevant data to provide effective support to its credit risk measurement and management process;

(e)       the institution documents its rating systems and the rationale for their design and validates its rating systems;

(f)        the institution has validated its rating systems during an appropriate time period prior to the permission to use this rating system or internal models approach to equity exposures, has assessed during this time period whether these rating systems and internal models approaches for equity exposures are suited to the range of application of the rating system, and has made necessary changes to these rating systems and internal models approaches for equity exposures following from its assessment;

(g)       the institution has calculated under the IRB Approach the own funds requirements resulting from its risk parameters estimates and is able to submit the reporting as required by Article 95.

(ga)     An institution which is allowed to use the IRB approach shall submit to its competent authority on a yearly basis calculations of risk weights using their internal model of a standard portfolio.

The requirements to use an IRB Approach, including own estimates of LGD and conversion factors, apply also where an institution has implemented a rating system, or model used within a rating system, that it has purchased from a third-party vendor.

2.        EBA shall develop regulatory technical standards to specify the processes competent authorities shall follow in assessing the compliance of an institution with the requirements to use the IRB Approach.

EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

2a.      Competent authorities shall require institutions to benchmark at least annually their IRB approach using a standard portfolio. EBA, in consultation with competent authorities, shall develop regulatory technical standards defining a standard portfolio and benchmarking. EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in sub-paragraph 1 of this paragraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

Article 140Prior experience of using IRB approaches

1.        An institution applying to use the IRB Approach shall have been using for the IRB exposure classes in question rating systems that were broadly in line with the requirements set out in Section 6 for internal risk measurement and management purposes for at least three years prior to its qualification to use the IRB Approach.

2.        An institution applying for the use of own estimates of LGDs and conversion factors shall demonstrate to the satisfaction of the competent authorities that it has been estimating and employing own estimates of LGDs and conversion factors in a manner that was broadly consistent with the requirements for use of own estimates of those parameters set out in Section 6 for at least three years prior to qualification to use own estimates of LGDs and conversion factors.

3.        Where the institution extends the use of the IRB approach subsequent to its initial permission, the experience of the institution shall be sufficient to satisfy the requirements of paragraphs 4 and 5 in respect of the additional exposures covered. If the use of rating systems is extended to exposures that are significantly different to the scope of the existing coverage, such that the existing experience cannot be reasonably assumed to be sufficient to meet the requirements of these provisions in respect of the additional exposures, then the requirements of paragraphs 4 and 5 shall apply separately for the additional exposures.

Article 141Measures to be taken where the requirements of this Chapter cease to be met

Where an institution ceases to comply with the requirements laid down in this Chapter, it shall notify the competent authority and do one of the following:

(a)       present to the competent authority a plan for a timely return to compliance;

(b)       demonstrate to the satisfaction of the competent authorities that the effect of non-compliance is immaterial.

Article 142Methodology to assign exposure to exposures classes

1.        The methodology used by the institution for assigning exposures to different exposure classes shall be appropriate and consistent over time.

2.        Each exposure shall be assigned to one of the following exposure classes:

(a)       claims or contingent claims on central governments and central banks;

(b)       claims or contingent claims on institutions;

(c)       claims or contingent claims on corporates;

(d)       retail claims or contingent retail claims;

(e)       equity claims;

(f)        securitisation positions;

(g)       other non credit-obligation assets.

3.        The following exposures shall be assigned to the class laid down in point (a) of paragraph 2:

(a)       exposures to regional governments, local authorities or public sector entities which are treated as exposures to central governments under Article 110 and 110;

(b)       exposures to Multilateral Development Banks referred to in Article 112 International Organisations which attract a risk weight of 0 % under Article 113.

4.        The following exposures shall be assigned to the class laid down in point (b) of paragraph 2 :

(a)       exposures to regional governments and local authorities which are not treated as exposures to central governments under Article 110;

(b)       exposures to Public Sector Entities which are treated as exposures to institutions under Article 110; and

(c)       exposures to Multilateral Development Banks which are not assigned a 0 % risk weight under Article 112.

5.        To be eligible for the retail exposure class laid down in point (d) of paragraph 2, exposures shall meet the following criteria:

(a)       they shall be to one of the following:

(i)        a natural person or persons;

(ii)       to a small or medium sized enterprise that fulfils the criteria laid down in the Recommendation 2003/361/EC adopted by the European Commission on 6 May 2003 concerning the definition of micro, small and medium-sized enterprise, provided in the latter case that the total amount owed to the institution and parent undertakings and its subsidiaries, including any past due exposure, by the obligor client or group of connected clients, but excluding claims or contingent claims secured on residential property collateral, shall not, to the knowledge of the institution, which shall have taken reasonable steps to confirm the situation, exceed EUR 5 million;

(b)       they are treated by the institution in its risk management consistently over time and in a similar manner;

(c)       they are not managed just as individually as exposures in the corporate exposure class;

(d)       they each represent one of a significant number of similarly managed exposures.

In addition to the exposures listed in the first sub-paragraph, the present value of retail minimum lease payments shall be included in the retail exposure class.

For the purpose of the paragraph (a) (ii) a small or medium sized enterprise shall be an enterprise that fulfils the criteria laid down in the Recommendation 2003/361/EC adopted by the European Commission on 6 May 2003 concerning the definition of micro, small and medium-sized enterprise.

6.        The following exposures shall be assigned to the equity exposure class laid down in point (e) of paragraph 2:

(a)       non-debt exposures conveying a subordinated, residual claim on the assets or income of the issuer;

(b)       debt exposures and other securities, partnerships, derivatives, or other vehicles, the economic substance of which is similar to the exposures specified in point (a).

7.        Any credit obligation not assigned to the exposure classes laid down in points (a), (b), (d), (e) and (f) of paragraph 2 shall be assigned to the corporate exposure class referred to in point (c) of that paragraph.

8.        Within the corporate exposure class laid down in point (c) of paragraph 2, institutions shall separately identify as specialised lending exposures, exposures which possess the following characteristics:

(a)       the exposure is to an entity which was created specifically to finance or operate physical assets;

(b)       the contractual arrangements give the lender a substantial degree of control over the assets and the income that they generate;

(c)       the primary source of repayment of the obligation is the income generated by the assets being financed, rather than the independent capacity of a broader commercial enterprise.

9.        The residual value of leased properties shall be assigned to the exposure class laid down in point (g) of paragraph 2, except to the extent that residual value is already included in the lease exposure laid down in Article 162(4).

Article 143Conditions for implementing the IRB approach across different classes of exposure and business units

1.        Institutions and any parent undertaking and its subsidiaries shall implement the IRB Approach for all exposures, unless they have received the permission of the competent authorities permanently use the Standardised Approach in accordance with Article 145.

Subject to the permission of the competent authorities, implementation may be carried out sequentially across the different exposure classes, referred to in Article 142, within the same business unit, across different business units in the same group or for the use of own estimates of LGDs or conversion factors for the calculation of risk weights for exposures to corporates, institutions, and central governments and central banks.

In the case of the retail exposure class referred to in Article 142(5), implementation may be carried out sequentially across the categories of exposures to which the different correlations in Article 149 correspond.

2.        The competent authority shall determine the time period over which an institution any parent undertaking and its subsidiaries shall be required to implement the IRB approach for all exposures. This time period shall be one that the competent authority considers to be appropriate on the basis of the nature and scale of the institutions, any parent undertaking and its subsidiaries, and the number and nature of rating systems to be implemented.

3.        Institutions shall carry out implementation of the IRB approach according to conditions determined by the competent authorities. The competent authority shall design those conditions such that they ensure that the flexibility under paragraph 1 is not used selectively for the purposes of achieving reduced own funds requirements in respect of those exposure classes or business units that are yet to be included in the IRB Approach or in the use of own estimates of LGDs and conversion factors.

4.        Institutions that have begun to use of the IRB approach only after 1 January 2013 shall retain their ability to calculate capital requirements using the Standardised Approach for all their exposures during the implementation period until the competent authorities notify them that they are satisfied that the implementation of the IRB approach will be completed with reasonable certainty.

5.        An institution that is permitted to use the IRB Approach for any exposure class shall be permitted to use the IRB Approach for the equity exposure class, except where that institution is permitted to apply the Standardised Approach for equity exposures pursuant to Article 145.

6.        EBA shall develop draft regulatory technical standards to specify the conditions according to which competent authorities shall determine the conditions by which they shall require institutions to implement the IRB approach in accordance with this Article.

EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 144Conditions to revert to the use of less sophisticated approaches

1.        An institution that uses the IRB Approach shall not stop using that approach and use instead the Standardised Approach for the calculation of risk-weighted exposure amounts unless the following conditions are met:

(a)       the institution has demonstrated to the satisfaction of the competent authority that the use of the Standardised Approach is not proposed in order to reduce the own funds requirement of the institution, is necessary on the basis of nature and complexity of the institution and would not have a material adverse impact on the solvency of the institution or its ability to manage risk effectively;

(b)       the institution has received the prior permission of the competent authority.

2.        Institutions which have obtained permission under Article 146(9) to use own estimates of LGDs and conversion factors, shall not revert to the use of LGD values and conversion factors referred to in Article 146(8) unless the following conditions are met:

(a)       the institution has demonstrated to the satisfaction of the competent authority that the use of the use of LGDs and conversion factors laid down in Article 146(8) is not proposed in order to reduce the own funds requirement of the institution, is necessary on the basis of nature and complexity of the institution and would not have a material adverse impact on the solvency of the institution or its ability to manage risk effectively;

(b)       the institution has received the prior permission of the competent authority.

3.        The application of paragraphs 1 and 2 is subject to the conditions for rolling out the IRB approach determined by the competent authorities in accordance with Article 143 and the permission for permanent partial use referred to in Article 145.

Article 145Conditions for permanent partial use

1.        Where institutions have received the prior permission of the competent authorities, institutions permitted to use the IRB Approach in the calculation of risk-weighted exposure amounts and expected loss amounts for one or more exposure classes, they may apply the Standardised Approach for the following exposures:

(a)       the exposure class laid down in 142(a), where the number of material counterparties is limited and it would be unduly burdensome for the institution to implement a rating system for these counterparties;

(b)       the exposure class laid down in Article 142(b), where the number of material counterparties is limited and it would be unduly burdensome for the institution to implement a rating system for these counterparties;

(c)       exposures in non-significant business units as well as exposure classes that are immaterial in terms of size and perceived risk profile;

(d)       exposures to central governments of the Member States and their regional governments, local authorities and administrative bodies provided:

(i)        there is no difference in risk between the exposures to that central government and those other exposures because of specific public arrangements, and

(ii)       exposures to the central government are assigned a 0 % risk weight under Article 109(4);

(e)       exposures of an institution to a counterparty which is its parent undertaking, its subsidiary or a subsidiary of its parent undertaking provided that the counterparty is an institution or a financial holding company, mixed financial holding company, financial institution, asset management company or ancillary services undertaking subject to appropriate prudential requirements or an undertaking linked by a relationship within the meaning of Article 12(1) of Directive 83/349/EEC;

(f)        and exposures between institutions which meet the requirements set out in Article 108(7);

(g)       equity exposures to entities whose credit obligations assigned a 0 % risk weight under Chapter 2 including those publicly sponsored entities where a 0 % risk weight can be applied;

(h)       equity exposures incurred under legislative programmes to promote specified sectors of the economy that provide significant subsidies for the investment to the institution and involve some form of government oversight and restrictions on the equity investments where such exposures may in aggregate be excluded from the IRB approach only up to a limit of 10 % of own funds;

(i)        the exposures identified in Article 115(9) meeting the conditions specified therein;

(j)        State and State-reinsured guarantees referred to in Article 210(2).

The competent authorities shall permit the application of Standardised Approach for equity exposures referred to in points (g) and (h) which have been permitted for this treatment in other Member States.

2.        For the purposes of paragraph 1, the equity exposure class of an institution shall be material if their aggregate value, excluding equity exposures incurred under legislative programmes as referred to in point (g) of paragraph 1, exceeds on average over the preceding year 10 % of the own funds of the institution. Where the number of those equity exposures is less than 10 individual holdings, that threshold shall be 5 % of the own funds of the institution.

3.        EBA shall develop draft regulatory technical standards to determine the conditions of application of points (a), (b) and (c).

EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

4.        For the purposes of paragraph 1, the equity exposure class of an institution shall be considered material if their aggregate value, excluding equity exposures incurred under legislative programmes as referred to in paragraph 1, point (g), exceeds, on average over the preceding year, 10 % of the institution's own funds. If the number of those equity exposures is less than 10 individual holdings, that threshold shall be 5 % of the institution's own funds.

Section 2Calculation of risk weighted exposure amounts

Sub-Section 1Treatment by type of exposure

Article 146Treatment by exposure class

1.        The risk-weighted exposure amounts for credit risk for exposures belonging to one of the exposure classes referred to in points (a) to (e) and (g) of 142(2) shall, unless deducted from own funds, be calculated in accordance with Sub-section 2 except where those exposures are deducted from Common Equity Tier 1 Additional Tier 1 items or Tier 2 items.

2.        The risk-weighted exposure amounts for dilution risk for purchased receivables shall be calculated according to Article 153. Where an institution has full recourse to the seller of purchased receivables for default risk and for dilution risk, to the seller of the purchased receivables, the provisions of this Article and Articles 147 and 154(1) to (4) in relation to purchased receivables shall not apply and the exposure shall be treated as a collateralised exposure.

3.        The calculation of risk-weighted exposure amounts for credit risk and dilution risk shall be based on the relevant parameters associated with the exposure in question. These shall include probability of default (hereinafter referred to as ‘PD’), LGD, maturity (hereinafter referred to as ‘M’) and exposure value of the exposure. PD and LGD may be considered separately or jointly, in accordance with Section 4.

4.        Institutions may calculate risk-weighted exposure amounts for credit risk for all exposures belonging to the exposure class 'equity' referred to in point (e) of Article 142(2) in accordance with Article 142(2) where they have received the prior permission of the competent authorities. Competent authorities shall grant permission for an institution to use the internal models approach set out in Article 150(4) provided the institution meets the requirements set out in Sub-section 4 of Section 6.

5.        The calculation of risk weighted exposure amounts for credit risk for specialised lending exposures may be calculated in accordance with Article 148(4).

6.        For exposures belonging to the exposure classes referred to in points (a) to (d) of Article 142(2), institutions shall provide their own estimates of PDs in accordance with Article 138 and Section 6.

7.        For exposures belonging to the exposure class referred to in point (d) of Article 142(2), institutions shall provide own estimates of LGDs and conversion factors in accordance with Article 138 and Section 6.

8.        For exposures belonging to the exposure classes referred to in points (a) to (c) of Article 142(2), institutions shall apply the LGD values set out in Article 157(1), and the conversion factors set out in Article 162(8) (a) to (d), unless it has been permitted to use its own estimates of LGDs and conversion factors for those exposure classes in accordance with paragraph 9.

9.        For all exposures belonging to the exposure classes referred to in points (a) to (c) of Article 142(2), the competent authority shall permit institutions to use own estimates of LGDs and conversion factors only in accordance with Article 138.

10.      The risk-weighted exposure amounts for securitised exposures and for exposures belonging to the exposure class referred to in point (f) of Article 142(2) shall be calculated in accordance with Chapter 5.

Article 147Treatment of exposures in the form of shares in collective investment undertakings (CIUs)

1.        Where exposures in the form of shares in a collective investment undertakings (CIUs) meet the criteria set out in Article 127(3) and the institution is aware of all or parts of the underlying exposures of the CIU, the institution shall look through to those underlying exposures in order to calculate risk-weighted exposure amounts and expected loss amounts in accordance with the methods set out in this Chapter.

Where an underlying exposure of the CIU is itself another exposure in the form of units or shares in another CIU, the first institution shall also look through to the underlying exposures of the other CIU.

2.        Where the institution does not meet the conditions for using the methods set out in this Chapter for all or parts of the underlying exposures of the CIU, risk weighted exposure amounts and expected loss amounts shall be calculated in accordance with the following approaches:

(a)       for exposures belonging to the 'equity' exposure class referred to in Article 142(2)(e), institutions shall apply the simple risk-weight approach set out in Article 150(2);

(b)       for all other underlying exposures referred to in paragraph 1, institutions shall apply the Standardised Approach laid down in Chapter 2, subject to the following:

(i)     for exposures subject to a specific risk weight for unrated exposures or subject to the credit quality step yielding the highest risk weight for a given exposure class, the risk weight shall be multiplied by a factor of two but must not be higher than 1250 %;

(ii)     for all other exposures, the risk weight must be multiplied by a factor of 1,1 and shall be subject to a minimum of 5 %.

Where, for the purposes of point (a), the institution is unable to differentiate between private equity, exchange-traded and other equity exposures, it shall treat the exposures concerned as other equity exposures. Where those exposures, taken together with the institution's direct exposures in that exposure class, are not material within the meaning of Article 145(2), Article 145(1) may be applied subject to the permission of the competent authorities.

3.        Where exposures in the form of units or shares in a CIU do not meet the criteria set out in Article 127(3), or the institution is not aware of all of the underlying exposures of the CIU or of its underlying exposures which is itself an exposure in the form of units or shares in a CIU, the institution shall look through to those underlying exposures and calculate risk-weighted exposure amounts and expected loss amounts in accordance with the simple risk-weight approach set out in Article 150(2).

Where the institution is unable to differentiate between private equity, exchange-traded and other equity exposures, it shall treat the exposures concerned as other equity exposures. It shall assign non equity exposures to the other equity class.

4.        Alternatively to the method described in the paragraph 4, institutions may calculate themselves or may rely on the following third parties to calculate and report the average risk weighted exposure amounts based on the CIU's underlying exposures in accordance with the approaches referred to in points (a) and (b) of paragraph 2 for the following:

(a)       the depository institution or financial institution of the CIU provided that the CIU exclusively invests in securities and deposits all securities at this depository institution or financial institution;

(b)       for other CIUs, the CIU management company, provided that the CIU management company meets the criteria set out in Article 127(3)(a).

The correctness of the calculation shall be confirmed by an external auditor.

Sub-Section 2Calculation of risk weighted exposure amounts for credit risk

Article 148Risk weighted exposure amounts for exposures to corporates, institutions and central governments,

regional governments, local authorities and central banks

1.        Subject to the application of the specific treatments laid down in paragraphs 2, 3 and 4, the risk weighted exposure amounts for exposures to corporates, institutions and central governments, regional governments, local authorities and central banks shall be calculated according to the following formulae:

where the risk weight RW is defined as

(i)        if PD = 0, RW shall be 0;

(ii)       if PD = 1, i.e., for defaulted exposures:

(a)       where institutions apply the LGD values set out in Article 157(1), RW shall be 0;

(b)       where institutions use own estimates of LGDs, RW shall be ;

where the Expected Loss Best Estimate (hereinafter referred to as ‘ELBE’) shall be the institution's best estimate of expected loss for the defaulted exposure according to Article 177(1)(h);

(iii)      if , i.e., for any value other than under (i) or (ii)

where

N(x) = the cumulative distribution function for a standard normal random variable (i.e. the probability that a normal random variable with mean zero and variance of one is less than or equal to x);

G (Z) = denotes the inverse cumulative distribution function for a standard normal random variable (i.e. the value x such that N(x) z)

R =      denotes the coefficient of correlation, is defined as

b =      the maturity adjustment factor, which is defined as

2.        For all exposures to large regulated financial entities and to unregulated financial entities, the coefficient of correlation of paragraph 1(iii) is multiplied by 1.25 as follows:

3.        The risk weighted exposure amount for each exposure which meets the requirements set out in Article 198 and 212 may be adjusted according to the following formula:

where:

PDpp = PD of the protection provider.

RW shall be calculated using the relevant risk weight formula set out in point 3 for the exposure, the PD of the obligor and the LGD of a comparable direct exposure to the protection provider. The maturity factor (b) shall be calculated using the lower of the PD of the protection provider and the PD of the obligor.

4.        For exposures to companies where the total annual sales for the consolidated group of which the firm is a part is less than EUR 70 million, institutions may use the following correlation formula in paragraph 1 (iii) for the calculation of risk weights for corporate exposures. In this formula S is expressed as total annual sales in millions of Euros with EUR 5 million ≤ S ≤ EUR 70 Million. Reported sales of less than EUR 5 million shall be treated as if they were equivalent to EUR 5 million. For purchased receivables the total annual sales shall be the weighted average by individual exposures of the pool.

Institutions shall substitute total assets of the consolidated group for total annual sales when total annual sales are not a meaningful indicator of firm size and total assets are a more meaningful indicator than total annual sales.

5.        For specialised lending exposures in respect of which an institution is not able to estimate PDs or the institutions' PD estimates do not meet the requirements set out in Section 6, the institution shall assign risk weights to these exposures according to Table 1, as follows:

Table 1

Remaining Maturity

Category 1

Category 2

Category 3

Category 4

Category 5

Less than 2,5 years

50 %

70 %

115 %

250 %

0 %

Equal or more than 2,5 years

70 %

90 %

115 %

250 %

0 %

In assigning risk weights to specialised lending exposures institutions shall take into account the following factors: financial strength, political and legal environment, transaction and/or asset characteristics, strength of the sponsor and developer, including any public private partnership income stream, and security package.

6.        For their purchased corporate receivables institutions shall comply with the requirements set out in Article 180. For purchased corporate receivables that comply in addition with the conditions set out in Article 149(5), and where it would be unduly burdensome for an institution to use the risk quantification standards for corporate exposures as set out in Section 6 for these receivables, the risk quantification standards for retail exposures as set out in Section 6 may be used.

7.        For purchased corporate receivables, refundable purchase discounts, collateral or partial guarantees that provide first-loss protection for default losses, dilution losses, or both, may be treated as first-loss positions under the IRB securitisation framework.

8.        Where an institution provides credit protection for a number of exposures under terms that the nth default among the exposures shall trigger payment and that this credit event shall terminate the contract, if the product has an external credit assessment from an eligible ECAI the risk weights set out in Chapter 5 shall be applied. If the product is not rated by an eligible ECAI, the risk weights of the exposures included in the basket will be aggregated, excluding n-1 exposures where the sum of the expected loss amount multiplied by 12,5 and the risk weighted exposure amount shall not exceed the nominal amount of the protection provided by the credit derivative multiplied by 12,5. The n-1 exposures to be excluded from the aggregation shall be determined on the basis that they shall include those exposures each of which produces a lower risk-weighted exposure amount than the risk-weighted exposure amount of any of the exposures included in the aggregation. A 1250% risk weight shall apply to positions in a basket for which an institution cannot determine the risk-weight under the IRB approach.

9.        EBA shall develop draft regulatory technical standards to specify the conditions according to which institutions shall take into account the factors referred to the second subparagraph of paragraph 5 when assigning risk weights to specialised lending exposures.

EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 149Risk weighted exposure amounts for retail exposures

1.        The risk-weighted exposure amounts for retail exposures shall be calculated according to the following formulae:

where the risk weight RW is defined as follows:

(i)        if PD = 0, RW shall be 0;

(ii)       if PD = 1, i.e., for defaulted exposures, RW shall be ;

where ELBE shall be the institution's best estimate of expected loss for the defaulted exposure according to Article 177(1)(h);

(iii)      if, i.e., for any value other than under (i) or (ii)

where

N(x) = the cumulative distribution function for a standard normal random variable (i.e. the probability that a normal random variable with mean zero and variance of one is less than or equal to x);

G (Z) = the inverse cumulative distribution function for a standard normal random variable (i.e. the value x such that N(x) z);

R =      the coefficient of correlation defined as

(iii a) in case of small and medium sized enterprises the risk weight RW is defined as follows:

*0,7619

2.        The risk weighted exposure amount for each exposure to small and medium sized enterprise as defined in Article 142(5) which meets the requirements set out in Articles 198 and 212 may be calculated according to Article 148(3).

3.        For retail exposures secured by immovable property collateral a coefficient of correlation R of 0.15 shall replace the figure produced by the correlation formula in paragraph 1.

4.        For qualifying revolving retail exposures as defined in points (a) to (e), a coefficient of correlation R of 0.04 shall replace the figure produced by the correlation formula in paragraph 1.

Exposures shall qualify as qualifying revolving retail exposures if they meet the following conditions:

(a)       the exposures are to individuals;

(b)      the exposures are revolving, unsecured, and to the extent they are not drawn immediately and unconditionally, cancellable by the institution. In this context revolving exposures are defined as those where customers' outstanding balances are permitted to fluctuate based on their decisions to borrow and repay, up to a limit established by the institution. Undrawn commitments may be considered as unconditionally cancellable if the terms permit the institution to cancel them to the full extent allowable under consumer protection and related legislation;

(c)      the maximum exposure to a single individual in the sub-portfolio is EUR 100000 or less;

(d)      the use of the correlation of this paragraph is limited to portfolios that have exhibited low volatility of loss rates, relative to their average level of loss rates, especially within the low PD bands;

(e)      the treatment as a qualifying revolving retail exposure shall be consistent with the underlying risk characteristics of the sub-portfolio.

By way of derogation from point (b), the requirement to be unsecured does not apply in respect of collateralised credit facilities linked to a wage account. In this case amounts recovered from the collateral shall not be taken into account in the LGD estimate.

Competent authorities shall review the relative volatility of loss rates across the qualifying revolving retail sub-portfolios, as well the aggregate qualifying revolving retail portfolio, and shall share information on the typical characteristics of qualifying revolving retail loss rates across Member States.

5.        To be eligible for the retail treatment, purchased receivables shall comply with the requirements set out in Article 180 and the following conditions:

(a)      The institution has purchased the receivables from unrelated, third party sellers, and its exposure to the obligor of the receivable does not include any exposures that are directly or indirectly originated by the institution itself;

(b)      The purchased receivables shall be generated on an arm's-length basis between the seller and the obligor. As such, inter-company accounts receivables and receivables subject to contra-accounts between firms that buy and sell to each other are ineligible;

(c)      The purchasing institution has a claim on all proceeds from the purchased receivables or a pro-rata interest in the proceeds; and

(d)      The portfolio of purchased receivables is sufficiently diversified.

6.        For purchased receivables, refundable purchase discounts, collateral or partial guarantees that provide first-loss protection for default losses, dilution losses, or both, may be treated as first-loss positions under the IRB securitisation framework.

7.        For hybrid pools of purchased retail receivables where purchasing institutions cannot separate exposures secured by immovable property collateral and qualifying revolving retail exposures from other retail exposures, the retail risk weight function producing the highest capital requirements for those exposures shall apply.

Article 150Risk weighted exposure amounts for equity exposures

1.        Institutions shall determine their risk-weighted exposure amounts for equity exposures, excluding those deducted in accordance with Part Two or subject to a 250 % risk weight in accordance with Article 45, according to the different approaches set out in paragraphs (2), (3) and (4) and apply them to different portfolios where the institution itself uses different approaches internally. Where an institution uses different approaches, the choice shall be made consistently and shall not be determined by regulatory arbitrage considerations.

Institutions may treat equity exposures to ancillary services undertakings according to the treatment of other non credit- obligation assets.

2.        Under the Simple risk weight approach, the risk weighted exposure amount shall be calculated according to the following formula:

Risk weight (RW) = 190 % for private equity exposures in sufficiently diversified portfolios.

Risk weight (RW) = 290 % for exchange traded equity exposures.

Risk weight (RW) = 370 % for all other equity exposures.

Risk-weighted exposure amount = RW * exposure value.

Short cash positions and derivative instruments held in the non-trading book are permitted to offset long positions in the same individual stocks provided that these instruments have been explicitly designated as hedges of specific equity exposures and that they provide a hedge for at least another year. Other short positions are to be treated as if they are long positions with the relevant risk weight assigned to the absolute value of each position. In the context of maturity mismatched positions, the method is that for corporate exposures as set out in Article 158(5).

Institutions may recognise unfunded credit protection obtained on an equity exposure in accordance with the methods set out in Chapter IV.

3.        Under the PD/LGD approach, risk weighted exposure amounts shall be calculated according to the formulas in Article 148(1). If institutions do not have sufficient information to use the definition of default set out in Article 174, a scaling factor of 1,5 shall be assigned to the risk weights.

At the individual exposure level the sum of the expected loss amount multiplied by 12,5 and the risk weighted exposure amount shall not exceed the exposure value multiplied by 12,5.

Institutions may recognise unfunded credit protection obtained on an equity exposure in accordance with the methods set out in Chapter IV. This shall be subject to an LGD of 90 % on the exposure to the provider of the hedge. For private equity exposures in sufficiently diversified portfolios an LGD of 65 % may be used. For these purposes M shall be 5 years.

4.        Under the internal models approach, the risk weighted exposure amount shall be the potential loss on the institution’s equity exposures as derived using internal value-at-risk models subject to the 99th percentile, one-tailed confidence interval of the difference between quarterly returns and an appropriate risk-free rate computed over a long-term sample period, multiplied by 12.5. The risk weighted exposure amounts at the equity portfolio level shall not be less than the total of the sums of the following:

(a)       the risk weighted exposure amounts required under the PD/LGD Approach; and

(b)       the corresponding expected loss amounts multiplied by 12.5.

The amounts referred to in point (a) and (b) shall be calculated on the basis of the PD values set out in Article 161(1) and the corresponding LGD values set out in Article 161(2).

Institutions may recognise unfunded credit protection obtained on an equity position.

Article 151Risk weighted exposure amounts for equity exposures

Risk weighted exposure amounts for exposures arising from institution's pre-funded contribution to the default fund of a CCP and trade exposures with a CCP shall be determined in accordance with Articles 296 to 300 as applicable.

Article 152Risk weighted exposure amounts for other non credit-obligation assets

The risk weighted exposure amounts for other non credit-obligation assets shall be calculated according to the following formula:

,

except for:

(a)       cash in hand and equivalent cash items as well as gold bullion held in own vault or on an allocated basis to the extent backed by bullion liabilities, in which case a 0% risk-weight shall be assigned;

(b)       when the exposure is a residual value of leased assets in which case it shall be calculated as follows:

,

where t is the greater of 1 and the nearest number of whole years of the lease remaining.

Sub Section 3Calculation Of Risk Weighted Exposure Amounts For Dilution Risk Of Purchased Receivables

Article 153Risk weighted exposure amounts for dilution risk of purchased receivables

1.        Institutions shall calculate the risk weighted exposure amounts for dilution risk of purchased corporate and retail receivables shall be calculated according to the formula set out in Article 148(1).

2.        Institutions shall determine the input parameters PD and LGD in accordance with section 4.

3.        Institutions shall determine the exposure value in accordance with Section 5.

4.        For the purposes of this Article, the value of M is 1 year.

5.        The competent authorities shall exempt an institution from the requirements for risk weighted exposure amounts for dilution risk of purchased corporate and retail receivables where the institution has demonstrated to the satisfaction of the competent authority that dilution risk is immaterial for that institution.

Article 154Treatment by exposure type

1.        The calculation of expected loss amounts shall be based on the same input figures of PD, LGD and the exposure value for each exposure as being used for the calculation of risk-weighted exposure amounts in accordance with Article 146. For defaulted exposures, where institutions use own estimates of LGDs, expected loss (‘EL’) shall be the institution's best estimate of EL (‘ELBE,’) for the defaulted exposure, in accordance with Article 177(1)(h).

2.        The expected loss amounts for securitised exposures shall be calculated in accordance with Chapter 5.

3.        The expected loss amount for exposures belonging to the 'other non credit obligations assets' exposure class referred to in point (g) of Article 142(2) shall be zero.

4.        The expected loss amounts for exposures in the form of a collective investment undertaking referred to in Article 147 shall be calculated in accordance with the methods set out in this Article.

5.        The expected loss amounts for exposures to corporates, institutions, central governments and central banks and retail exposures shall be calculated according to the following formulae:

For defaulted exposures (PD =1) where institutions use own estimates of LGDs, EL shall be ELBE, the institution's best estimate of expected loss for the defaulted exposure according to Article 177(1)(h).

For exposures subject to the treatment set out in Article 148(3), EL shall be 0.

6.        The EL values for specialised lending exposures where institutions use the methods set out in Article 148(6) for assigning risk weights shall be assigned according to Table 2.

Table 2

Remaining Maturity

Category 1

Category 2

Category 3

Category 4

Category 5

Less than 2,5 years

0 %

0,4 %

2,8 %

8 %

50 %

Equal to or more than 2,5 years

0,4 %

0,8 %

2,8 %

8 %

50 %

7.        The expected loss amounts for equity exposures where the risk weighted exposure amounts are calculated according to simple risk weight approach shall be calculated according to the following formula:

The EL values shall be the following:

Expected loss (EL) = 0,8 % for private equity exposures in sufficiently diversified portfolios

Expected loss (EL) = 0,8 % for exchange traded equity exposures

Expected loss (EL) = 2,4 % for all other equity exposures.

8.        The expected loss amounts for equity exposures where the risk weighted exposure amounts are calculated according to the PD/LGD approach shall be calculated according to the following formulae:

9.        The expected loss amounts for equity exposures where the risk weighted exposure amounts are calculated according to the internal models approach shall be 0 %.

10.      The expected loss amounts for dilution risk of purchased receivables shall be calculated according to the following formula:

11.      For exposures arising from OTC derivatives, an institution calculating the risk-weighted exposure amounts in accordance with this Chapter may reduce the expected loss amounts for a given netting set by the amount of the credit valuation adjustment for that netting set, which has already been recognised by the institution as an incurred write-down. The resulting expected loss amount shall not be lower than zero.

Article 155Treatment of expected loss amounts

Institutions shall subtract the expected loss amounts calculated in accordance with Article 154(2)(3) and (7) from the sum of value adjustments and provisions related to these exposures. general and specific credit risk adjustments related to these exposures. Discounts on balance sheet exposures purchased when in default according to Article 162(1) shall be treated in the same manner as value adjustments specific credit risk adjustments on exposures in default shall not be used to cover expected loss on other exposures. Expected loss amounts for securitized exposures and general and specific credit risk adjustments related to these exposures shall not be included in this calculation

Section 4PD, LGD and maturity

Sub-Section 1Exposures to Corporates, institutions and central governments and central banks

Article 156Probability of default (PD)

1.        The PD of an exposure to a corporate or an institution shall be at least 0,03 %.

2.        For purchased corporate receivables in respect of which an institution is not able to estimate PDs or institution's PD estimates do not meet the requirements set out in Section 6, the PDs for these exposures shall be determined according to the following methods:

(a)       for senior claims on purchased corporate receivables PD shall be the institutions estimate of EL divided by LGD for these receivables;

(b)       for subordinated claims on purchased corporate receivables PD shall be the institution's estimate of EL;

(c)       an institution that has received the permission of the competent authority to use own LGD estimates for corporate exposures pursuant to Article 138 and it can decompose its EL estimates for purchased corporate receivables into PDs and LGDs in a manner that the competent authority considers to be reliable, may use PD estimate that results from this decomposition.

3.        The PD of obligors in default shall be 100 %.

4.        Institutions may take into account unfunded credit protection in the PD in accordance with the provisions of Chapter 4. For dilution risk, in addition to the protection providers referred to in Article 197(1)(g) the seller of the purchased receivables is eligible if the following conditions are met:

(a)       the corporate entity has a credit assessment by a recognised ECAI which has been determined by the EBA to be associated with credit quality step 3 or above under the rules for the risk weighting of exposures to corporates under Chapter 2;

(b)       the corporate entity, in the case of institutions calculating risk-weighted exposure amounts and expected loss amounts under the IRB Approach, does not have a credit assessment by a recognised ECAI and are internally rated as having a PD equivalent to that associated with the credit assessments of ECAIs determined by EBA to be associated with credit quality step 3 or above under the rules for the risk weighting of exposures to corporate under Chapter 2.

5.        Institutions using own LGD estimates may recognise unfunded credit protection by adjusting PDs subject to Article 157(3).

6.        For dilution risk of purchased corporate receivables, PD shall be set equal to the EL estimate of the institution for dilution risk. An institution that has received permission from the competent authority pursuant to Article 138 to use own LGD estimates for corporate exposures that can decompose its EL estimates for dilution risk of purchased corporate receivables into PDs and LGDs in a manner that the competent authority considers to be reliable, may use the PD estimate that results from this decomposition. Institutions may recognise unfunded credit protection in the PD in accordance with the provisions of Chapter 4. For dilution risk, in addition to the protection providers referred to in Article 197(1)(g), the seller of the purchased receivables is eligible provided that the conditions set out in paragraph 4 are met.

7.        By derogation to Article 197(1)(g), the corporate entities that meet the conditions set out in paragraph 4 are eligible

An institution that has received the permission of the competent authority pursuant to Article 138 to use own LGD estimates for dilution risk of purchased corporate receivables, may recognise unfunded credit protection by adjusting PDs subject to Article 157(3).

Article 157Loss Given Default (LGD)

1.        Institutions shall use the following LGD values in accordance with Article 146(8):

(a)       senior exposures without eligible collateral: 45 %;

(b)       subordinated exposures without eligible collateral: 75 %;

(c)       institutions may recognise funded and unfunded credit protection in the LGD in accordance with Chapter 4;

(d)       covered bonds as defined in Article 124 may be assigned an LGD value of 11,25 %;

(e)       for senior purchased corporate receivables exposures where institution's PD estimates do not meet the requirements set out in Section 6: 45 %;

(f)        for subordinated purchased corporate receivables exposures where an institution is not able to estimate PDs or the institution's PD estimates do not meet the requirements set out in Section 6: 100 %;

(g)       For dilution risk of purchased corporate receivables: 75 %.

2.        For dilution and default risk if an institution has received permission from the competent authority to use own LGD estimates for corporate exposures pursuant to Article 138 and it can decompose its EL estimates for purchased corporate receivables into PDs and LGDs in a manner the competent authority considers to be reliable, the LGD estimate for purchased corporate receivables may be used.

3.        If an institution has received the permission of the competent authority to use own LGD estimates for exposures to corporates, institutions, central governments and central banks pursuant to Article 138, unfunded credit protection may be recognised by adjusting PD or LGD subject to requirements as specified in Section 6 and permission of the competent authorities. An institution shall not assign guaranteed exposures an adjusted PD or LGD such that the adjusted risk weight would be lower than that of a comparable, direct exposure to the guarantor.

4.        For the purposes of the undertakings referred to in Article 148(3), the LGD of a comparable direct exposure to the protection provider shall either be the LGD associated with an unhedged facility to the guarantor or the unhedged facility of the obligor, depending upon whether in the event both the guarantor and obligor default during the life of the hedged transaction, available evidence and the structure of the guarantee indicate that the amount recovered would depend on the financial condition of the guarantor or obligor, respectively.

Article 158Maturity

1.        Institutions that have not received permission to use own LGDs and conversion factor for exposures to corporates, institutions or central governments and central banks shall assign to exposures arising from repurchase transactions or securities or commodities lending or borrowing transactions a maturity value (M) of 0.5 years and to all other exposures an M of 2,5 years.

Alternatively, as part of the permission referred to in Article 138, the competent authorities shall decide on whether the institution shall use maturity (M) for each exposure as set out under paragraph 2.

2.        Institutions that have received the permission of the competent authority to use own LGDs and own conversion factors for exposures to corporates, institutions or central governments and central banks pursuant to Article 138 shall calculate M for each of these exposures as set out in (a) to (e) and subject to paragraphs 3 to 5. In all cases, M shall be no greater than 5 years:

(a)      for an instrument subject to a cash flow schedule, M shall be calculated according to the following formula:

where CFt denotes the cash flows (principal, interest payments and fees) contractually payable by the obligor in period t;

(b)      for derivatives subject to a master netting agreement, M shall be the weighted average remaining maturity of the exposure, where M shall be at least 1 year, and the notional amount of each exposure shall be used for weighting the maturity;

(c)      for exposures arising from fully or nearly-fully collateralised derivative instruments (listed in Annex II) transactions and fully or nearly-fully collateralised margin lending transactions which are subject to a master netting agreement, M shall be the weighted average remaining maturity of the transactions where M shall be at least 10 days;

(d)      for repurchase transactions or securities or commodities lending or borrowing transactions which are subject to a master netting agreement, M shall be the weighted average remaining maturity of the transactions where M shall be at least 5 days. The notional amount of each transaction shall be used for weighting the maturity;

(e)      an institution that has received the permission of the competent authority pursuant to Article 138 to use own PD estimates for purchased corporate receivables, for drawn amounts M shall equal the purchased receivables exposure weighted average maturity, where M shall be at least 90 days. This same value of M shall also be used for undrawn amounts under a committed purchase facility provided the facility contains effective covenants, early amortisation triggers, or other features that protect the purchasing institution against a significant deterioration in the quality of the future receivables it is required to purchase over the facility's term. Absent such effective protections, M for undrawn amounts shall be calculated as the sum of the longest-dated potential receivable under the purchase agreement and the remaining maturity of the purchase facility, where M shall be at least 90 days;

(f)       for any other instrument than those mentioned in this point or when an institution is not in a position to calculate M as set out in (a), M shall be the maximum remaining time (in years) that the obligor is permitted to take to fully discharge its contractual obligations, where M shall be at least 1 year;

(g)      for institutions using the Internal Model Method set out in Section 6 of Chapter 6 to calculate the exposure values, M shall be calculated for exposures to which they apply this method and for which the maturity of the longest-dated contract contained in the netting set is greater than one year according to the following formula:

where:

= a dummy variable whose value at future period tk is equal to 0 if tk > 1 year and to 1 if tk ≤ 1

= the expected exposure at the future period tk;

= the effective expected exposure at the future period tk ;

= the risk-free discount factor for future time period tk;

 

(h)      an institution that uses an internal model to calculate a one-sided credit valuation adjustment (CVA) may use, subject to the permission of the competent authorities, the effective credit duration estimated by the internal model as M.

Subject to paragraph 2 , for netting sets in which all contracts have an original maturity of less than one year the formula in point (a) shall apply;

(i)       for institutions using the Internal Model Method set out in Section 6 of Chapter 6, to calculate the exposure values and having an internal model permission for specific risk associated with traded debt positions in accordance with Part Three, Title IV, Chapter 5, M shall be set to 1 in the formula laid out in Article 148(1), provided that an institution can demonstrate to the competent authorities that its internal model for Specific risk associated with traded debt positions applied in Article 373 contains effects of rating migrations;

(j)       for the purposes of Article 148(3), M shall be the effective maturity of the credit protection but at least 1 year.

3.        Where the documentation requires daily re-margining and daily revaluation and includes provisions that allow for the prompt liquidation or set off of collateral in the event of default or failure to remargin, M shall be at least one-day for:

(a)      fully or nearly-fully collateralised derivative instruments listed in Annex II;

(b)      fully or nearly-fully collateralised margin lending transactions;

(c)      repurchase transactions, securities or commodities lending or borrowing transactions.

In addition, for qualifying short-term exposures which are not part of the institution's ongoing financing of the obligor, M shall be at least one-day. Qualifying short term exposures shall include the following:

(a)      exposures to institutions arising from settlement of foreign exchange obligations;

(b)      self-liquidating short-term trade financing transactions connected to the exchange of goods or services with a residual maturity of up to one year and defined as:

(i)       letters of credit issued or confirmed, and related undertakings and financing;

(ii)      pre-shipment financing and post-shipment acceptances and/or financing;

(iii)     trade loans;

(iv)      performance guarantees, bid bonds and other guarantees, including standby letters of credit, that do not have the characteristics of a credit substitute;

(c)      exposures arising from settlement of securities purchases and sales within the usual delivery period or two business days;

(d)      exposures arising from cash settlements by wire transfer and settlements of electronic payment transactions and prepaid cost, including overdrafts arising from failed transactions that do not exceed a short, fixed agreed number of business days.

4.        For exposures to corporates situated in the Union and having consolidated sales and consolidated assets of less than EUR 500 million, institutions may choose to consistently set M as set out in paragraph 1 instead of applying paragraph 2. Institutions may replace EUR 500 million total assets with EUR 1000 million total assets for corporates which primarily own and let non-speculative residential property.

5.        Maturity mismatches shall be treated as specified in Chapter 4.

Sub-Section 2Retail Exposures

Article 159Probability of default

1.        PD of an exposure shall be at least 0.03 %.

2.        The PD of obligors or, where an obligation approach is used, of exposures in default shall be 100 %.

3.        For dilution risk of purchased receivables PD shall be set equal to EL estimates for dilution risk. If an institution can decompose its EL estimates for dilution risk of purchased receivables into PDs and LGDs in a manner the competent authorities consider to be reliable, the PD estimate may be used.

4.        Unfunded credit protection may be taken into account by adjusting PDs subject to Article 160(2). For dilution risk, in addition to the protection providers referred to in Article 197(1)(g) , the seller of the purchased receivables is eligible if the conditions set out in Article 156(4) are met.

Article160 Loss Given Default (LGD)

1.        Institutions shall provide own estimates of LGDs subject to requirements as specified in Section 6 and permission of the competent authorities granted in accordance with Article 138. For dilution risk of purchased receivables, an LGD value of 75 % shall be used. If an institution can decompose its EL estimates for dilution risk of purchased receivables into PDs and LGDs in a reliable manner, the institution may use its own LGD estimate.

2.        Unfunded credit protection may be recognised as eligible by adjusting PD or LGD estimates subject to requirements as specified in Article 179(1)(2) and (3) and permission of the competent authorities either in support of an individual exposure or a pool of exposures. An institution shall not assign guaranteed exposures an adjusted PD or LGD such that the adjusted risk weight would be lower than that of a comparable, direct exposure to the guarantor.

3.        For the purposes of Article 149(2), the LGD of a comparable direct exposure to the protection provider shall either be the LGD associated with an unhedged facility to the guarantor or the unhedged facility of the obligor, depending upon whether, in the event both the guarantor and obligor default during the life of the hedged transaction, available evidence and the structure of the guarantee indicate that the amount recovered would depend on the financial condition of the guarantor or obligor, respectively.

Based on the data collected under Article 96, and any other relevant indicators, the competent authorities shall periodically, and at least annually, assess whether the exposure weighted average LGD for exposures secured by mortgages on residential property and exposures secured by commercial immovable property located in its territory are appropriate, based on the default experience of exposures secured by immovable property and taking into account forward-looking immovable property markets developments, and may set a minimum exposure weighted average LGD level, where appropriate, on the basis of financial stability considerations. EBA shall coordinate the assessments carried out by the competent authorities. The assessment process followed by the authorities shall be publicly available. The full results and the aggregate data used in the assessment process shall be disclosed at the same time with the minimum exposure weighted average LGD level

Sub-Section 3Equity Exposures Subject To Pd/Lgd Method

Article 161Equity exposures subject to the PD/LGD method

1.        PDs shall be determined according to the methods for corporate exposures.

The following minimum PDs shall apply:

(a)       0.09 % for exchange traded equity exposures where the investment is part of a long-term customer relationship;

(b)       0.09 % for non-exchange traded equity exposures where the returns on the investment are based on regular and periodic cash flows not derived from capital gains;

(c)       0.40 % for exchange traded equity exposures including other short positions as set out in Article 150(2);

(d)       1.25 % for all other equity exposures including other short positions as set out in Article 150(2).

2.        Private equity exposures in sufficiently diversified portfolios may be assigned an LGD of 65 %. All other such exposures shall be assigned an LGD of 90 %.

3.        M assigned to all exposures shall be 5 years.

Section 5Exposure Value

Article162 Exposures to corporates, institutions, central governments and central banks and retail exposures

1.        Unless noted otherwise, the exposure value of on-balance sheet exposures shall be the accounting value measured without taking into account any credit risk adjustments made.

This rule also applies to assets purchased at a price different than the amount owed.

For purchased assets, the difference between the amount owed and the accounting value remaining after specific credit risk adjustments have been applied that has been recorded on the balance-sheet of the institutions when purchasing the asset is denoted discount if the amount owed is larger, and premium if it is smaller.

2.        Where institutions use Master netting agreements in relation to repurchase transactions or securities or commodities lending or borrowing transactions, the exposure value shall be calculated in accordance with Chapter 4.

3.        For on-balance sheet netting of loans and deposits, institutions shall apply for the calculation of the exposure value the methods set out in Chapter 4.

4.        The exposure value for leases shall be the discounted minimum lease payments. Minimum lease payments shall comprise the payments over the lease term that the lessee is or can be required to make and any bargain option (i.e. option the exercise of which is reasonably certain). If a party other than the lessee may be required to make a payment related to the residual value of a leased asset and this payment obligation fulfils the set of conditions in Article 197 regarding the eligibility of protection providers as well as the requirements for recognising other types of guarantees provided in Article 208, the payment obligation may be taken into account as unfunded credit protection in accordance with Chapter 4.

5.        In the case of any item listed in Annex II, the exposure value shall be determined by the methods set out in Chapter 6 and shall not take into account any credit risk adjustment made.

6.        The exposure value for the calculation of risk weighted exposure amounts of purchased receivables shall be the value according to paragraph 1 minus the own funds requirements for dilution risk prior to credit risk mitigation.

7.        Where an exposure takes the form of securities or commodities sold, posted or lent under repurchase transactions or securities or commodities lending or borrowing transactions, long settlement transactions and margin lending transactions, the exposure value shall be the value of the securities or commodities determined in accordance with Article 94. Where the Financial Collateral Comprehensive Method as set out under Article 218 is used, the exposure value shall be increased by the volatility adjustment appropriate to such securities or commodities, as set out therein. The exposure value of repurchase transactions, securities or commodities lending or borrowing transactions, long settlement transactions and margin lending transactions may be determined either in accordance with Chapter 6 or Article 215(2).

8.        The exposure value for the following items shall be calculated as the committed but undrawn amount multiplied by a conversion factor. Institutions shall use the following conversion factors in accordance with Article 146(8):

(a)       for credit lines that are unconditionally cancellable at any time by the institution without prior notice, or that effectively provide for automatic cancellation due to deterioration in a borrower's credit worthiness, a conversion factor of 0 % shall apply. To apply a conversion factor of 0 %, institutions shall actively monitor the financial condition of the obligor, and their internal control systems shall enable them to immediately detect deterioration in the credit quality of the obligor. Undrawn credit lines may be considered as unconditionally cancellable if the terms permit the institution to cancel them to the full extent allowable under consumer protection and related legislation;

(b)       for short-term letters of credit arising from the movement of goods, a conversion factor of 20 % shall apply for both the issuing and confirming institutions;

(c)       for undrawn purchase commitments for revolving purchased receivables that are able to be unconditionally cancelled or that effectively provide for automatic cancellation at any time by the institution without prior notice, a conversion factor of 0 % shall apply. To apply a conversion factor of 0 %, institutions shall actively monitor the financial condition of the obligor, and their internal control systems shall enable them to immediately detect a deterioration in the credit quality of the obligor;

(d)       for other credit lines, note issuance facilities (NIFs), and revolving underwriting facilities (RUFs), a conversion factor of 75 % shall apply;

(e)       institutions which meet the requirements for the use of own estimates of conversion factors as specified in Section 6 may use their own estimates of conversion factors across different product types as mentioned in points (a) to (d), subject to permission of the competent authorities.

9.        Where a commitment refers to the extension of another commitment, the lower of the two conversion factors associated with the individual commitment shall be used.

10.      For all off-balance sheet items other than those mentioned in points 1 to 8, the exposure value shall be the following percentage of its value:

(a)       100 % if it is a full risk item;

(b)       50 % if it is a medium-risk item;

(c)       20 % if it is a medium/low-risk item;

(d)       0 % if it is a low-risk item.

For the purposes of this paragraph the off-balance sheet items shall be assigned to risk categories as indicated in Annex I.

Article 163Equity exposures

1.        The exposure value of equity exposures shall be the accounting value remaining after specific credit risk adjustment have been applied.

2.        The exposure value of off-balance sheet equity exposures shall be its nominal value after reducing its nominal value by specific credit risk adjustments for this exposure.

Article 164Other non credit-obligation assets

The exposure value of other non credit-obligation assets shall be the accounting value remaining after specific credit risk adjustment have been applied

Section 6requirements for the IRB approach

Sub-Section 1Rating Systems

Article 165General principles

1.        Where an institution uses multiple rating systems, the rationale for assigning an obligor or a transaction to a rating system shall be documented and applied in a manner that appropriately reflects the level of risk.

2.        Assignment criteria and processes shall be periodically reviewed to determine whether they remain appropriate for the current portfolio and external conditions.

3.        Where an institution uses direct estimates of risk parameters these may be seen as the outputs of grades on a continuous rating scale.

Article 166Structure of rating systems

1.        The structure of rating systems for exposures to corporates, institutions and central governments and central banks shall comply with the following requirements:

(a)       a rating system shall take into account obligor and transaction risk characteristics;

(b)       a rating system shall have an obligor rating scale which reflects exclusively quantification of the risk of obligor default. The obligor rating scale shall have a minimum of 7 grades for non-defaulted obligors and one for defaulted obligors;

(c)       an institution shall document the relationship between obligor grades in terms of the level of default risk each grade implies and the criteria used to distinguish that level of default risk;

(d)       institutions with portfolios concentrated in a particular market segment and range of default risk shall have enough obligor grades within that range to avoid undue concentrations of obligors in a particular grade. Significant concentrations within a single grade shall be supported by convincing empirical evidence that the obligor grade covers a reasonably narrow PD band and that the default risk posed by all obligors in the grade falls within that band;

(e)       to be permitted to be used for own funds requirement calculation of own estimates of LGDs, a rating system shall incorporate a distinct facility rating scale which exclusively reflects LGD related transaction characteristics. The facility grade definition shall include both a description of how exposures are assigned to the grade and of the criteria used to distinguish the level of risk across grades;

(f)        significant concentrations within a single facility grade shall be supported by convincing empirical evidence that the facility grade covers a reasonably narrow LGD band, respectively, and that the risk posed by all exposures in the grade falls within that band.

2.        Institutions using the methods set out in IRB6(5) for assigning risk weights for specialised lending exposures are exempt from the requirement to have an obligor rating scale which reflects exclusively quantification of the risk of obligor default for these exposures. These institutions shall have for these exposures at least 4 grades for non-defaulted obligors and at least one grade for defaulted obligors.

3.        The structure of rating systems for retail exposures shall comply with the following requirements:

(a)       rating systems shall reflect both obligor and transaction risk, and shall capture all relevant obligor and transaction characteristics;

(b)       the level of risk differentiation shall ensure that the number of exposures in a given grade or pool is sufficient to allow for meaningful quantification and validation of the loss characteristics at the grade or pool level. The distribution of exposures and obligors across grades or pools shall be such as to avoid excessive concentrations;

(c)       the process of assigning exposures to grades or pools shall provide for a meaningful differentiation of risk, for a grouping of sufficiently homogenous exposures, and shall allows for accurate and consistent estimation of loss characteristics at grade or pool level. For purchased receivables the grouping shall reflect the seller's underwriting practices and the heterogeneity of its customers;

4.        Institutions shall consider the following risk drivers when assigning exposures to grades or pools.

(a)       obligor risk characteristics;

(b)       transaction risk characteristics, including product or collateral types or both. Institutions shall explicitly address cases where several exposures benefit from the same collateral;

(c)       delinquency, except where institution demonstrates to the satisfaction of its competent authority that delinquency is not a material driver of risk for the exposure.

Article 167Assignment to grades or pools

1.        An institution shall have specific definitions, processes and criteria for assigning exposures to grades or pools within a rating system that comply with the following requirements:

(a)       the grade or pool definitions and criteria shall be sufficiently detailed to allow those charged with assigning ratings to consistently assign obligors or facilities posing similar risk to the same grade or pool. This consistency shall exist across lines of business, departments and geographic locations;

(b)       the documentation of the rating process shall allow third parties to understand the assignments of exposures to grades or pools, to replicate grade and pool assignments and to evaluate the appropriateness of the assignments to a grade or a pool;

(c)       the criteria shall also be consistent with the institution's internal lending standards and its policies for handling troubled obligors and facilities.

2.        An institution shall take all relevant information into account in assigning obligors and facilities to grades or pools. Information shall be current and shall enable the institution to forecast the future performance of the exposure. The less information an institution has, the more conservative shall be its assignments of exposures to obligor and facility grades or pools. If an institution uses an external rating as a primary factor determining an internal rating assignment, the institution shall ensure that it considers other relevant information.

Article 168 Assignment of exposures

1.        For exposures to corporates, institutions and central governments and central banks, assignment of exposures shall be carried out in accordance with the following criteria:

(a)       each obligor shall be assigned to an obligor grade as part of the credit approval process;

(b)       for those institutions that have received the permission of the competent authority to use own estimates of LGDs and conversion factors pursuant to Article 138,each exposure shall also be assigned to a facility grade as part of the credit approval process;

(c)       institutions using the methods set out in Article 148(5) for assigning risk weights for specialised lending exposures shall assign each of these exposures to a grade in accordance with Article 166(2);

(d)       each separate legal entity to which the institution is exposed shall be separately rated. An institution shall have appropriate policies regarding the treatment of individual obligor clients and groups of connected clients;

(e)       separate exposures to the same obligor shall be assigned to the same obligor grade, irrespective of any differences in the nature of each specific transaction. However, where separate exposures are allowed to result in multiple grades for the same obligor, the following shall apply:

(i)        country transfer risk, this being dependent on whether the exposures are denominated in local or foreign currency;

(ii)       where the treatment of associated guarantees to an exposure may be reflected in an adjusted assignment to an obligor grade;

(iii)      where consumer protection, bank secrecy or other legislation prohibit the exchange of client data.

2.        For retail exposures, each exposure shall be assigned to a grade or a pool as part of the credit approval process.

3.        For grade and pool assignments institutions shall document the situations in which human judgement may override the inputs or outputs of the assignment process and the personnel responsible for approving these overrides. Institutions shall document these overrides and note down the personnel responsible. Institutions shall analyse the performance of the exposures whose assignments have been overridden. This analysis shall include an assessment of the performance of exposures whose rating has been overridden by a particular person, accounting for all the responsible personnel.

Article 169Integrity of assignment process

1.        For exposures to corporates, institutions and central governments and central banks, the assignment process shall meet the following requirements of integrity:

(a)       Assignments and periodic reviews of assignments shall be completed or approved by an independent party that does not directly benefit from decisions to extend the credit;

(b)       Institutions shall update assignments at least annually. High risk obligors and problem exposures shall be subject to more frequent review. Institutions shall undertake a new assignment if material information on the obligor or exposure becomes available;

(c)       An institution shall have an effective process to obtain and update relevant information on obligor characteristics that affect PDs, and on transaction characteristics that affect LGDs or conversion factors.

2.        For retail exposures, an institution shall at least annually update obligor and facility assignments or review the loss characteristics and delinquency status of each identified risk pool, whichever applicable. An institution shall also at least annually review in a representative sample the status of individual exposures within each pool as a means of ensuring that exposures continue to be assigned to the correct pool.

3.        EBA shall develop regulatory technical standards to specify the conditions according to which institutions shall ensure the integrity of the assignment process and the regular and independent assessment of risks.

EBA shall submit the draft regulatory technical standards referred to in the first sub-paragraph to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 170Use of models

If an institution uses statistical models and other mechanical methods to assign exposures to obligors or facilities grades or pools, the following requirements shall be met:

(a)       the model shall have good predictive power and capital requirements shall not be distorted as a result of its use. The input variables shall form a reasonable and effective basis for the resulting predictions. The model shall not have material biases;

(b)       the institution shall have in place a process for vetting data inputs into the model, which includes an assessment of the accuracy, completeness and appropriateness of the data;

(c)       the data used to build the model shall be representative of the population of the institution's actual obligors or exposures;

(d)       the institution shall have a regular cycle of model validation that includes monitoring of model performance and stability; review of model specification; and testing of model outputs against outcomes;

(e)       the institution shall complement the statistical model by human judgement and human oversight to review model-based assignments and to ensure that the models are used appropriately. Review procedures shall aim at finding and limiting errors associated with model weaknesses. Human judgements shall take into account all relevant information not considered by the model. The institution shall document how human judgement and model results are to be combined.

Article 171 Documentation of rating systems

1.        The institutions shall document the design and operational details of its rating systems. The documentation shall provide evidence of compliance with the requirements in this Section, and address topics including portfolio differentiation, rating criteria, responsibilities of parties that rate obligors and exposures, frequency of assignment reviews, and management oversight of the rating process.

2.        The institution shall document the rationale for and analysis supporting its choice of rating criteria. An institution shall document all major changes in the risk rating process, and such documentation shall support identification of changes made to the risk rating process subsequent to the last review by the competent authorities. The organisation of rating assignment including the rating assignment process and the internal control structure shall also be documented.

3.        The institutions shall document the specific definitions of default and loss used internally and ensure consistency with the definitions set out in this Regulation.

4.        Where the institution employs statistical models in the rating process, the institution shall document their methodologies. This material shall:

(a)       provide a detailed outline of the theory, assumptions and mathematical and empirical basis of the assignment of estimates to grades, individual obligors, exposures, or pools, and the data source(s) used to estimate the model;

(b)       establish a rigorous statistical process including out-of-time and out-of-sample performance tests for validating the model;

(c)       indicate any circumstances under which the model does not work effectively.

5.        An institution shall demonstrate to the satisfaction of the competent authority that the requirements of this Article are met, where an institution has obtained a rating system, or model used within a rating system, from a third-party vendor and that vendor refuses or restricts the access of the institution to information pertaining to the methodology of that rating system or model, or underlying data used to develop that methodology or model, on the basis that such information is proprietary.

Article 172Data maintenance

1.        Institutions shall collect and store data on aspects of their internal ratings as required under Part Eight.

2.        For exposures to corporates, institutions and central governments and central banks, institutions shall collect and store:

(a)       complete rating histories on obligors and recognised guarantors;

(b)       the dates the ratings were assigned;

(c)       the key data and methodology used to derive the rating;

(d)       the person responsible for the rating assignment;

(e)       the identity of obligors and exposures that defaulted;

(f)        the date and circumstances of such defaults;

(g)       data on the PDs and realised default rates associated with rating grades and ratings migration.

3.        Institutions not using own estimates of LGDs and conversion factors shall collect and store data on comparisons of realised LGDs to the values as set out in Article 157(1) and realised conversion factors to the values as set out in Article 162(8).

4.        Institutions using own estimates of LGDs and conversion factors shall collect and store:

(a)       complete histories of data on the facility ratings and LGD and conversion factor estimates associated with each rating scale;

(b)       the dates the ratings were assigned and the estimates were done;

(c)       the key data and methodology used to derive the facility ratings and LGD and conversion factor estimates;

(d)       the person who assigned the facility rating and the person who provided LGD and conversion factor estimates;

(e)       data on the estimated and realised LGDs and conversion factors associated with each defaulted exposure;

(f)        data on the LGD of the exposure before and after evaluation of the effects of a guarantee/or credit derivative, for those institutions that reflect the credit risk mitigating effects of guarantees or credit derivatives through LGD;

(g)       data on the components of loss for each defaulted exposure.

5.        For retail exposures, institutions shall collect and store:

(a)       data used in the process of allocating exposures to grades or pools;

(b)       data on the estimated PDs, LGDs and conversion factors associated with grades or pools of exposures;

(c)       the identity of obligors and exposures that defaulted;

(d)       for defaulted exposures, data on the grades or pools to which the exposure was assigned over the year prior to default and the realised outcomes on LGD and conversion factor;

(e)       data on loss rates for qualifying revolving retail exposures.

Article 173Stress tests used in assessment of capital adequacy

1.        An institution shall have in place sound stress testing processes for use in the assessment of its capital adequacy. Stress testing shall involve identifying possible events or future changes in economic conditions that could have unfavourable effects on an institution's credit exposures and assessment of the institution's ability to withstand such changes.

2.        An institution shall regularly perform a credit risk stress test to assess the effect of certain specific conditions on its total capital requirements for credit risk. The test shall be one chosen by the institution, subject to supervisory review. The test to be employed shall be meaningful and consider the effects of a severe, but plausible, recession scenarios. An institution shall assess migration in its ratings under the stress test scenarios. Stressed portfolios shall contain the vast majority of an institution's total exposure.

3.        Institutions using the treatment set out in Article 148(3) shall consider as part of their stress testing framework the impact of a deterioration in the credit quality of protection providers, in particular the impact of protection providers falling outside the eligibility criteria.

4.        EBA shall develop draft implementing technical standards to specify in greater detail the meaning of severe but plausible recession scenarios referred to in paragraph 2.

5.        EBA shall submit those draft implementing technical standards to the Commission by 31 December 2014.

6.        Power is conferred on the Commission to adopt the implementing technical standards referred to in the first subparagraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

Sub-Section 2Risk quantification

Article 174

Default of an obligor

1.        In quantifying the risk parameters to be associated with rating grades and pools, institutions shall apply the following approach to determining when an obligor has defaulted. For the purposes of this Chapter, a default shall occur with regard to a particular obligor when either of the following has taken place:

(a)       the institution considers that the obligor is unlikely to pay its credit obligations to the institution, the parent undertaking or any of its subsidiaries in full, without recourse by the institution to actions such as realising security;

(b)       the obligor is past due more than 90 days on any material credit obligation to the institution, the parent undertaking or any of its subsidiaries.

In the case of residential or SME commercial real estate exposures (lending or leasing) and exposures to public sector entities (PSE) the institution shall set a number of days past due of between 90 days and 180 days.

For overdrafts, days past due commence once an obligor has breached an advised limit, has been advised a limit smaller than current outstandings, or has drawn credit without authorisation and the underlying amount is material.

In the case of retail exposures, default at facility level shall also be considered for the purposes of paragraph 2.

An advised limit comprises any credit limit determined by the institution and about which the obligor has been informed by the institution.

Days past due for credit cards commence on the minimum payment due date.

In all cases, the exposure past due shall be above a threshold, defined by the competent authorities. This threshold shall reflect a level of risk that the competent authority considers to be reasonable.

Institutions shall have documented policies in respect of the counting of days past due, in particular in respect of the re-ageing of the facilities and the granting of extensions, amendments or deferrals, renewals, and netting of existing accounts. These policies shall be applied consistently over time, and shall be in line with the internal risk management and decision processes of the institution.

2.        For the purpose of point (a) of the paragraph 1, elements to be taken as indications of unlikeliness to pay shall include:

(a)       the institution puts the credit obligation on non-accrued status;

(b)       the institution recognises a specific credit adjustment resulting from a significant perceived decline in credit quality subsequent to the institution taking on the exposure;

(c)       the institution sells the credit obligation at a material credit-related economic loss;

(d)       the institution consents to a distressed restructuring of the credit obligation where this is likely to result in a diminished financial obligation caused by the material forgiveness, or postponement, of principal, interest or, where relevant fees. This includes, in the case of equity exposures assessed under a PD/LGD Approach, distressed restructuring of the equity itself;

(e)       the institution has filed for the obligor's bankruptcy or a similar order in respect of an obligor's credit obligation to the institution, the parent undertaking or any of its subsidiaries;

(f)        the obligor has sought or has been placed in bankruptcy or similar protection where this would avoid or delay repayment of a credit obligation to the institution, the parent undertaking or any of its subsidiaries.

3.        Institutions that use external data that is not itself consistent with the determination of default laid down in paragraph 1, shall make appropriate adjustments to achieve broad equivalence with the definition of default.

4.        If the institution considers that a previously defaulted exposure is such that no trigger of default continues to apply, the institution shall rate the obligor or facility as they would for a non-defaulted exposure. Should the definition of default subsequently be triggered, another default would be deemed to have occurred.

5.        EBA shall develop draft regulatory technical standards to specify the conditions according to which a competent authority shall set the threshold referred to in paragraph 1 which an exposure shall qualify as past due.

EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

6.        EBA shall issue guidelines on the application of this Article. Those guidelines shall be adopted in accordance with Article 16 of Regulation (EU) No 1093/2010.

Article 175Overall requirements for estimation

1.        In quantifying the risk parameters to be associated with rating grades or pools, institutions shall apply the following requirements:

(a)       an institution's own estimates of the risk parameters PD, LGD, conversion factor and EL shall incorporate all relevant data, information and methods. The estimates shall be derived using both historical experience and empirical evidence, and not based purely on judgemental considerations. The estimates shall be plausible and intuitive and shall be based on the material drivers of the respective risk parameters. The less data an institution has, the more conservative it shall be in its estimation;

(b)       an institution shall be able to provide a breakdown of its loss experience in terms of default frequency, LGD, conversion factor, or loss where EL estimates are used, by the factors it sees as the drivers of the respective risk parameters. The institution's estimates shall be representative of long run experience;

(c)       any changes in lending practice or the process for pursuing recoveries over the observation periods referred to in Articles 176(1)(h), IRB 34(2)(e), IRB 35(2) and IRB 35(3) shall be taken into account. An institution's estimates shall reflect the implications of technical advances and new data and other information, as it becomes available. Institutions shall review their estimates when new information comes to light but at least on an annual basis;

(d)       the population of exposures represented in the data used for estimation, the lending standards used when the data was generated and other relevant characteristics shall be comparable with those of the institution's exposures and standards. The economic or market conditions that underlie the data shall be relevant to current and foreseeable conditions. The number of exposures in the sample and the data period used for quantification shall be sufficient to provide the institution with confidence in the accuracy and robustness of its estimates;

(e)       for purchased receivables the estimates shall reflect all relevant information available to the purchasing institution regarding the quality of the underlying receivables, including data for similar pools provided by the seller, by the purchasing institution, or by external sources. The purchasing institution shall evaluate any data relied upon which is provided by the seller;

(f)        an institution shall add to its estimates a margin of conservatism that is related to the expected range of estimation errors. Where methods and data are considered to be less satisfactory by the institution or the competent authority,the expected range of errors is larger, the margin of conservatism shall be larger.

Where institutions use different estimates for the calculation of risk weights and for internal purposes, it shall be documented and be reasonable. If institutions can demonstrate to their competent authorities that for data that have been collected prior to 1 January 2007 appropriate adjustments have been made to achieve broad equivalence with the determination of default laid down in Article 174 or loss, competent authorities may permit the institutions some flexibility in the application of the required standards for data.

2.        Where an institution uses data that is pooled across institutions it shall meet the following requirements:

(a)       the rating systems and criteria of other institutions in the pool are similar with its own;

(b)       the pool is representative of the portfolio for which the pooled data is used;

(c)       the pooled data is used consistently over time by the institution for its estimates;

(d)       the institution shall remain responsible for the integrity of its rating systems;

(e)       the institution shall maintain sufficient in-house understanding of its rating systems, including the ability to effectively monitor and audit the rating process.

Article 176Requirements specific to PD estimation

1.        In quantifying the risk parameters to be associated with rating grades or pools, institutions shall apply the following requirements specific to PD estimation to exposures to corporates, institutions and central governments and central banks:

(a)       institutions shall estimate PDs by obligor grade from long run averages of one-year default rates. PD estimates for obligors that are highly leveraged or for obligors whose assets are predominantly traded assets shall reflect the performance of the underlying assets based on periods of stressed volatilities;

(b)       for purchased corporate receivables institutions may estimate the Expected Loss (hereinafter EL) by obligor grade from long run averages of one-year realised default rates;

(c)       if an institution derives long run average estimates of PDs and LGDs for purchased corporate receivables from an estimate of EL, and an appropriate estimate of PD or LGD, the process for estimating total losses shall meet the overall standards for estimation of PD and LGD set out in this part, and the outcome shall be consistent with the concept of LGD as set out in Article 177(1)(a);

(d)       institutions shall use PD estimation techniques only with supporting analysis. Institutions shall recognise the importance of judgmental considerations in combining results of techniques and in making adjustments for limitations of techniques and information;

(e)       to the extent that an institution uses data on internal default experience for the estimation of PDs, the estimates shall be reflective of underwriting standards and of any differences in the rating system that generated the data and the current rating system. Where underwriting standards or rating systems have changed, the institution shall add a greater margin of conservatism in its estimate of PD;

(f)        to the extent that an institution associates or maps its internal grades to the scale used by an ECAI or similar organisations and then attributes the default rate observed for the external organisation's grades to the institution's grades, mappings shall be based on a comparison of internal rating criteria to the criteria used by the external organisation and on a comparison of the internal and external ratings of any common obligors. Biases or inconsistencies in the mapping approach or underlying data shall be avoided. The criteria of the external organisation underlying the data used for quantification shall be oriented to default risk only and not reflect transaction characteristics. The analysis undertaken by the institution shall include a comparison of the default definitions used, subject to the requirements in Article 174. The institution shall document the basis for the mapping;

(g)       to the extent that an institution uses statistical default prediction models it is allowed to estimate PDs as the simple average of default-probability estimates for individual obligors in a given grade. The institution's use of default probability models for this purpose shall meet the standards specified in Article 28;

(h)       irrespective of whether an institution is using external, internal, or pooled data sources, or a combination of the three, for its PD estimation, the length of the underlying historical observation period used shall be at least five years for at least one source. If the available observation period spans a longer period for any source, and this data is relevant, this longer period shall be used. This point also applies to the PD/LGD Approach to equity. Subject to the permission of competent authorities, institutions which have not received the permission of the competent authority pursuant to Article 138 to use own estimates of LGDs or conversion factors may use, when they implement the IRB Approach, relevant data covering a period of two years. The period to be covered shall increase by one year each year until relevant data cover a period of five years.

2.        For retail exposures, the following requirements shall apply:

(a)       institutions shall estimate PDs by obligor grade or pool from long run averages of one-year default rates;

(b)       PD estimates may also be derived from realised losses and appropriate estimates of LGDs;

(c)       institutions shall regard internal data for assigning exposures to grades or pools as the primary source of information for estimating loss characteristics. Institutions may use external data (including pooled data) or statistical models for quantification provided a strong link exists between the following:

(i)     the institution's process of assigning exposures to grades or pools and the process used by the external data source;

(ii)    the institution's internal risk profile and the composition of the external data;

(d)       if an institution derives long run average estimates of PD and LGD for retail from an estimate of total losses and an appropriate estimate of PD or LGD, the process for estimating total losses shall meet the overall standards for estimation of PD and LGD set out in this part, and the outcome shall be consistent with the concept of LGD as set out in point (a) of Article 177(1);

(e)       irrespective of whether an institution is using external, internal or pooled data sources or a combination of the three, for their estimation of loss characteristics, the length of the underlying historical observation period used shall be at least five years for at least one source. If the available observation spans a longer period for any source, and these data are relevant, this longer period shall be used. An institution need not give equal importance to historic data if more recent data is a better predictor of loss rates. Subject to the permission of the competent authorities, institutions may use, when they implement the IRB Approach, relevant data covering a period of two years. The period to be covered shall increase by one year each year until relevant data cover a period of five years;

(f)        institutions shall identify and analyse expected changes of risk parameters over the life of credit exposures (seasoning effects).

For purchased retail receivables, institutions may use external and internal reference data. Institutions shall use all relevant data sources as points of comparison.

3.        EBA shall develop draft regulatory technical standards to specify the following:

(a)       the conditions according to which competent authorities may grant the permissions referred to in point (h) of paragraph 1 and point (e) of paragraph 2;

(b)       the conditions according to which competent authorities shall assess the methodology of an institution for estimating PD pursuant to Article 138.

EBA shall submit the draft regulatory technical standards referred to in the first sub-paragraph to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 177Requirements specific to own-LGD estimates

1.        In quantifying the risk parameters to be associated with rating grades or pools, institutions shall apply the following requirements specific to own-LGD estimates:

(a)       institutions shall estimate LGDs by facility grade or pool on the basis of the average realised LGDs by facility grade or pool using all observed defaults within the data sources (default weighted average);

(b)       institutions shall use LGD estimates that are appropriate for an economic downturn if those are more conservative than the long-run average. To the extent a rating system is expected to deliver realised LGDs at a constant level by grade or pool over time, institutions shall make adjustments to their estimates of risk parameters by grade or pool to limit the capital impact of an economic downturn;

(c)       an institution shall consider the extent of any dependence between the risk of the obligor with that of the collateral or collateral provider. Cases where there is a significant degree of dependence shall be addressed in a conservative manner;

(d)       currency mismatches between the underlying obligation and the collateral shall be treated conservatively in the institution's assessment of LGD;

(e)       to the extent that LGD estimates take into account the existence of collateral, these estimates shall not solely be based on the collateral's estimated market value. LGD estimates shall take into account the effect of the potential inability of institutions to expeditiously gain control of their collateral and liquidate it;

(f)        to the extent that LGD estimates take into account the existence of collateral, institutions shall establish internal requirements for collateral management, legal certainty and risk management that are generally consistent with those set out in Chapter 4, Section 3;

(g)       to the extent that an institution recognises collateral for determining the exposure value for counterparty credit risk according to Chapter 6, Section 5 or 6, any amount expected to be recovered from the collateral shall not be taken into account in the LGD estimates;

(h)       for the specific case of exposures already in default, the institution shall use the sum of its best estimate of expected loss for each exposure given current economic circumstances and exposure status and the possibility of additional unexpected losses during the recovery period;

(i)        to the extent that unpaid late fees have been capitalised in the institution's income statement, they shall be added to the institution's measure of exposure and loss;

(j)        for exposures to corporates, institutions and central governments and central banks, estimates of LGD shall be based on data over a minimum of five years, increasing by one year each year after implementation until a minimum of seven years is reached, for at least one data source. If the available observation period spans a longer period for any source, and the data is relevant, this longer period shall be used.

2.        For retail exposures, institutions may do the following:

(a)       derive LGD estimates from realised losses and appropriate estimates of PDs;

(b)       reflect future drawings either in their conversion factors or in their LGD estimates;

(c)       For purchased retail receivables use external and internal reference data to estimate LGDs.

For retail exposures, estimates of LGD shall be based on data over a minimum of five years. An institution needs not give equal importance to historic data if more recent data is a better predictor of loss rates. Subject to the permission of the competent authorities, institutions may use, when they implement the IRB Approach, relevant data covering a period of two years. The period to be covered shall increase by one year each year until relevant data cover a period of five years.

3.        EBA shall develop draft regulatory technical standards to specify the following:

(a)       the nature, severity and duration of an economic downturn referred to in paragraph 1;

(b)       the conditions according to which a competent authority may permit and institution pursuant to paragraph 3 to use relevant data covering a period of two years when the institution implements the IRB approach.

EBA shall submit the draft regulatory technical standards referred to in the first subparagraph to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 178Requirements specific to own-conversion factor estimates

1.        In quantifying the risk parameters to be associated with rating grades or pools, institutions shall apply the following requirements specific to own-conversion factor estimates:

(a)       institutions shall estimate conversion factors by facility grade or pool on the basis of the average realised conversion factors by facility grade or pool using the default weighted average resulting from all observed defaults within the data sources;

(b)       institutions shall use conversion factor estimates that are appropriate for an economic downturn if those are more conservative than the long-run average. To the extent a rating system is expected to deliver realised conversion factors at a constant level by grade or pool over time, institutions shall make adjustments to their estimates of risk parameters by grade or pool to limit the capital impact of an economic downturn;

(c)       institutions' estimates of conversion factors shall reflect the possibility of additional drawings by the obligor up to and after the time a default event is triggered. The conversion factor estimate shall incorporate a larger margin of conservatism where a stronger positive correlation can reasonably be expected between the default frequency and the magnitude of conversion factor;

(d)       in arriving at estimates of conversion factors institutions shall consider their specific policies and strategies adopted in respect of account monitoring and payment processing. Institutions shall also consider their ability and willingness to prevent further drawings in circumstances short of payment default, such as covenant violations or other technical default events;

(e)       institutions shall have adequate systems and procedures in place to monitor facility amounts, current outstandings against committed lines and changes in outstandings per obligor and per grade. The institution shall be able to monitor outstanding balances on a daily basis;

(f)        if institutions use different estimates of conversion factors for the calculation of risk weighted exposure amounts and internal purposes it shall be documented and be reasonable.

2.        For exposures to corporates, institutions and central governments and central banks, estimates of conversion factors shall be based on data over a minimum of five years, increasing by one year each year after implementation until a minimum of seven years is reached, for at least one data source. If the available observation period spans a longer period for any source, and the data is relevant, this longer period shall be used.

3.        For retail exposures, institutions may reflect future drawings either in their conversion factors or in their LGD estimates.

For retail exposures, estimates of conversion factors shall be based on data over a minimum of five years. An institution need not give equal importance to historic data requirements referred to in paragraph 1(a) if more recent data is a better predictor of draw downs. Subject to the permission of competent authorities, institutions may use, when they implement the IRB Approach, relevant data covering a period of two years. The period to be covered shall increase by one year each year until relevant data cover a period of five years.

4.        EBA shall develop draft regulatory technical standards to specify the following:

(a)       the nature, severity and duration of an economic downturn referred to in paragraph 1;

(b)       conditions according to which a competent authority may permit and institution to use relevant data covering a period of two years at the time an institution first implements the IRB approach.

EBA shall submit the draft regulatory technical standards referred to in the first subparagraph to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 179Requirements for assessing the effect of guarantees and credit derivatives for exposures to corporates, institutions and central governments and central banks where own estimates of LGD are used and retail exposures

1.        The following requirements shall apply in relation to eligible guarantors and guarantees:

(a)       institutions shall have clearly specified criteria for the types of guarantors they recognise for the calculation of risk weighted exposure amounts;

(b)       for recognised guarantors the same rules as for obligors as set out in Articles 167, 168 and 169 shall apply;

(c)       the guarantee shall be evidenced in writing, non-cancellable on the part of the guarantor, in force until the obligation is satisfied in full (to the extent of the amount and tenor of the guarantee) and legally enforceable against the guarantor in a jurisdiction where the guarantor has assets to attach and enforce a judgement. Conditional guarantees prescribing conditions under which the guarantor may not be obliged to perform may be recognised subject to permission of the competent authorities. The assignment criteria shall adequately address any potential reduction in the risk mitigation effect.

2.        An institution shall have clearly specified criteria for adjusting grades, pools or LGD estimates, and, in the case of retail and eligible purchased receivables, the process of allocating exposures to grades or pools, to reflect the impact of guarantees for the calculation of risk weighted exposure amounts. These criteria shall comply with the requirements set out in Articles 167 to 169.

The criteria shall be plausible and intuitive. They shall address the guarantor's ability and willingness to perform under the guarantee, the likely timing of any payments from the guarantor, the degree to which the guarantor's ability to perform under the guarantee is correlated with the obligor's ability to repay, and the extent to which residual risk to the obligor remains.

3.        The requirements for guarantees in this Article shall apply also for single-name credit derivatives. In relation to a mismatch between the underlying obligation and the reference obligation of the credit derivative or the obligation used for determining whether a credit event has occurred, the requirements set out under Article 211(2) shall apply. For retail exposures and eligible purchased receivables, this paragraph applies to the process of allocating exposures to grades or pools.

The criteria shall address the payout structure of the credit derivative and conservatively assess the impact this has on the level and timing of recoveries. The institution shall consider the extent to which other forms of residual risk remain.

4.        The requirements set out in paragraphs 1 to 3 shall not apply for guarantees provided by institutions, central governments and central banks, and corporate entities which meet the requirements laid down in Article 197(1)(g) if the institution has received permission to apply the Standardised Approach for exposures to such entities pursuant to Article 145. In this case the requirements of Chapter 4 shall apply.

5.        For retail guarantees, the requirements set out in paragraphs 1 to 3 also apply to the assignment of exposures to grades or pools, and the estimation of PD.

6.        EBA shall develop draft regulatory technical standards to specify the conditions according to which competent authorities may permit conditional guarantees to be recognised.

EBA shall submit the draft regulatory technical standards referred to in the first sub-paragraph to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 180Requirements for purchased receivables

1.        In quantifying the risk parameters to be associated with rating grades or pools for purchased receivables, institutions shall ensure the conditions laid down in paragraphs 2 to 6 are met.

2.        The structure of the facility shall ensure that under all foreseeable circumstances the institution has effective ownership and control of all cash remittances from the receivables. When the obligor makes payments directly to a seller or servicer, the institution shall verify regularly that payments are forwarded completely and within the contractually agreed terms. Institutions shall have procedures to ensure that ownership over the receivables and cash receipts is protected against bankruptcy stays or legal challenges that could materially delay the lender's ability to liquidate or assign the receivables or retain control over cash receipts.

3.        The institution shall monitor both the quality of the purchased receivables and the financial condition of the seller and servicer. The following shall apply:

(a)       the institution shall assess the correlation among the quality of the purchased receivables and the financial condition of both the seller and servicer, and have in place internal policies and procedures that provide adequate safeguards to protect against any contingencies, including the assignment of an internal risk rating for each seller and servicer;

(b)      the institution shall have clear and effective policies and procedures for determining seller and servicer eligibility. The institution or its agent shall conduct periodic reviews of sellers and servicers in order to verify the accuracy of reports from the seller or servicer, detect fraud or operational weaknesses, and verify the quality of the seller's credit policies and servicer's collection policies and procedures. The findings of these reviews shall be documented;

(c)       the institution shall assess the characteristics of the purchased receivables pools, including over-advances; history of the seller's arrears, bad debts, and bad debt allowances; payment terms, and potential contra accounts;

(d)      the institution shall have effective policies and procedures for monitoring on an aggregate basis single-obligor concentrations both within and across purchased receivables pools;

(e)       the institution shall ensure that it receives from the servicer timely and sufficiently detailed reports of receivables ageings and dilutions to ensure compliance with the institution's eligibility criteria and advancing policies governing purchased receivables, and provide an effective means with which to monitor and confirm the seller's terms of sale and dilution.

4.        The institution shall have systems and procedures for detecting deteriorations in the seller's financial condition and purchased receivables quality at an early stage, and for addressing emerging problems pro-actively. In particular, the institution shall have clear and effective policies, procedures, and information systems to monitor covenant violations, and clear and effective policies and procedures for initiating legal actions and dealing with problem purchased receivables.

5.        The institution shall have clear and effective policies and procedures governing the control of purchased receivables, credit, and cash. In particular, written internal policies shall specify all material elements of the receivables purchase programme, including the advancing rates, eligible collateral, necessary documentation, concentration limits, and the way cash receipts are to be handled. These elements shall take appropriate account of all relevant and material factors, including the seller and servicer's financial condition, risk concentrations, and trends in the quality of the purchased receivables and the seller's customer base, and internal systems shall ensure that funds are advanced only against specified supporting collateral and documentation.

6.        The institution shall have an effective internal process for assessing compliance with all internal policies and procedures. The process shall include regular audits of all critical phases of the institution's receivables purchase programme, verification of the separation of duties between firstly the assessment of the seller and servicer and the assessment of the obligor and secondly between the assessment of the seller and servicer and the field audit of the seller and servicer, and evaluations of back office operations, with particular focus on qualifications, experience, staffing levels, and supporting automation systems.

Sub-Section 3Validation of internal estimates

Article 181Validation of internal estimates

Institutions shall validate their internal estimates subject to the following requirements:

(a)       institutions shall have robust systems in place to validate the accuracy and consistency of rating systems, processes, and the estimation of all relevant risk parameters. The internal validation process shall enable the institution to assess the performance of internal rating and risk estimation systems consistently and meaningfully;

(b)       institutions shall regularly compare realised default rates with estimated PDs for each grade and, where realised default rates are outside the expected range for that grade, institutions shall specifically analyse the reasons for the deviation. Institutions using own estimates of LGDs and conversion factors shall also perform analogous analysis for these estimates. Such comparisons shall make use of historical data that cover as long a period as possible. The institution shall document the methods and data used in such comparisons. This analysis and documentation shall be updated at least annually;

(c)       institutions shall also use other quantitative validation tools and comparisons with relevant external data sources. The analysis shall be based on data that are appropriate to the portfolio, are updated regularly, and cover a relevant observation period. Institutions' internal assessments of the performance of their rating systems shall be based on as long a period as possible;

(d)       the methods and data used for quantitative validation shall be consistent through time. Changes in estimation and validation methods and data (both data sources and periods covered) shall be documented;

(e)       institutions shall have sound internal standards for situations where deviations in realised PDs, LGDs, conversion factors and total losses, where EL is used, from expectations, become significant enough to call the validity of the estimates into question. These standards shall take account of business cycles and similar systematic variability in default experience. Where realised values continue to be higher than expected values, institutions shall revise estimates upward to reflect their default and loss experience.

Institutions shall be required to run a benchmark portfolio through their models and produce and disclose on a quarterly basis the loan/loss reserve level, value of risk, stress-test results and risk weighted asset value.

The EBA shall establish the benchmark portfolio by June 2013 and publish details on its website. The EBA may update the portfolio in the light of developments in assets and models and comparison with international benchmarking.

Sub-Section 4Requirements for equity exposures under the internal models approach

Article 182Own funds requirement and risk quantification

For the purpose of calculating own funds requirements institutions shall meet the following standards:

(a)       the estimate of potential loss shall be robust to adverse market movements relevant to the long-term risk profile of the institution's specific holdings. The data used to represent return distributions shall reflect the longest sample period for which data is available and meaningful in representing the risk profile of the institution's specific equity exposures. The data used shall be sufficient to provide conservative, statistically reliable and robust loss estimates that are not based purely on subjective or judgmental considerations. The shock employed shall provide a conservative estimate of potential losses over a relevant long-term market or business cycle. The institution shall combine empirical analysis of available data with adjustments based on a variety of factors in order to attain model outputs that achieve appropriate realism and conservatism. In constructing Value at Risk (VaR) models estimating potential quarterly losses, institutions may use quarterly data or convert shorter horizon period data to a quarterly equivalent using an analytically appropriate method supported by empirical evidence and through a well-developed and documented thought process and analysis. Such an approach shall be applied conservatively and consistently over time. Where only limited relevant data is available the institution shall add appropriate margins of conservatism;

(b)       the models used shall capture adequately all of the material risks embodied in equity returns including both the general market risk and specific risk exposure of the institution's equity portfolio. The internal models shall adequately explain historical price variation, capture both the magnitude and changes in the composition of potential concentrations, and be robust to adverse market environments. The population of risk exposures represented in the data used for estimation shall be closely matched to or at least comparable with those of the institution's equity exposures;

(c)       the internal model shall be appropriate for the risk profile and complexity of an institution's equity portfolio. Where an institution has material holdings with values that are highly non-linear in nature the internal models shall be designed to capture appropriately the risks associated with such instruments;

(d)       mapping of individual positions to proxies, market indices, and risk factors shall be plausible, intuitive, and conceptually sound;

(e)       institutions shall demonstrate through empirical analyses the appropriateness of risk factors, including their ability to cover both general and specific risk;

(f)        the estimates of the return volatility of equity exposures shall incorporate relevant and available data, information, and methods. Independently reviewed internal data or data from external sources including pooled data shall be used;

(g)       a rigorous and comprehensive stress-testing programme shall be in place.

Article 183Risk management process and controls

With regard to the development and use of internal models for own funds requirement purposes, institutions shall establish policies, procedures, and controls to ensure the integrity of the model and modelling process. These policies, procedures, and controls shall include the following:

(a)       full integration of the internal model into the overall management information systems of the institution and in the management of the non-trading book equity portfolio. Internal models shall be fully integrated into the institution's risk management infrastructure if they are particularly used in measuring and assessing equity portfolio performance including the risk-adjusted performance, allocating economic capital to equity exposures and evaluating overall capital adequacy and the investment management process;

(b)       established management systems, procedures, and control functions for ensuring the periodic and independent review of all elements of the internal modelling process, including approval of model revisions, vetting of model inputs, and review of model results, such as direct verification of risk computations. These reviews shall assess the accuracy, completeness, and appropriateness of model inputs and results and focus on both finding and limiting potential errors associated with known weaknesses and identifying unknown model weaknesses. Such reviews may be conducted by an internal independent unit, or by an independent external third party;

(c)       adequate systems and procedures for monitoring investment limits and the risk exposures of equity exposures;

(d)       the units responsible for the design and application of the model shall be functionally independent from the units responsible for managing individual investments;

(e)       parties responsible for any aspect of the modelling process shall be adequately qualified. Management shall allocate sufficient skilled and competent resources to the modelling function.

Article 184Validation and documentation

Institutions shall have robust systems in place to validate the accuracy and consistency of their internal models and modelling processes. All material elements of the internal models and the modelling process and validation shall be documented.

The validation and documentation of institutions' internal models and modelling processes shall be subject to the following requirements:

(a)       institutions shall use the internal validation process to assess the performance of its internal models and processes in a consistent and meaningful way;

(b)       the methods and data used for quantitative validation shall be consistent through time. Changes in estimation and validation methods and data both data sources and periods covered shall be documented;

(c)       institutions shall regularly compare actual equity returns computed using realised and unrealised gains and losses with modelled estimates. Such comparisons shall make use of historical data that cover as long a period as possible. The institution shall document the methods and data used in such comparisons. This analysis and documentation shall be updated at least annually;

(d)       institutions shall make use of other quantitative validation tools and comparisons with external data sources. The analysis shall be based on data that are appropriate to the portfolio, are updated regularly, and cover a relevant observation period. Institutions' internal assessments of the performance of their models shall be based on as long a period as possible;

(e)       institutions shall have sound internal standards for addressing situations where comparison of actual equity returns with the models estimates calls the validity of the estimates or of the models as such into question. These standards shall take account of business cycles and similar systematic variability in equity returns. All adjustments made to internal models in response to model reviews shall be documented and consistent with the institution's model review standards;

(f)        the internal model and the modelling process shall be documented, including the responsibilities of parties involved in the modelling, and the model approval and model review processes.

Sub-Section 5internal governance and oversight

Article 185Corporate Governance

1.        All material aspects of the rating and estimation processes shall be approved by the institution's management body or a designated committee thereof and senior management. These parties shall possess a general understanding of the rating systems of the institution and detailed comprehension of its associated management reports.

2.        Senior management shall be subject to the following requirements:

(a)       they shall provide notice to the management body or a designated committee thereof of material changes or exceptions from established policies that will materially impact the operations of the institution's rating systems;

(b)       they shall have a good understanding of the rating systems designs and operations;

(c)       they shall ensure, on an ongoing basis that the rating systems are operating properly;

Senior management shall be regularly informed by the credit risk control units about the performance of the rating process, areas needing improvement, and the status of efforts to improve previously identified deficiencies.

3.        Internal ratings-based analysis of the institution's credit risk profile shall be an essential part of the management reporting to these parties. Reporting shall include at least risk profile by grade, migration across grades, estimation of the relevant parameters per grade, and comparison of realised default rates, and to the extent that own estimates are used of realised LGDs and realised conversion factors against expectations and stress-test results. Reporting frequencies shall depend on the significance and type of information and the level of the recipient.

4.        EBA shall develop draft regulatory technical standards to specify in greater detail the requirements on the management body, a designated committee thereof and senior management laid down in this Article.

EBA shall submit the draft regulatory technical standards referred to in the first sub-paragraph to the Commission by 31 December 2014.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first sub-paragraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 186Credit risk control

1.        The credit risk control unit shall be independent from the personnel and management functions responsible for originating or renewing exposures and report directly to senior management. The unit shall be responsible for the design or selection, implementation, oversight and performance of the rating systems. It shall regularly produce and analyse reports on the output of the rating systems.

2.        The areas of responsibility for the credit risk control unit or units shall include:

(a)       testing and monitoring grades and pools;

(b)       production and analysis of summary reports from the institution's rating systems;

(c)       implementing procedures to verify that grade and pool definitions are consistently applied across departments and geographic areas;

(d)       reviewing and documenting any changes to the rating process, including the reasons for the changes;

(e)       reviewing the rating criteria to evaluate if they remain predictive of risk. Changes to the rating process, criteria or individual rating parameters shall be documented and retained;

(f)        active participation in the design or selection, implementation and validation of models used in the rating process;

(g)       oversight and supervision of models used in the rating process;

(h)       ongoing review and alterations to models used in the rating process.

3.        Institutions using pooled data according to Articles 175(2) and 175(3) may outsource the following tasks:

(a)       production of information relevant to testing and monitoring grades and pools;

(b)       production of summary reports from the institution's rating systems;

(c)       production of information relevant to review of the rating criteria to evaluate if they remain predictive of risk;

(d)       documentation of changes to the rating process, criteria or individual rating parameters;

(e)       production of information relevant to ongoing review and alterations to models used in the rating process.

4.        Institutions making use of paragraph 3 shall ensure that the competent authorities have access to all relevant information from the third party that is necessary for examining compliance with the requirements and that the competent authorities may perform on-site examinations to the same extent as within the institution.

Article 187Internal Audit

Internal audit or another comparable independent auditing unit shall review at least annually the institution's rating systems and its operations, including the operations of the credit function and the estimation of PDs, LGDs, ELs and conversion factors. Areas of review shall include adherence to all applicable requirements.

Chapter 4Credit risk mitigation

Section 1Definitions and general requirements

Article 188Definitions

For the purposes of this Chapter, the following definitions shall apply:

(1)       ‘lending institution’ means the institution which has the exposure in question;

(2)       ‘secured lending transaction’ means any transaction giving rise to an exposure secured by collateral which does not include a provision conferring upon the institution the right to receive margin at least daily;

(3)       ‘capital market-driven transaction’ means any transaction giving rise to an exposure secured by collateral which includes a provision conferring upon the institution the right to receive margin at least daily;

(4)       'underlying collective investment undertaking' means a collective investment undertaking in the shares or units of which another collective investment undertaking has invested.

Article 189Principles for recognising the effect of credit risk mitigation techniques

1.        No exposure in respect of which an institution obtains credit risk mitigation shall produce a higher risk-weighted exposure amount or expected loss amount than an otherwise identical exposure in respect of which an institution has no credit risk mitigation.

2.        Where the risk-weighted exposure amount already takes account of credit protection under Chapter 2 or Chapter 3, as relevant, institutions shall not take into account that credit protection in the calculations under this Chapter.

3.        Where the provisions in Sections 2 and 3 are met, institutions may modify the calculation of risk-weighted exposure amounts under the Standardised Approach and the calculation of risk-weighted exposure amounts and expected loss amounts under the IRB Approach in accordance with the provisions of Sections 4, 5 and 6.

4.        Institutions shall treat cash, securities or commodities purchased, borrowed or received under a repurchase transaction or securities or commodities lending or borrowing transaction as collateral.

5.        Where an institution calculating risk-weighted exposure amounts under the Standardised Approach has more than one form of credit risk mitigation covering a single exposure it shall do both of the following:

(a)       subdivide the exposure into parts covered by each type of credit risk mitigation tool;

(b)       calculate the risk-weighted exposure amount for each part obtained in point (a) separately in accordance with the provisions of Chapter 2 and this Chapter.

6.        When an institution calculating risk-weighted exposure amounts under the Standardised Approach covers a single exposure with credit protection provided by a single protection provider and that protection has differing maturities, it shall do both of the following:

(a)       subdivide the exposure into parts covered by each credit risk mitigation tool;

(b)       calculate the risk-weighted exposure amount for each part obtained in point (a) separately in accordance with the provisions of Chapter 2 and this Chapter.

Article 190Principles governing the eligibility of credit risk mitigation techniques

1.        The technique used by the lending institution to provide the credit protection together with the actions and steps taken and procedures and policies implemented by that lending institution shall be such as to result in credit protection arrangements which are legally effective and enforceable in all relevant jurisdictions.

2.        The lending institution shall take all appropriate steps to ensure the effectiveness of the credit protection arrangement and to address the risks related to that arrangement.

3.        In the case of funded credit protection, the assets relied upon for protection shall qualify as eligible assets for the purpose of credit risk mitigation only where they meet both the following conditions:

(a)       they are included in the list of eligible assets set out in Articles 193 to 196, as applicable;

(b)       they are sufficiently liquid and their value over time sufficiently stable to provide appropriate certainty as to the credit protection achieved having regard to the approach used to calculate risk-weighted exposure amounts and to the degree of recognition allowed.

4.        In the case of funded credit protection, the lending institution shall have the right to liquidate or retain, in a timely manner, the assets from which the protection derives in the event of the default, insolvency or bankruptcy — or other credit event set out in the transaction documentation — of the obligor and, where applicable, of the custodian holding the collateral. The degree of correlation between the value of the assets relied upon for protection and the credit quality of the obligor shall not be too high.

5.        In the case of unfunded credit protection, a protection provider shall qualify as an eligible protection provider only where all of the following conditions are met:

(a)       the protection provider is included in the list of eligible protection providers set out in Section 2;

(b)       the protection provider is sufficiently reliable;

(c)       the protection agreement meets all the criteria laid down in paragraph 6.

6.        In the case of unfunded credit protection, a protection agreement shall qualify as an eligible protection agreement only where it meets both the following conditions:

(a)       it is included in the list of eligible protection agreements set out in Articles 197 to 199, as applicable;

(b)       it is legally effective and enforceable in the relevant jurisdictions, to provide appropriate certainty as to the credit protection achieved having regard to the approach used to calculate risk-weighted exposure amounts and to the degree of recognition allowed.

7.        Credit protection shall comply with the requirements set out in Section 3.

8.        An institution shall be able to demonstrate to competent authorities that it has adequate risk management processes to control those risks to which it may be exposed as a result of carrying out credit risk mitigation practices.

9.        Notwithstanding the presence of credit risk mitigation taken into account for the purposes of calculating risk-weighted exposure amounts and, where relevant, expected loss amounts, institutions shall continue to undertake a full credit risk assessment of the underlying exposure and be in a position to demonstrate the fulfilment of this requirement to the competent authorities. In the case of repurchase transactions or securities or commodities lending or borrowing transactions the underlying exposure shall, for the purposes of this paragraph only, be deemed to be the net amount of the exposure.

10.      EBA shall develop draft regulatory technical standards to specify the following:

(a)       what constitutes sufficiently liquid assets and when can asset values be considered as sufficiently stable for the purpose of paragraph 3;

(b)       which degree of correlation between the value of the assets relied upon for protection and the credit quality of the obligor is considered as too high for the purpose of paragraph 4;

(c)       when is a protection provider considered to be sufficiently reliable for the purpose of point b of paragraph 5.

EBA shall develop those draft regulatory technical standards for submission to the Commission by 31 December 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Section 2Eligible forms of credit risk mitigation

Sub-section 1Funded credit protection

Article 191On-balance sheet netting

An institution may use on-balance sheet netting of mutual claims between itself and its counterparty as an eligible form of credit risk mitigation.

Without prejudice to Article 192, eligibility is limited to reciprocal cash balances between the institution and the counterparty. Institutions may modify risk-weighted exposure amounts and, as relevant, expected loss amounts only for loans and deposits that they have received themselves and that are subject to an on-balance sheet netting agreement.

Article 192Master netting agreements covering repurchase

transactions or securities or commodities lending or borrowing transactions or other capital market-driven transactions

Institutions adopting the Financial Collateral Comprehensive Method set out in Article 218 may take into account the effects of bilateral netting contracts covering repurchase transactions, securities or commodities lending or borrowing transactions, or other capital market-driven transactions with a counterparty. Without prejudice to Article 293, the collateral taken and securities or commodities borrowed within such agreements or transactions shall comply with the eligibility requirements for collateral set out in Articles 193 and 194.

Article 193Eligibility of collateral under all approaches and methods

1.        Institutions may use the following items as eligible collateral under all approaches and methods:

(a)       cash on deposit with, or cash assimilated instruments held by, the lending institution;

(b)       debt securities issued by central governments or central banks, which securities have a credit assessment by an ECAI or export credit agency recognised as eligible for the purposes of Chapter 2 which has been determined by EBA to be associated with credit quality step 4 or above under the rules for the risk weighting of exposures to central governments and central banks under Chapter 2;

(c)       debt securities issued by institutions, which securities have a credit assessment by an eligible ECAI which has been determined by EBA to be associated with credit quality step 3 or above under the rules for the risk weighting of exposures to institutions under Chapter 2;

(d)       debt securities issued by other entities which securities have a credit assessment by an eligible ECAI which has been determined by EBA to be associated with credit quality step 3 or above under the rules for the risk weighting of exposures to corporates under Chapter 2;

(e)       debt securities with a short-term credit assessment by an eligible ECAI which has been determined by EBA to be associated with credit quality step 3 or above under the rules for the risk weighting of short term exposures under Chapter 2;

(f)        equities or convertible bonds that are included in a main index;

(g)       gold;

(h)       securitisation positions that are not re-securitisation positions, which have an external credit assessment by an eligible ECAI which has been determined by EBA to be associated with credit quality step 3 or above under the rules for the risk weighting of securitisation exposures under the approach specified in Chapter 5, Section 3, Sub-section 3.

2.        For the purposes of point (b) of paragraph 1, ‘debt securities issued by central governments or central banks’ shall include all the following:

(a)       debt securities issued by regional governments or local authorities, exposures to which are treated as exposures to the central government in whose jurisdiction they are established under Article 110(2);

(b)       debt securities issued by public sector entities which are treated as exposures to central governments in accordance with Article 111(4);

(c)       debt securities issued by multilateral development banks to which a 0 % risk weight is assigned under Article 112(2);

(d)       debt securities issued by international organisations which are assigned a 0 % risk weight under Article 113.

3.        For the purposes of point (c) of paragraph 1, ‘debt securities issued by institutions’ shall include all the following:

(a)       debt securities issued by regional governments or local authorities other than those exposures to which are treated as exposures to the central government in whose jurisdiction they are established under Article 110;

(b)       debt securities issued by public sector entities, exposures to which are treated according to Article 111(1) and 111(2);

(c)       debt securities issued by multilateral development banks other than those to which a 0 % risk weight is assigned under Article 112(2).

4.        An institution may use debt securities that are issued by other institutions and that do not have a credit assessment by an eligible ECAI as eligible collateral where those debt securities fulfil all the following criteria:

(a)       they are listed on a recognised exchange;

(b)       they qualify as senior debt;

(c)       all other rated issues by the issuing institution of the same seniority have a credit assessment by an eligible ECAI which has been determined by the EBA to be associated with credit quality step 3 or above under the rules for the risk weighting of exposures to institutions or short term exposures under Chapter 2;

(d)       the lending institution has no information to suggest that the issue would justify a credit assessment below that indicated in (c);

(e)       the market liquidity of the instrument is sufficient for these purposes.

5.        Institutions may use units or shares in collective investment undertakings as eligible collateral where both the following conditions are satisfied:

(a)       the units or shares have a daily public price quote;

(b)       the collective investment undertakings are limited to investing in instruments that are eligible for recognition under paragraphs 1 and 2.

Where a CIU invests in shares or units of another CIU, conditions laid down in points (a) and (b) of the first subparagraph shall apply equally to any such underlying CIU.

The use by a collective investment undertaking of derivative instruments to hedge permitted investments shall not prevent units or shares in that undertaking from being eligible as collateral.

6.        For the purposes of paragraph 5, where a collective investment undertaking or any of its underlying collective investment undertakings are not limited to investing in instruments that are eligible under paragraphs 1 and 4, institutions may use units or shares in that CIU as collateral to an amount equal to the value of the eligible assets held by that CIU under the assumption that that CIU or any of its underlying collective investment undertakings have invested in non-eligible assets to the maximum extent allowed under their respective mandates.

Where non-eligible assets can have a negative value due to liabilities or contingent liabilities resulting from ownership, institutions shall do both of the following:

(a)       calculate the total value of the non-eligible assets;

(b)       where the amount obtained under point (a) is negative, subtract that amount from the total value of the eligible assets.

7.        With regard to points (b) to (e) of paragraph 1, where a security has two credit assessments by eligible ECAIs, institutions shall apply the less favourable assessment. Where a security has more than two credit assessments by eligible ECAIs, institutions shall apply the two most favourable assessments. Where the two most favourable credit assessments are different, institutions shall apply the less favourable of the two.

8.        ESMA shall develop draft regulatory technical standards to specify the conditions for identifying a main index referred to in point (f) of paragraph 1, in point (a) of Article 194(1), in Article 219(1) and (4), and in point (e) of Article 293(2).

ESMA shall submit those draft regulatory technical standards to the Commission by 31 December 2013.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1095/2010.

10.      ESMA shall develop draft implementing technical standards to specify the following:

(a)       the main indices identified in accordance with the conditions referred to in paragraph 8;

(b)       the recognised exchanges referred to in point (a) of paragraph 4 and of Article 194(1), in Article 219(1) and (4), in point (e) of Article 293(2), in point (k) of Article 389(2), in point (d) of Article 404(3), in point (c) of Article 415(1), and in point 17 of Annex IV, Part 3.

ESMA shall submit those draft implementing technical standards to the Commission by 31 December 2014.

Power is conferred on the Commission to adopt the implementing technical standards referred to in the first subparagraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1095/2010.

Article 194Additional eligibility of collateral under the Financial Collateral Comprehensive Method

1.        In addition to the collateral established in Article 193, where an institution uses the Financial Collateral Comprehensive Method set out in Article 218, that institution may use the following items as eligible collateral:

(a)       equities or convertible bonds not included in a main index but traded on a recognised exchange;

(b)       units or shares in collective investment undertakings where both the following conditions are met:

(i)        the units or shares have a daily public price quote;

(ii)       the collective investment undertaking is limited to investing in instruments that are eligible for recognition under Article 193(1) and (2) and the items mentioned in point (a) of this subparagraph.

In the case a CIU invests in units or shares of another CIU, conditions (a) and (b) of this paragraph equally apply to any such underlying CIU.

The use by a collective investment undertaking of derivative instruments to hedge permitted investments shall not prevent shares in that undertaking from being eligible as collateral.

2.        Where the collective investment undertaking or any underlying collective investment undertaking are not limited to investing in instruments that are eligible for recognition under Article 193(1) and (2) and the items mentioned in point (a) of paragraph 1, institutions may use units or shares in that CIU as collateral to an amount equal to the value of the eligible assets held by that CIU under the assumption that that CIU or any of its underlying collective investment undertakings have invested in non-eligible assets to the maximum extent allowed under their respective mandates.

Where non-eligible assets can have a negative value due to liabilities or contingent liabilities resulting from ownership, institutions shall do both of the following:

(a)       calculate the total value of the non-eligible assets;

(b)       where the amount obtained under point (a) is negative, subtract that amount from the total value of the eligible assets.

Article 195Additional eligibility for collateral under the IRB Approach

1.        In addition to the collateral established in Articles 193 and 194, institutions that calculate risk-weighted exposure amounts and expected loss amounts under the IRB Approach may also use the following forms of collateral:

(a)       immovable property collateral in accordance with paragraphs 2 to 6;

(b)       receivables in accordance with paragraph 7;

(c)       other physical collateral in accordance with paragraphs 8 and 10;

(d)       leasing in accordance with paragraph 9.

2.        Unless otherwise specified under Article 119(2), institutions may use as eligible collateral residential property which is or will be occupied or let by the owner, or the beneficial owner in the case of personal investment companies, and commercial immovable property, including offices and other commercial premises, where both the following conditions are met:

(a)       the value of the property does not materially depend upon the credit quality of the obligor. Institutions may exclude situations where purely macro-economic factors affect both the value of the property and the performance of the borrower from their determination of the materiality of such dependence;

(b)       the risk of the borrower does not materially depend upon the performance of the underlying property or project, but on the underlying capacity of the borrower to repay the debt from other sources, and as a consequence the repayment of the facility does not materially depend on any cash flow generated by the underlying property serving as collateral.

4.        Institutions may use as eligible commercial immovable property collateral shares in Finnish housing companies operating in accordance with the Finnish Housing Company Act of 1991 or subsequent equivalent legislation as commercial immovable property collateral, provided that the conditions in paragraph 2 are met.

5.        Institutions may derogate from point (b) of paragraph 2 for exposures secured by residential property situated within the territory of a Member State, where the competent authority of that Member State has published evidence showing that a well-developed and long-established residential property market is present in that territory with loss rates that do not exceed any of the following limits:

(a)       losses stemming from loans collateralised by residential property up to 80 % of the market value or 80 % of the mortgage-lending-value, unless otherwise provided under Article 119(2), do not exceed 0.3 % of the outstanding loans collateralised by residential property in any given year;

(b)       overall losses stemming from loans collateralised by residential property do not exceed 0.5 % of the outstanding loans collateralised by residential property in any given year.

6.        Institutions may derogate from point (b) of paragraph 2 for commercial immovable property situated within the territory of a Member State, where the competent authority of that Member State has published evidence showing that a well-developed and long-established commercial property market is present in that territory with loss rates that meet both the following conditions:

(a)       losses stemming from loans collateralised by commercial immovable property up to 50 % of the market value or 60 % of the mortgage-lending-value do not exceed 0.3 % of the outstanding loans collateralised by commercial immovable property in any given year;

(b)       overall losses stemming from loans collateralised by commercial immovable property do not exceed 0.5 % of the outstanding loans collateralised by commercial immovable property in any given year.

Where either of the conditions in points (a) and (b) of the first subparagraph is not met in a given year, institutions shall not use the treatment specified in that subparagraph until both the conditions are satisfied in a subsequent year.

7.        Institutions may use as eligible collateral amounts receivable linked to a commercial transaction or transactions with an original maturity of less than or equal to one year. Eligible receivables do not include those associated with securitisations, sub-participations or credit derivatives or amounts owed by affiliated parties.

8.        Competent authorities shall permit an institution to use as eligible collateral physical collateral of a type other than those indicated in paragraphs 2 to 6 where all the following conditions are met:

(a)       there are liquid markets, evidenced by frequent transactions appropriate to the asset type, for the disposal of the collateral in an expeditious and economically efficient manner. Institutions shall carry out the assessment of this condition periodically and where information indicates material changes in the market;

(b)       there are well-established, publicly available market prices for the collateral. Institutions may consider market prices as well-established where they come from reliable sources of information such as public indices and reflect the price of the transactions under normal conditions. Institutions may consider market prices as publicly available, where these prices are disclosed, easily accessible, and obtainable regularly and without any undue administrative or financial burden;

(c)       the institution analyses the market prices, time and costs required to realise the collateral and the realised proceeds from the collateral;

(d)       the institution demonstrates that the realised proceeds from the collateral are not below 70% of the collateral value in more than 10% of all liquidations for a given type of collateral. Where there is material volatility in the market prices, institutions demonstrate to the satisfaction of the competent authorities that their valuation of the collateral is sufficiently conservative.

Institutions shall document the fulfilment of the conditions specified in points (a) to (d) of the first subparagraph and those specified in Article 205.

After the entry into force of the implementing technical standards referred to in paragraph 10, competent authorities shall permit institutions to use only those types of other physical collaterals that are included in those standards.

9.        Subject to the provisions of Article 225(2), where the requirements set out in Article 206 are met, exposures arising from transactions whereby an institution leases property to a third party may be treated in the same manner as loans collateralised by the type of property leased.

10.      EBA shall develop draft implementing technical standards to specify when a type of physical collateral for which the conditions referred to in points (a) and (b) of paragraph 8 are met, based on the criteria set out in those points. This shall take into account the specific role that physical collateral plays in lease exposures.

EBA shall submit those draft implementing technical standards to the Commission by 31 December 2014.

Power is conferred on the Commission to adopt the implementing technical standards referred to in the first subparagraph in accordance with the procedure laid down in Article 15 of Regulation (EU) No 1093/2010.

Article 196Other funded credit protection

Institutions may use the following other funded credit protection as eligible collateral:

(a)       cash on deposit with, or cash assimilated instruments held by, a third party institution in a non-custodial arrangement and pledged to the lending institution;

(b)       life insurance policies pledged to the lending institution;

(c)       instruments issued by third party institutions which will be repurchased by that institution on request.

Sub-section 2Unfunded credit protection

Article 197Eligibility of protection providers under all approaches

1.        Institutions may use the following parties as eligible providers of unfunded credit protection:

(a)       central governments and central banks;

(b)       regional governments or local authorities;

(c)       multilateral development banks;

(d)       international organisations exposures to which a 0 % risk weight under Article 112 is assigned;

(e)       public sector entities, claims on which are treated in accordance with Article 111;

(f)        institutions and mutual guarantee schemes / credit guarantee institutions;

(g)       other corporate entities, including parent, subsidiary and affiliate corporate entities of the institution, where either of the following conditions is met:

(i)        those other corporate entities have a credit assessment by a recognised ECAI▌

(ii)       in the case of institutions calculating risk-weighted exposure amounts and expected loss amounts under the IRB Approach, those other corporate entities do not have a credit assessment by a recognised ECAI and are internally rated ▌

2.        Where institutions calculate risk-weighted exposure amounts and expected loss amounts under the IRB Approach, to be eligible as a provider of unfunded credit protection a guarantor shall be internally rated by the institution in accordance with the provisions of Section 6 of Chapter 3.

Institutions may use as eligible providers of unfunded credit protection other financial institutions authorised and supervised by the competent authorities responsible for the authorisation and supervision of institutions and subject to prudential requirements equivalent to those applied to institutions.

Competent authorities shall publish and maintain the list of those other eligible providers of unfunded credit protection, or the guiding criteria for identifying such other eligible providers of unfunded credit protection, together with a description of the applicable prudential requirements, and share their list with other competent authorities in accordance with Article 112 of Directive [inserted by OP].

Competent authorities have to indicate the relevant mutual guarantee schemes / credit guarantee institutions according to paragraph 2 to EBA.

2a.      Institutions may use as eligible providers of unfunded credit protection other financial institutions authorised and supervised by the competent authorities responsible for the authorisation and supervision of institutions and subject to prudential requirements equivalent to those applied to institutions.

Article 198Eligibility of protection providers under the IRB Approach which qualify for the treatment set out in

Article IRB 6(4)

An institution may use institutions, insurance and reinsurance undertakings and export credit agencies as eligible providers of unfunded credit protection which qualify for the treatment set out in Article 148(4) where they meet all the following conditions:

(a)       they have sufficient expertise in providing unfunded credit protection;

(b)       they are regulated in a manner equivalent to the rules laid down in this Regulation, or had, at the time the credit protection was provided, a credit assessment by a recognised ECAI which had been determined by EBA to be associated with credit quality step 3, or above, in accordance with the rules for the risk weighting of exposures to corporates set out in Chapter 2;

(c)       they had, at the time the credit protection was provided, or for any period of time thereafter, an internal rating with a PD equivalent to or lower than that associated with credit quality step 2 or above in accordance with the rules for the risk weighting of exposures to corporates set out in Chapter 2;

(d)       they have an internal rating with a PD equivalent to or lower than that associated with credit quality step 3 or above in accordance with the rules for the risk weighting of exposures to corporates set out in Chapter 2.

For the purpose of this Article, credit protection provided by export credit agencies shall not benefit from any explicit central government counter-guarantee.

Sub-section 3Types of credit derivatives

Article 199Eligibility of credit derivatives

1.        Institutions may use the following types of credit derivatives, and instruments that may be composed of such credit derivatives or that are economically effectively similar, as eligible credit protection:

(a)       credit default swaps;

(b)       total return swaps;

(c)       credit linked notes to the extent of their cash funding.

Where an institution buys credit protection through a total return swap and records the net payments received on the swap as net income, but does not record the offsetting deterioration in the value of the asset that is protected either through reductions in fair value or by an addition to reserves, that credit protection does not qualify as eligible credit protection.

2.        Where an institution conducts an internal hedge using a credit derivative, in order for the credit protection to qualify as eligible credit protection for the purposes of this Chapter, the credit risk transferred to the trading book shall be transferred out to a third party or parties.

Where an internal hedge has been conducted in accordance with the first subparagraph and the requirements in Sub-section 2 have been met, institutions shall apply the rules set out in Sections 4 to 6 for the calculation of risk-weighted exposure amounts and expected loss amounts where they acquire unfunded credit protection.

Section 3requirements

Sub-section 1Funded credit protection

Article 200Requirements for on-balance sheet netting agreements (other than master netting agreements covering repurchase transactions

, securities or commodities lending or borrowing transactions or other capital market-driven transactions)

On-balance sheet netting agreements, other than master netting agreements covering repurchase transactions, securities or commodities lending or borrowing transactions or other capital market-driven transactions, shall qualify as an eligible form of credit risk mitigation where all the following conditions are met:

(a)       those agreements are legally effective and enforceable in all relevant jurisdictions, including in the event of the insolvency or bankruptcy of a counterparty;

(b)       institutions are able to determine at any time the assets and liabilities that are subject to those agreements;

(c)       institutions monitor and control the risks associated with the termination of the credit protection on an ongoing basis;

(d)       institutions monitor and control the relevant exposures on a net basis and do so on an ongoing basis.

Article 201Requirements for master netting agreements covering repurchase

transactions or securities or commodities lending or borrowing transactions or other capital market driven transactions

Master netting agreements covering repurchase transactions, securities or commodities lending or borrowing transactions or other capital market driven transactions shall qualify as an eligible form of credit risk mitigation where the collateral provided under those agreements meets all the requirements referred to in Article 202(1) and where all the following conditions are met:

(a)       they are legally effective and enforceable in all relevant jurisdictions, including in the event of the bankruptcy or insolvency of the counterparty;

(b)       they give the non-defaulting party the right to terminate and close-out in a timely manner all transactions under the agreement upon the event of default, including in the event of the bankruptcy or insolvency of the counterparty;

(c)       they provide for the netting of gains and losses on transactions closed out under a agreement so that a single net amount is owed by one party to the other.

Article 202Requirements for financial collateral

1.        Under all approaches and methods, financial collateral and gold shall qualify as eligible collateral where all the requirements laid down in paragraphs 2 to 4 are met.

2.        The credit quality of the obligor and the value of the collateral shall not have a material positive correlation.

Securities issued by the obligor, or any related group entity, shall not qualify as eligible collateral. This notwithstanding, the obligor's own issues of covered bonds falling within the terms of Article 124 qualify as eligible collateral when they are posted as collateral subject to a repurchase transactions, provided that they comply with the condition set out in the first subparagraph.

3.        Institutions shall fulfil any contractual and statutory requirements in respect of, and take all steps necessary to ensure, the enforceability of the collateral arrangements under the law applicable to their interest in the collateral.

Institutions shall have conducted sufficient legal review confirming the enforceability of the collateral arrangements in all relevant jurisdictions. They shall re-conduct such review as necessary to ensure continuing enforceability.

4.        Institutions shall fulfil all the following operational requirements:

(a)       they shall properly document the collateral arrangements and have in place clear and robust procedures for the timely liquidation of collateral;

(b)       they shall use robust procedures and processes to control risks arising from the use of collateral, including risks of failed or reduced credit protection, valuation risks, risks associated with the termination of the credit protection, concentration risk arising from the use of collateral and the interaction with the institution's overall risk profile;

(c)       they shall have in place documented policies and practices concerning the types and amounts of collateral accepted;

(d)       they shall calculate the market value of the collateral, and revalue it accordingly, with a minimum frequency of once every six months and whenever they have reason to believe that a significant decrease in the market value of the collateral has occurred;

(e)       where the collateral is held by a third party, they shall take reasonable steps to ensure that the third party segregates the collateral from its own assets;

(f)        they shall ensure that they devote sufficient resources to the orderly operation of margin agreements with OTC derivatives and securities-financing counterparties, as measured by the timeliness and accuracy of their outgoing calls and response time to incoming calls;

(g)       they shall have in place collateral management policies to control, monitor and report the following:

(i)        the risks to which margin agreements expose them;

(ii)       the concentration risk to particular types of collateral assets;

(iii)      the reuse of collateral including the potential liquidity shortfalls resulting from the reuse of collateral received from counterparties;

(iv)      the surrender of rights on collateral posted to counterparties.

5.        In addition to the requirements set out in paragraphs 1 to 4, for financial collateral to qualify as eligible collateral under the Financial Collateral Simple Method the residual maturity of the protection shall be at least as long as the residual maturity of the exposure.

Article 203Requirements for immovable property collateral

1.        Immovable property shall qualify as eligible collateral only where all the requirements laid down in paragraphs 2 to 5 are met.

2.        The following requirements on legal certainly shall be met:

(a)       a mortgage or charge is enforceable in all jurisdictions which are relevant at the time of the conclusion of the credit agreement and shall be properly filed on a timely basis;

(b)       all legal requirements for establishing the pledge have been fulfilled;

(c)       the protection agreement and the legal process underpinning it enable the institution to realise the value of the protection within a reasonable timeframe.

3.        The following requirements on monitoring of property values and on property valuation shall be met:

(a)       institutions monitor the value of the property on a frequent basis and at a minimum once every year for commercial immovable property and once every three years for residential real estate. Institutions carry out more frequent monitoring where the market is subject to significant changes in conditions;

(b)       the property valuation is reviewed when information available to institutions indicates that the value of the property may have declined materially relative to general market prices and that review is carried out by a valuer who possesses the necessary qualifications, ability and experience to execute a valuation and who is independent from the credit decision process. For loans exceeding EUR 3 million or 5 % of the own funds of an institution, the property valuation shall be reviewed by such valuer at least every three years.

Institutions may use statistical methods to monitor the value of the property and to identify property that needs revaluation.

4.        Institutions shall clearly document the types of residential and commercial immovable property they accept and their lending policies in this regard.

5.        Institutions shall have in place procedures to monitor that the property taken as credit protection is adequately insured against the risk of damage.

Article 204Requirements for receivables

1.        Receivables shall qualify as eligible collateral where all the requirements laid down in paragraphs 2 and 3 are met.

2.        The following requirements on legal certainty shall be met:

(a)       the legal mechanism by which the collateral is provided to a lending institution shall be robust and effective and ensure that that institution has clear rights over the proceeds;

(b)       institutions shall take all steps necessary to fulfil local requirements in respect of the enforceability of security interest. Lending institutions shall have a first priority claim over the collateral although such claims may still be subject to the claims of preferential creditors provided for in legislative provisions;

(c)       institutions shall have conducted sufficient legal review confirming the enforceability of the collateral arrangements in all relevant jurisdictions;

(d)       institutions shall properly document their collateral arrangements and shall have in place clear and robust procedures for the timely collection of collateral;

(e)       institutions shall have in place procedures that ensure that any legal conditions required for declaring the default of a borrower and timely collection of collateral are observed;

(f)        in the event of a borrower's financial distress or default, institutions shall have legal authority to sell or assign the receivables to other parties without consent of the receivables obligors.

3.        The following requirements on risk management shall be met:

(a)       an institution shall have in place a sound process for determining the credit risk associated with the receivables. Such a process shall include analyses of a borrower's business and industry and the types of customers with whom that borrower does business. Where institutions rely on their borrowers to ascertain the credit risk of the customers, the institution shall review the borrower's credit practices to ascertain their soundness and credibility;

(b)       the margin between the amount of the exposure and the value of the receivables shall reflect all appropriate factors, including the cost of collection, concentration within the receivables pool pledged by an individual borrower, and potential concentration risk within the institution's total exposures beyond that controlled by the institution's general methodology. Institutions shall maintain a continuous monitoring process appropriate to the receivables. They shall also review, on a regular basis, compliance with loan covenants, environmental restrictions, and other legal requirements;

(c)       receivables pledged by a borrower shall be diversified and not be unduly correlated with that borrower. Where there is material positive correlation, institutions shall take into account the attendant risks in the setting of margins for the collateral pool as a whole;

(d)       institutions shall not use receivables from affiliates of a borrower, including subsidiaries and employees, as eligible credit protection;

(e)       institution shall have in place a documented process for collecting receivable payments in distressed situations. Institutions shall have in place the requisite facilities for collection even when they normally rely on their borrowers for collections.

Article 205Requirements for other physical collateral

Physical collateral other than immovable property collateral shall qualify as eligible collateral under the IRB Approach where all the following conditions are met:

(a)       the collateral arrangement under which the physical collateral is provided to an institution shall be legally effective and enforceable in all relevant jurisdictions and shall enable that institution to realise the value of the collateral within a reasonable timeframe;

(b)       with the sole exception of permissible prior claims referred to in Article 204(2)(b), only first liens on, or charges over, collateral shall qualify as eligible collateral and an institution shall have priority over all other lenders to the realised proceeds of the collateral;

(c)       institutions shall monitor the value of the collateral on a frequent basis and at a minimum once every year. Institutions shall carry out more frequent monitoring where the market is subject to significant changes in conditions;

(d)       the loan agreement shall include detailed descriptions of the collateral as well as detailed specifications of the manner and frequency of revaluation;

(e)       institutions shall clearly document in internal credit policies and procedures available for examination the types of physical collateral they accept and the policies and practices they have in place in respect of the appropriate amount of each type of collateral relative to the exposure amount ;

(f)        institutions' credit policies with regard to the transaction structure shall address appropriate collateral requirements relative to the exposure amount, the ability to liquidate the collateral readily, the ability to establish objectively a price or market value, the frequency with which the value can readily be obtained, including a professional appraisal or valuation, and the volatility or a proxy of the volatility of the value of the collateral;

(g)       both initial valuation and revaluation shall take fully into account any deterioration or obsolescence of the collateral. When conducting valuation and revaluation institutions shall pay particular attention to the effects of the passage of time on fashion- or date-sensitive collateral;

(h)       institutions shall have the right to physically inspect the collateral. They shall also have in place policies and procedures addressing their exercise of the right to physical inspection;

(i)        the collateral taken as protection shall be adequately insured against the risk of damage and institutions shall have in place procedures to monitor this.

Article 206Requirements for treating lease exposures as collateralised

Institutions shall treat exposures arising from leasing transactions as collateralised by the type of property leased, where all the following conditions are met:

(a)       the conditions set out in Articles 203 or 205, as appropriate, for the type of property leased to qualify as eligible collateral are met;

(b)       the lessor has in place robust risk management with respect to the use to which the leased asset is put, its location, its age and the planned duration of its use, including appropriate monitoring of the value of the security;

(c)       the lessor has legal ownership of the asset and is able to exercise its rights as owner in a timely fashion;

(d)       where this has not already been ascertained in calculating the LGD level, the difference between the value of the unamortised amount and the market value of the security is not so large as to overstate the credit risk mitigation attributed to the leased assets.

Article 207Requirements for other funded credit protection

1.        To be eligible for the treatment set out in Article 227(1), cash on deposit with, or cash assimilated instruments held by, a third party institution all the following conditions shall be met:

(a)       the borrower's claim against the third party institution is openly pledged or assigned to the lending institution and such pledge or assignment is legally effective and enforceable in all relevant jurisdictions;

(b)       the third party institution is notified of the pledge or assignment;

(c)       as a result of the notification, the third party institution is able to make payments solely to the lending institution or to other parties only with the lending institution's prior consent;

(d)       the pledge or assignment is unconditional and irrevocable.

2.        Life insurance policies pledged to the lending institution shall qualify as eligible collateral where all the following conditions are met:

(a)       the life insurance policy is openly pledged or assigned to the lending institution;

(b)       the company providing the life insurance is notified of the pledge or assignment and may not pay amounts payable under the contract without the prior consent of the lending institution;

(c)       the lending institution has the right to cancel the policy and receive the surrender value in the event of the default of the borrower;

(d)       the lending institution is informed of any non-payments under the policy by the policy-holder;

(e)       the credit protection is provided for the maturity of the loan. Where this is not possible because the insurance relationship ends before the loan relationship expires, the institution shall ensure that the amount deriving from the insurance contract serves the institution as security until the end of the duration of the credit agreement;

(f)        the pledge or assignment is legally effective and enforceable in all jurisdictions which are relevant at the time of the conclusion of the credit agreement;

(g)       the surrender value is declared by the company providing the life insurance and is non-reducible;

(h)       the surrender value is to be paid by the company providing the life insurance in a timely manner upon request;

(i)        the surrender value shall not be requested without the prior consent of the institution;

(j)        the company providing the life insurance is subject to Directive 2009/138/EC of the European Parliament and of the Council or is subject to supervision by a competent authority of a third country which applies supervisory and regulatory arrangements at least equivalent to those applied in the Union.

Sub-section 2Unfunded credit protection and credit linked notes

Article 208Requirements common to guarantees and credit derivatives

1.        Subject to Article 209(1), credit protection deriving from a guarantee or credit derivative shall qualify as eligible unfunded credit protection where all the following conditions are met:

(a)       the credit protection is direct;

(b)       the extent of the credit protection is clearly defined;

(c)       the credit protection contract does not contain any clause, the fulfilment of which is outside the direct control of the lender, that:

(i)        would allow the protection provider to cancel the protection unilaterally;

(ii)       would increase the effective cost of protection as a result of deteriorating credit quality of the protected exposure;

(iii)      could prevent the protection provider from being obliged to pay out in a timely manner in the event that the original obligor fails to make any payments due, or when the leasing contract has expired for the purposes of recognising guaranteed residual value under Articles 129(7) and 162(4);

(iv)      could allow the maturity of the credit protection to be reduced by the protection provider;

(d)       is legally effective and enforceable in all jurisdictions which are relevant at the time of the conclusion of the credit agreement.

2.        An institution shall demonstrate to competent authorities that it has in place systems to manage potential concentration of risk arising from its use of guarantees and credit derivatives. An institution shall be able to demonstrate to the satisfaction of the competent authorities how its strategy in respect of its use of credit derivatives and guarantees interacts with its management of its overall risk profile.

Institutions shall fulfil any contractual and statutory requirements in respect of, and take all steps necessary to ensure, the enforceability of its unfunded credit protection under the law applicable to their interest in the credit protection.

3.        Institutions shall have conducted sufficient legal review confirming the enforceability of the unfunded credit protection in all relevant jurisdictions. They shall repeat such review as necessary to ensure continuing enforceability.

Article 209Sovereign and other public sector counter-guarantees

1.        Institutions may treat the exposure listed in paragraph 2 as protected by a guarantee provided by the entities listed in that paragraph, provided all the following conditions are satisfied:

(a)       the counter-guarantee covers all credit risk elements of the claim;

(b)       both the original guarantee and the counter-guarantee meet the requirements for guarantees set out in Articles 208 and 210(1), except that the counter-guarantee need not be direct;

(c)       the cover is robust and nothing in the historical evidence suggests that the coverage of the counter-guarantee is less than effectively equivalent to that of a direct guarantee by the entity in question.

2.        The treatment laid down in paragraph 1 shall apply to exposures protected by a guarantee which is counter-guaranteed by any of the following entities:

(a)       a central government or central bank;

(b)       a regional government or local authority;

(c)       a public sector entity, claims on which are treated as claims on the central government in accordance with Article 111(4);

(d)       a multilateral development bank or an international organisation, to which a 0 % risk weight is assigned under or by virtue of Chapter 2;

(e)       a public sector entity, claims on which are treated in accordance with Article 111(1) and 111(2).

3.        Institutions shall apply the treatment set out in paragraph 1 also to an exposure which is not counter-guaranteed by any entity listed in paragraph 2 where that exposure's counter-guarantee is in turn directly guaranteed by one of those entities and the conditions listed in paragraph 1 are satisfied.

Article 210Additional requirements for guarantees

1.        Guarantees shall qualify as eligible unfunded credit protection where all the conditions in Article 208 and all the following conditions are met:

(a)       on the qualifying default of or non-payment by the counterparty, the lending institution has the right to pursue, in a timely manner, the guarantor for any monies due under the claim in respect of which the protection is provided and the payment by the guarantor shall not be subject to the lending institution first having to pursue the obligor;

In the case of unfunded credit protection covering residential mortgage loans, the requirements in Article 208(1)(c)(iii) and in the first subparagraph have only to be satisfied within 24 months;

(b)       the guarantee is an explicitly documented obligation assumed by the guarantor;

(c)       either of the following conditions is met:

(i)        the guarantee covers all types of payments the obligor is expected to make in respect of the claim;

(ii)       where certain types of payment are excluded from the guarantee, the lending institution has adjusted the value of the guarantee to reflect the limited coverage.

2.        In the case of guarantees provided in the context of mutual guarantee schemes or provided by or counter-guaranteed by entities referred to in Article 209(1), the requirements in point (a) of paragraph 1 shall be considered to be satisfied where either of the following conditions is met:

(a)       the lending institution has the right to obtain in a timely manner a provisional payment by the guarantor that meets both the following conditions:

(i)        it represents a robust estimate of the amount of the loss, including losses resulting from the non-payment of interest and other types of payment which the borrower is obliged to make, that the lending institution is likely to incur;

(ii)       it is proportional to the coverage of the guarantee;

(b)       the lending institution can demonstrate to the satisfaction of the competent authorities that the effects of the guarantee, which shall also cover losses resulting from the non-payment of interest and other types of payments which the borrower is obliged to make, justify such treatment.

Article 211Additional requirements for credit derivatives

1.        Credit derivative shall qualify as eligible unfunded credit protection where all the conditions in Article 208 and all the following conditions are met:

(a)       the credit events specified in the credit derivative contract include:

(i)        the failure to pay the amounts due under the terms of the underlying obligation that are in effect at the time of such failure, with a grace period that is closely in line with or shorter than the grace period in the underlying obligation;

(ii)       the bankruptcy, insolvency or inability of the obligor to pay its debts, or its failure or admission in writing of its inability generally to pay its debts as they become due, and analogous events;

(iii)      the restructuring of the underlying obligation involving forgiveness or postponement of principal, interest or fees that results in a credit loss event;

(b)       where credit derivatives allow for cash settlement:

(i)     institutions have in place a robust valuation process in order to estimate loss reliably;

(ii)     there is a clearly specified period for obtaining post-credit-event valuations of the underlying obligation;

(c)       where the protection purchaser's right and ability to transfer the underlying obligation to the protection provider is required for settlement, the terms of the underlying obligation provide that any required consent to such transfer shall not be unreasonably withheld;

(d)       the identity of the parties responsible for determining whether a credit event has occurred is clearly defined;

(e)       the determination of the credit event is not the sole responsibility of the protection provider;

(f)        the protection buyer has the right or ability to inform the protection provider of the occurrence of a credit event.

Where the credit events do not include restructuring of the underlying obligation as described in point (a)(iii), the credit protection may nonetheless be eligible subject to a reduction in the value as specified in Article 228(2);

2.        A mismatch between the underlying obligation and the reference obligation under the credit derivative which is the obligation used for the purposes of determining the cash settlement value or or between the underlying obligation and the obligation used for purposes of determining whether a credit event has occurred is permissible only where both the following conditions are met:

(a)       the reference obligation or the obligation used for purposes of determining whether a credit event has occurred, as the case may be, ranks concurrently with or is junior to the underlying obligation;

(b)       the underlying obligation and the reference obligation or the obligation used for purposes of determining whether a credit event has occurred, as the case may be, share the same obligor and legally enforceable cross-default or cross-acceleration clauses are in place.

Article 212Requirements to qualify for the treatment set out in

Article 148(4)

1.        To be eligible for the treatment set out in Article 148(4), credit protection deriving from a guarantee or credit derivative shall meet the following conditions:

(a)       the underlying obligation is to one of the following exposures:

(i)     a corporate exposure as defined in Article 142, excluding insurance and reinsurance undertakings;

(ii)     an exposure to a regional government, local authority or public sector entity which is not treated as an exposure to a central government or a central bank according to Article 142;

(iii)    an exposure to a small or medium sized enterprise, classified as a retail exposure according to Article 142(5);

(b)       the underlying obligors are not members of the same group as the protection provider;

(c)       the exposure is hedged by one of the following instruments:

(i)     single-name unfunded credit derivatives or single-name guarantees;

(ii)     first-to-default basket products;

(iii)    nth-to-default basket products;

(d)       the credit protection meets the requirements set out in Articles 208, 210 and 211;

(e)       the risk weight that is associated with the exposure prior to the application of the treatment in Article 148(4), does not already factor in any aspect of the credit protection;

(f)        an institution has the right and expectation to receive payment from the protection provider without having to take legal action in order to pursue the counterparty for payment. To the extent possible, the institution shall take steps to satisfy itself that the protection provider is willing to pay promptly should a credit event occur;

(g)       the purchased credit protection absorbs all credit losses incurred on the hedged portion of an exposure that arise due to the occurrence of credit events outlined in the contract;

(h)       where the payout structure of the credit protection provides for physical settlement, there is legal certainty with respect to the deliverability of a loan, bond, or contingent liability;

(i)        where an institution intends to deliver an obligation other than the underlying exposure, it shall ensure that the deliverable obligation is sufficiently liquid so that the institution would have the ability to purchase it for delivery in accordance with the contract;

(j)        the terms and conditions of credit protection arrangements are legally confirmed in writing by both the protection provider and the institution;

(k)       institutions have in place a process to detect excessive correlation between the creditworthiness of a protection provider and the obligor of the underlying exposure due to their performance being dependent on common factors beyond the systematic risk factor;

(l)        in the case of protection against dilution risk, the seller of purchased receivables is not a member of the same group as the protection provider.

2.        For the purpose of point (c)(ii) of paragraph 1, institutions shall apply the treatment set out in Article 148(4) to the asset within the basket with the lowest risk-weighted exposure amount.

3.        For the purpose of point (c)(iii) of paragraph 1, the protection obtained is only eligible for consideration under this framework where eligible (n-1)th default protection has also been obtained or where (n-1) of the assets within the basket has or have already defaulted. Where this is the case, institutions shall apply the treatment set out in Article 148(4) to the asset within the basket with the lowest risk-weighted exposure amount.

Section 4Calculating the effects of credit risk mitigation

Sub-section 1Funded credit protection

Article 213Credit linked notes

Investments in credit linked notes issued by the lending institution may be treated as cash collateral for the purpose of calculating the effect of funded credit protection in accordance with this Sub-section, provided that the credit default swap embedded in the credit linked note qualifies as eligible unfunded credit protection.

Article 214On-balance sheet netting

Loans and deposits with the lending institution subject to on-balance sheet netting are to be treated as cash collateral for the purpose of calculating the effect of funded credit protection for those loans and deposits of the lending institution subject to on-balance sheet netting which are denominated in the same currency.

Article 215Using the Supervisory Volatility Adjustments Approach or the Own Estimates Volatility Adjustments Approach for master netting agreements

1.        When institutions calculate the ‘fully adjusted exposure value’ (E*) for the exposures subject to an eligible master netting agreement covering repurchase transactions or securities or commodities lending or borrowing transactions or other capital market-driven transactions, they shall calculate the volatility adjustments that they need to apply either by using the Supervisory Volatility Adjustments Approach or the Own Estimates Volatility Adjustments Approach ('Own Estimates Approach') as set out in Articles 218 to 221 for the Financial Collateral Comprehensive Method.

The use of the Own Estimates Approach shall be subject to the same conditions and requirements as apply under the Financial Collateral Comprehensive Method.

2.        For the purpose of calculating E*, the following conditions shall be met:

(a)       institutions shall calculate the net position in each group of securities or in each type of commodity by subtracting the amount in point (i) from the amount in point (ii):

(i)     the total value of a group of securities or of commodities of the same type lent, sold or provided under the master netting agreement;

(ii)     the total value of a group of securities or of commodities of the same type borrowed, purchased or received under the agreement;

(b)       institutions shall calculate the net position in each currency, other than the settlement currency of the master netting agreement, by subtracting the amount in point (i) from the amount in point (ii):

(i)     the sum of the total value of securities denominated in that currency lent, sold or provided under the master netting agreement and the amount of cash in that currency lent or transferred under the agreement;

(ii)     the sum of the total value of securities denominated in that currency borrowed, purchased or received under the agreement and the amount of cash in that currency borrowed or received under the agreement;

(c)       institutions shall apply the volatility adjustment appropriate to a given group of securities or to a cash position to the absolute value of the positive or negative net position in the securities in that group;

(d)       institutions shall apply the foreign exchange risk (fx) volatility adjustment to the net positive or negative position in each currency other than the settlement currency of the master netting agreement.

3.        Institutions shall calculate E* according to the following formula:

where:

Ei =     the exposure value for each separate exposure i under the agreement that would apply in the absence of the credit protection, where institutions calculate risk-weighted exposure amounts under the Standardised Approach or where they calculate the risk-weighted exposure amounts and expected loss amounts under the IRB Approach;

Ci =    the value of securities in each group or commodities of the same type borrowed, purchased or received or the cash borrowed or received in respect of each exposure I;

= the net position (positive or negative) in a given group of securities j;

=  the net position (positive or negative) in a given currency k other than the settlement currency of the agreement as calculated under point (b) of paragraph 2;

= the volatility adjustment appropriate to a particular group of securities j;

= the foreign exchange volatility adjustment for currency k.

4.        For the purpose of calculating risk-weighted exposure amounts and expected loss amounts for repurchase transactions or securities or commodities lending or borrowing transactions or other capital market-driven transactions covered by master netting agreements, institutions shall use E* as calculated under paragraph 3 as the exposure value of the exposure to the counterparty arising from the transactions subject to the master netting agreement for the purposes of Article 108 under the Standardised Approach or Chapter 3 under the IRB Approach.

5.        For the purposes of paragraphs 2 and 3, 'group of securities’ means securities which are issued by the same entity, have the same issue date, the same maturity, are subject to the same terms and conditions, and are subject to the same liquidation periods as indicated in Articles 219 and 220, as applicable.

Article 216Using the Internal Models Approach for Master netting agreements

1.        Subject to permission of competent authorities, institutions may, as an alternative to using the Supervisory Volatility Adjustments Approach or the Own Estimates Approach in calculating the fully adjusted exposure value (E*) resulting from the application of an eligible master netting agreement covering repurchase transactions, securities or commodities lending or borrowing transactions, or other capital market driven transactions other than derivative transactions, use an internal models approach which takes into account correlation effects between security positions subject to the master netting agreement as well as the liquidity of the instruments concerned.

2.        Subject to the permission of the competent authorities, institutions may also use their internal models for margin lending transactions, where the transactions are covered under a bilateral master netting agreement that meets the requirements set out in Chapter 6, Section 7.

3.        An institution may choose to use an internal models approach independently of the choice it has made between the Standardised Approach and the IRB Approach for the calculation of risk-weighted exposure amounts. However, where an institution seeks to use an internal models approach, it shall do so for all counterparties and securities, excluding immaterial portfolios where it may use the Supervisory Volatility Adjustments Approach or the Own Estimates Approach as laid down in Article 215.

Institutions that have received permission for an internal risk-management model under Title IV, Chapter 5 may use the internal models approach. Where an institution has not received such permission, it may still apply for permission to the competent authorities to use an internal models approach for the purposes of this Article.

4.        Competent authorities shall permit an institution to use an internal models approach only where they are satisfied that the institution's system for managing the risks arising from the transactions covered by the master netting agreement is conceptually sound and implemented with integrity and where the following qualitative standards are met:

(a)       the internal risk-measurement model used for calculating the potential price volatility for the transactions is closely integrated into the daily risk-management process of the institution and serves as the basis for reporting risk exposures to the senior management of the institution;

(b)       the institution has a risk control unit that meets all the following requirements:

(i)        it is independent from business trading units and reports directly to senior management;

(ii)       it is responsible for designing and implementing the institution's risk-management system;

(iii)      it produces and analyses daily reports on the output of the risk-measurement model and on the appropriate measures to be taken in terms of position limits;

(c)       the daily reports produced by the risk-control unit are reviewed by a level of management with sufficient authority to enforce reductions of positions taken and of overall risk exposure;

(d)       the institution has sufficient staff skilled in the use of sophisticated models in the risk control unit;

(e)       the institution has established procedures for monitoring and ensuring compliance with a documented set of internal policies and controls concerning the overall operation of the risk-measurement system;

(f)        the institution's models have a proven track record of reasonable accuracy in measuring risks demonstrated through the back-testing of its output using at least one year of data;

(g)       the institution frequently conducts a rigorous programme of stress testing and the results of these tests are reviewed by senior management and reflected in the policies and limits it sets;

(h)       the institution conducts, as part of its regular internal auditing process, an independent review of its risk-measurement system. This review shall include both the activities of the business trading units and of the independent risk-control unit;

(i)        at least once a year, the institution conducts a review of its risk-management system;

(j)        the internal model meets the requirements set out in Article 286(8) and (9) and in Article 288.

5.        The internal risk-measurement model shall capture a sufficient number of risk factors in order to capture all material price risks.

An institutions may use empirical correlations within risk categories and across risk categories where its system for measuring correlations is sound and implemented with integrity.

6.        Institutions using the internal models approach shall calculate E* according to the following formula:

where:

Ei =     the exposure value for each separate exposure i under the agreement that would apply in the absence of the credit protection, where institutions calculate the risk-weighted exposure amounts under the Standardised Approach or where they calculate risk-weighted exposure amounts and expected loss amounts under the IRB Approach;

Ci =    the value of the securities borrowed, purchased or received or the cash borrowed or received in respect of each such exposure i.

When calculating risk-weighted exposure amounts using internal models, institutions shall use the previous business day's model output.

7.        The calculation of the potential change in value referred to in paragraph 6 shall be subject to all the following standards:

(a)       it shall be carried out at least daily;

(b)       it shall be based on a 99th percentile, one-tailed confidence interval;

(c)       it shall be based on a 5-day equivalent liquidation period, except in the case of transactions other than securities repurchase transactions or securities lending or borrowing transactions where a 10-day equivalent liquidation period shall be used;

(d)       it shall be based on an effective historical observation period of at least one year except where a shorter observation period is justified by a significant upsurge in price volatility;

(e)       the data set used in the calculation shall be updated every three months.

Where an institution has a repurchase transaction, a securities or commodities lending or borrowing transaction and margin lending or similar transaction or netting set which meets the criteria set out in Article 279(2) and (3), the minimum holding period shall be brought in line with the margin period of risk that would apply under those points, in combination with Article 279(4).

8.        For the purpose of calculating risk-weighted exposure amounts and expected loss amounts for repurchase transactions or securities or commodities lending or borrowing transactions or other capital market-driven transactions covered by master netting agreements, institutions shall use E* as calculated under paragraph 6 as the exposure value of the exposure to the counterparty arising from the transactions subject to the master netting agreement for the purposes of Article 108 under the Standardised Approach or Chapter 3 under the IRB Approach.

9.        EBA shall develop draft regulatory technical standards to specify the following:

(a)       definitions for immaterial portfolios for the purpose of paragraph 3;

(aa)     assessment methodology under which competent authorities permit institutions to use the IRB;

(b)       the criteria for determining whether an internal model is sound and implemented for the purpose of paragraphs 4 and 5 and master netting agreements.

EBA shall submit those draft regulatory technical standards to the Commission by 31 December 2015.

Power is delegated to the Commission to adopt the regulatory technical standards referred to in the first subparagraph in accordance with the procedure laid down in Articles 10 to 14 of Regulation (EU) No 1093/2010.

Article 217Financial Collateral Simple Method

1.        Institutions may use the Financial Collateral Simple Method only where they calculate risk-weighted exposure amounts under the Standardised Approach. Institution shall not use both the Financial Collateral Simple Method and the Financial Collateral Comprehensive Method, except for the purposes of Articles 143(1) and 145(1). Institutions shall not use this exception selectively with the purpose of achieving reduced own funds requirements or with the purpose of conducting regulatory arbitrage.

2.        Under the Financial Collateral Simple Method institutions shall assign to eligible financial collateral a value equal to its market value as determined in accordance with point (d) of Article 202(4).

3.        Institutions shall assign to those portions of exposure values that are collateralised by the market value of eligible collateral the risk weight that they would assign under Chapter 2 where the lending institution had a direct exposure to the collateral instrument. For this purpose, the exposure value of an off-balance sheet item listed in Annex I shall be equal to 100 % of the item's value rather than the exposure value indicated in Article 106(1).

The risk weight of the collateralised portion shall be at least 20 % except as specified in paragraphs 4 to 6. Institutions shall apply to the remainder of the exposure value the risk weight that they would assign to an unsecured exposure to the counterparty under Chapter 2.

4.        Institutions shall assign a risk weight of 0 % to the collateralised portion of the exposure arising from repurchase transaction and securities lending or borrowing transactions which fulfil the criteria in Article 222. Where the counterparty to the transaction is not a core market participant, institutions shall assign a risk weight of 10 %.

5.        Institutions shall assign a risk weight of 0 %, to the extent of the collateralisation, to the exposure values determined under Chapter 6 for the derivative instruments listed in Annex II and subject to daily marking-to-market, collateralised by cash or cash-assimilated instruments where there is no currency mismatch.

Institutions shall assign a risk weight of 10 %, to the extent of the collateralisation, to the exposure values of such transactions collateralised by debt securities issued by central governments or central banks which are assigned a 0 % risk weight under Chapter 2.

6.        For transactions other than those referred to in paragraphs 4 and 5, institutions may assign a 0 % risk weight where the exposure and the collateral are denominated in the same currency, and either of the following conditions is met:

(a)       the collateral is cash on deposit or a cash assimilated instrument;

(b)       the collateral is in the form of debt securities issued by central governments or central banks eligible for a 0 % risk weight under Article 109, and its market value has been discounted by 20 %.

7.        For the purpose of paragraphs 5 and 6 debt securities issued by central governments or central banks shall include:

(a)       debt securities issued by regional governments or local authorities exposures to which are treated as exposures to the central government in whose jurisdiction they are established under Article 110;

(b)       debt securities issued by multilateral development banks to which a 0 % risk weight is assigned under or by virtue of Article 112(2);

(c)       debt securities issued by international organisations which are assigned a 0 % risk weight under Article 113.

Article 218Financial Collateral Comprehensive Method

1.        In order to take account of price volatility, institutions shall apply volatility adjustments to the market value of collateral, as set out in Articles 219 to 222, when valuing financial collateral for the purposes of the Financial Collateral Comprehensive Method.

Where collateral is denominated in a currency that differs from the currency in which the underlying exposure is denominated, institutions shall add an adjustment reflecting currency volatility to the volatility adjustment appropriate to the collateral as set out in Articles 219 to 222.

In the case of OTC derivatives transactions covered by netting agreements recognised by the competent authorities under Chapter 6, institutions shall apply a volatility adjustment reflecting currency volatility when there is a mismatch between the collateral currency and the settlement currency. Even where multiple currencies are involved in the transactions covered by the netting agreement, institutions shall apply a single volatility adjustment.

2.        Institutions shall calculate the volatility-adjusted value of the collateral (CVA) they need to take into account as follows:

where:

C =     the value of the collateral;

HC =   the volatility adjustment appropriate to the collateral, as calculated under Articles 219 and 222;

Hfx =   the volatility adjustment appropriate to currency mismatch, as calculated under Articles 219 and 222.

Institutions shall use the formula in this paragraph when calculating the volatility-adjusted value of the collateral for all transactions except for those transactions subject to recognised master netting agreements to which the provisions set out in Articles 215 and 216 apply.

3.        Institutions shall calculate the volatility-adjusted value of the exposure (EVA) they need to take into account as follows:

where:

E =     the exposure value as would be determined under Chapter 2 or Chapter 3 as appropriate where the exposure was not collateralised;

HE =    the volatility adjustment appropriate to the exposure, as calculated under Articles 219 and 222.

In the case of OTC derivative transactions institutions shall calculate EVA as follows:

.

4.        For the purpose of calculating E in paragraph 3, the following shall apply:

(a)       for institutions calculating risk-weighted exposure amounts under the Standardised Approach, the exposure value of an off-balance sheet item listed in Annex I shall be 100 % of that item's value rather than the exposure value indicated in Article 106(1);

(b)       for institutions calculating risk-weighted exposure amounts under the IRB Approach, they shall calculate the exposure value of the items listed in Article 162(8) to (10) by using a conversion factor of 100 % rather than the conversion factors or percentages indicated in those paragraphs.

5.        Institutions shall calculate the fully adjusted value of the exposure, taking into account both volatility and the risk-mitigating effects of collateral as follows:

where:

CVAM = CVA further adjusted for any maturity mismatch in accordance with the provisions of Section 5;

E* =     is the fully adjusted exposure value.

6.        Institutions may calculate volatility adjustments either by using the Supervisory Volatility Adjustments Approach referred to in Article 219 or the Own Estimates Approach referred to in Article 220.

An institution may choose to use the Supervisory Volatility Adjustments Approach or the Own Estimates Approach independently of the choice it has made between the Standardised Approach and the IRB Approach for the calculation of risk-weighted exposure amounts.

However, where an institution uses the Own Estimates Approach, it shall do so for the full range of instrument types, excluding immaterial portfolios where it may use the Supervisory Volatility Adjustments Approach.

7.        Where the collateral consists of a number of eligible items, institutions shall calculate the volatility adjustment as follows:

where:

ai =     the proportion of the value of an eligible item i in the total value of collateral;

Hi =    the volatility adjustment applicable to eligible item i.

Article 219Supervisory volatility adjustment under the Financial Collateral Comprehensive Method

1.        The volatility adjustments to be applied by institutions under the Supervisory Volatility Adjustments Approach, assuming daily revaluation, shall be those set out in Tables 1 to 4 of this paragraph.

VOLATILITY ADJUSTMENTS

Table 1

Credit quality step with which the credit assessment of the debt security is associated

Residual Maturity

Volatility adjustments for debt securities issued by entities described in Part 1, point 7(b)

Volatility adjustments for debt securities issued by entities described in Part 1, point 7(c) and (d)

Volatility adjustments for securitisation positions and meeting the criteria in Part 1 point 7 (h)

 

 

20-day liquidation period ( %)

10-day liquidation period ( %)

5-day liquidation period ( %)

20-day liquidation period ( %)

10-day liquidation period ( %)

5-day liquidation period ( %)

20-day liquidation period ( %)

10-day liquidation period ( %)

5-day liquidation period ( %)

1

≤ 1 year

0.707

0.5

0.354

1.414

1

0.707

2.829

2

1.414

 

>1 ≤ 5 years

2.828

2

1.414

5.657

4

2.828

11.314

8

5.657

 

> 5 years

5.657

4

2.828

11.314

8

5.657

22.628

16

11.313

2-3

≤ 1 year

1.414

1

0.707

2.828

2

1.414

5.657

4

2.828

 

>1 ≤ 5 years

4.243

3

2.121

8.485

6

4.243

16.971

12

8.485

 

> 5 years

8.485

6

4.243

16.971

12

8.485

33.942

24

16.970

4

≤ 1 year

21.213

15

10.607

N/A

N/A

N/A

N/A

N/A

N/A

 

>1 ≤ 5 years

21.213

15

10.607

N/A

N/A

N/A

N/A

N/A

N/A

 

> 5 years

21.213

15

10.607

N/A

N/A

N/A

N/A

N/A

N/A

Table 2

Credit quality step with which the credit assessment of a short term debt security is associated

Volatility adjustments for debt securities issued by entities described in Part 1, point 7(b) with short-term credit assessments

Volatility adjustments for debt securities issued by entities described in Part 1, point 7(c) and (d) with short-term credit assessments

 

20-day liquidation period ( %)

10-day liquidation period ( %)

5-day liquidation period ( %)

20-day liquidation period ( %)

10-day liquidation period ( %)

5-day liquidation period ( %)

1

0.707

0.5

0.354

1.414

1

0.707

2-3

1.414

1

0.707

2.828

2

1.414

Table 3

Other collateral or exposure types

 

20-day liquidation period ( %)

10-day liquidation period ( %)

5-day liquidation period ( %)

Main Index Equities, Main Index Convertible Bonds

21.213

15

10.607

Other Equities or Convertible Bonds listed on a recognised exchange

35.355

25

17.678

Cash

0

0

0

Gold

21.213

15

10.607